"Free money" for bitcoin holders, but what are the dangers?

There is likely to be a new type of bitcoin Tuesday (1 August) called Bitcoin Cash. This will happen as a result of the ideological split in the bitcoin world between those who see the digital currency as exactly that - a means of exchange - and those who see it more as just a store of value or digital gold.

Without getting too technical, those who disagree with the so-called SegWit2x (bitcoin improvement proposal 91 - BIP91) method of solving bitcoin's problem of handling lots of transactions quickly (scaling) and which has now been locked in to the protocol, think that it is at best a half measure and does not increase transaction capacity sufficiently.

Although the SegWit2x proposal does envisage doubling the size (that's the 2x bit) of the transaction blocks, its critics argue that this part of the proposal is far from automatic and would still be too small.

Suffice to say, the developers behind Bitcoin Cash think that the scaling problem has been kicked down the road and will come back to bite the cryptocurrency, especially if it makes progress in fulfilling its original use-case as currency with mass adoption - hence their proposed hard fork in the bitcoin source code.

This means that there will be a new blockchain, which includes all the old transactions on the original blockchain but forks off into a new chain specifically for Bitcoin Cash.

Whether or not Bitcoin Cash catches on depends on the miners - the owners of the computing power that is used to verify transactions. Will they process the blocks or reject them? Also, it is not certain that the so-called user activated hard fork (UAHF) will happen, but it is very likely.

The imminent hard fork poses a number of pressing issues for holders of bitcoin. What will happen to the price of bitcoin? Will Bitcoin Cash turnout to be valuable or near-worthless? How does an investor get hold of Bitcoin Cash? Should bitcoin investors take their bitcoin off exchanges until the situation is clearer?

The most important thing bitcoin holders need to be aware of is that if you directly hold the private key of your bitcoin then you will automatically be credited with a similar amount of Bitcoin Cash. That's right, you get "free money".

However, if you hold your bitcoin on an exchange such as the popular Coinbase, where the complexity of holding and trading bitcoin has been stripped away, your account (at the time of writing) will not be credited with Bitcoin Cash because you do not have access to the private key. Much to the annoyance of Coinbase clients, the exchange has instituted a "temporary waiting period" for those wanting to move their coin.

The price of bitcoin is currently around $2,700 on the Coindesk bitcoin price index. The price has firmed since the US Securities and Exchange Commission ruled that so-called initial coin offerings being used to raise funds by blockchain projects, could in many cases be considered securities. This has been interpreted by market participants as a good thing for the ecosystem.

The prospect of being credited with Bitcoin Cash - which could be seen as a sort of dividend for holding bitcoin - is also thought to have helped the bitcoin price. This is perhaps confirmed by that fact that the usual lockstep in price movement between bitcoin and Ethereum has to some extent broken down, as the ether (ETH) token has not risen in the same way as bitcoin.

Traders are split on what could happen with Bitcoin Cash. There are two main schools of thought.

There are those who think that it will be a non-event because bitcoin is already well-established and merchants and miners will be reluctant to support Bitcoin Cash. This implies that there will not be a negative impact on the price of bitcoin.

Others beg to differ. Even if Bitcoin Cash does not take-off immediately it still has the potential to considerably muddy the waters for consumers new to the cryptocurrency.

And where there is confusion there is opportunity for bad actors. For example, it could be relatively easy for a fraudster to set up an exchange selling bitcoin (BTC) but the buyer in fact receives Bitcoin Cash (BCC) instead, with the fraudster pocketing the difference.

Most commentators are agreed that if you want to be in at the beginning with Bitcoin Cash, you will need to make sure the exchange you use will be accepting it - Kraken, for example, has stated that it will be crediting the accounts of bitcoin holders on its exchange. Others advise that all funds be removed from whichever exchange currently being used and transferred to a private wallet, ideally not connected to the internet.

Vinny Lingham, who has a strong record on predicting bitcoin price movements, sees a "turbulent few months" ahead and advises participants to stay out of the way of the traffic by removing all bitcoin funds from exchanges. Besides, as a general rule, bitcoin holdings should not be kept on exchanges, except for the amounts being actively traded.

According to Marc Van der Chijs, a Dutch venture capitalist, there is uncertainty "people may move from BTC and BCC to ETH or other coins, so I don't think this is good for the price of bitcoin". Alternatively, it is likely that Bitcoin Cash will be worth something but who knows how much, so there is no easy answer.

As always it depends on the risk tolerance of each individual, their view on where bitcoin and other digital coins/tokens are going and an individual's level of technical understanding. That last point matters: if a client of an exchange makes a mistake when moving their bitcoin, they could end up suffering an unrecoverable loss.

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.