The Promise and the Peril of Privacy Cryptocurrencies

Cryptocurrencies offer security. They offer protection against hackers, fraud and forgery. They offer the guarantee of immutability (of your recorded transaction).

What bitcoin and most cryptocurrencies don’t offer?

Anonymity.

Bitcoin Can Be Tracked

Unlike traditional bank-shepherded transactions and unlike payment services like PayPal, you don’t have to provide any details about your identity when you use bitcoin.

But bitcoin has a fatal flaw.

It always goes to an (online) address. If that address can be traced back to you – say, if your laptop (where you’ve stored these addresses) has been seized by the government – then it can be traced back to you.

Addresses are not hidden or invisible on the publicly shared ledgers of bitcoin, Ethereum or other cryptocurrencies. Hiding those transactions requires taking extra steps.

Sorry, but you’re not really getting privacy, confidentiality or anonymity.

If you truly believe that it’s nobody’s business but your own what you do with your money, then you’re not getting what you want from cryptocurrencies.

Nor are banks. They require commercial confidentiality for their institutional clients. Bitcoin doesn’t cut it.

That’s a pretty big flaw baked into the protocols of most cryptocurrencies.

It’s also one that several cryptocurrency protocols are now addressing with some success. They can offer users the “entire package” of benefits associated with digital currencies plus anonymity.

That makes them interesting opportunities for investment, with a lot of pluses and one big drawback (more on this in a minute).

So far, three stand out in terms of technology and execution to date…

Zcash

Zcash launched its privacy coin last October with the claim that “it leaves no fingerprints behind,” making it a true digital equivalent of cash.

It seems that the technology is as good as advertised.

Otherwise, it wouldn’t have been able to sign up Jamie Dimon’s JPMorgan as its first enterprise customer.

(To see why this is just a little bit ironic, check out our previous post here.)

JPMorgan is adding Zcash’s zero-knowledge security layer (ZSL) to Quorum, an enterprise blockchain platform JPMorgan built on Ethereum.

Jack Gavigan, Zcash’s chief operating officer, says, “Until now, blockchain technology’s lack of privacy and confidentiality has been a major obstacle to adoption. By combining ZSL with Quorum’s private smart contracts, that obstacle is removed for many use cases, ranging from simple equity trades to complex derivatives.”

Zcash has serious credentials…

Its team has deep experience in distributed systems and applied cryptography. Its protocol was peer-reviewed and published at a top computer security conference. Its project has garnered great organic interest from enthusiasts.

And, to top it off, it grabbed JPMorgan as its first enterprise partner.

As I write, its price is $247.

Monero

Created in 2014, Monero offers fully anonymous and virtually untraceable transactions.

It generates multiple encrypted addresses for receiving Monero. The recipient retrieves the funds, and no one can link that stealth address to the owner.

It also uses a technique called “ring signatures.” Every Monero spent is grouped with as many as 100 other transactions, so that the spender’s address is mixed in with a group of strangers’ addresses.

And it uses something called “ring confidential transactions,” which hides the amount of every transaction.

Given these properties, perhaps it’s not surprising that Monero is a favorite of the dark web black market and was used extensively on the darknet market site AlphaBay before the government shut it down in July.

But you won’t catch Monero apologizing.

Riccardo Spagni, one of Monero’s core developers, says, “That uptick among people who really need to be private is interesting. If it’s good enough for a drug dealer, it’s good enough for everyone else.”

Spagni argues that the uses of Monero are outside his fellow developers’ control. “I’m in no position to judge what people should or shouldn’t do, and no one else should be either from a code perspective,” he says.

As I write, its price is $89.

Dash

Dash began in 2014 as a privacy-focused cryptocurrency known as Darkcoin. It features speed (InstantSend) and privacy (PrivateSend). It’s been called “the blockchain for the masses” because of its focus on consumer friendliness.

CEO Ryan Taylor says Dash is built around technology and voting incentives that encourage good governance. It lets masternode owners vote on budget proposals.

For example, back in 2016, it took just 24 hours for the Dash community to approve a proposed blocksize increase. The bitcoin community, on the other hand, took three years to address its scalability problems. The end result was a hard fork.

Taylor plans to integrate Dash’s blockchain technology with a major healthcare provider, several large retailers and more cryptocurrency exchanges.

As I write, its price is $297.

A Giant Fly in the Ointment

Transactions that are non-traceable and completely anonymous? Them’s fightin’ words to the U.S. government.

Can these technologies be allowed to exist unencumbered?

With no backdoor access to confidential information?

History says no.

Back in 2013, the National Security Agency obtained direct access to the systems of Google, Facebook, Apple and other U.S. internet giants, according to several well-regarded sources. (Here’s just one.)

The government also feels it has the right to request user data from technology and social media companies. Here’s a snapshot from 2015…

 

And, yes, these privacy-focused cryptocurrencies can be used for illicit purposes, making them easy targets for the government.

Squaring the Circle?

It’s hard to imagine that the government will NOT move against them at some point.

The billion-dollar question is this: Is there room for a compromise?

The beauty of these privacy technologies is that they’re all in.

How do you tell a big bank its privacy is fully guaranteed and then turn around and make a deal with the government on backdoor access?

You don’t.

And if the U.S. government moves against them, how much longer would it take for the EU to follow? Then China, Russia, Korea and others?

Perhaps I’m missing something here? Is there a way to square the circle?

I’d like to know your opinion: Is there hope for these privacy cryptocurrencies? Or are they dead men walking?

Give me a shout and tell me what you think.

Good investing,

Andy Gordon
Co-Founder, Early Investing