One of the more concerning crypto trends in 2018 is the increasing number of traders who use credit to finance their cryptocurrency purchases. Lured in by the prospect of eye-popping returns, many cryptocurrency investors have resorted to these tactics, with some even going to greater lengths to participate in the momentum. Stories of individuals selling their homes or even mortgaging residences to finance purchases of cryptocurrency are all too common to count.
Credit cards are generally viewed as a poor vehicle for financing investment decisions for a variety of reasons that range from eroding returns to raising the risk. This hasn’t deterred thousands of users from purchasing bitcoin and other cryptocurrencies at an alarming rate, however, leading to a stern response from banks and financial institutions.
Throughout the first half of the year, one of the dominating headlines across the crypto sector has been the decisions of several payment processors and major banks to ban their users from purchasing cryptos with their services. The moves have been received as controversial to say the least, with some claiming ulterior motives and others arguing that consumer safety is a driving factor. Regardless of where the truth lies, the decision is likely a net positive for traders.
Credit cards are useful for financing purchases and payments, but investments operate significantly differently, and can create unnecessary risks. The problems are also exacerbated when purchasing cryptos, due in large part to their notorious volatility and the changing regulatory stance. Moreover, considering the sector’s track record for investors, the increased barriers to purchase may be beneficial for cryptocurrency over the long run.
Bans From All Sides
The current trend of restricting credit card payments began early in 2018, with Visa and Mastercard reportedly banning purchases of cryptocurrency using their services. Although both companies clarified the extent of their prohibition (which amounted to reclassifying them as cash advances and appending higher fees), several large banks in the US followed suit soon thereafter. In February, Bank of America, JPMorgan, Capital One, Citigroup and Discover all banned their credit card holders from purchasing cryptos. In June, Wells Fargo finally caught up and joined the prohibition.
While the financial impact of their decisions is up for debate, the underlying theme repeated by the banks and payment processors was the same: customer safety. According to them, the sector is rife with openings for consumer abuse. Moreover, they prefer to be proactive instead of spending countless spends in reactive measures when customers cannot repay their debt or must resort to challenging charges from fraudulent exchanges. While some argue that the real reasons include a fear of the looming crypto revolution and other financial concerns, the result is the same—retail investors now have a significantly harder time purchasing cryptocurrencies with their credit cards.
Is it Good or Bad for Traders?
The ban is paradoxically both good and bad for investors. On the negative side, retailer traders must explore less efficient avenues for purchasing coins. Moreover, the restrictions seem arbitrary to many users, who point out that other risky activities like gambling face no bans. In their minds, the undue attention cryptos receive is unwarranted.
On the other hand, cryptocurrencies’ highly unstable nature means that investments financed with credit could go awry in seconds and do drastically more damage to consumers and inexperienced investors. A poll by LendEDU in late 2017 found that 18% of bitcoin buyers did so with a credit card, and one fifth of those buyers had yet to repay the balance. At the heart of the problem is the fact that a dip in bitcoin’s price (which can be quite severe) not only causes financial losses, but precludes customers from repaying the sometimes large investments they finance with credit.
Moreover, recent changes to how Visa and Mastercard classify and charge purchases of cryptocurrencies erode the profit potential of even successful investments. Both processors now charge crypto transactions as cash advances rather than purchases, which allows them to append significantly higher interest rates. Furthermore, cash back credit card holders thinking they will earn points from their purchases will by dismayed to find that this reclassification precludes from receiving rewards for spending on cryptocurrency.
Another considerable concern for financial services providers is the lack of regulation and consumer protections inherent in the crypto sphere. The sector has been resistant to regulation, and governments continue to scratch their heads trying to tackle the issue. As a result, exchanges have no obligation to provide any real consumer protections or meet security standards, which exposes them and consumers to significant dangers. For payment processors and banks, the costs associated with dealing with these problems was enough to warrant a harsh response.
Where Will the Standoff Lead?
For now, banks are likely to remain firmly entrenched in their position, given that granting any credibility to cryptocurrency may expose themselves to greater liabilities. Although Visa and Mastercard clarified their “bans” and Mastercard recently was awarded a patent for speeding up cryptocurrency payments, other financial institutions will continue to monitor the situation before lifting their blanket restrictions. For consumers, this means a slightly more elongated path towards purchasing and trading cryptocurrencies. Nonetheless, it also signifies a more appropriate approach to accomplishing the stated goal without resorting to the dangerous practice of financing investments with credit cards.