Should You Invest in Bitcoin?

Is this digital currency the wave of the future, or a craze to avoid?

In this April 3, 2013 photo, Mike Caldwell, a 35-year-old software engineer, looks over bitcoin tokens at his shop in Sandy, Utah. Caldwell mints physical versions of bitcoins, cranking out homemade tokens with codes protected by tamper-proof holographic seals, a retro-futuristic kind of prepaid cash.

In this April 3, 2013 photo, Mike Caldwell, a 35-year-old software engineer, looks over bitcoin tokens at his shop in Sandy, Utah. Caldwell mints physical versions of bitcoins, cranking out homemade tokens with codes protected by tamper-proof holographic seals.

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If you get wistful imagining the American penny discontinued, a topic that makes the rounds every once in a while, imagine the thought of getting rid of the penny, nickel, quarter, dollar and the rest of American currency—and using bitcoins instead.

Bitcoins have been around for a few years, but there has been buzz in the mainstream media lately due to the digital currency recently both shooting up and plummeting in value.

It can be hard to comprehend at first, in part because Bitcoin, in upper case, refers to the software code that makes the digital currency and the network that distributes it, and bitcoins, in lowercase, refer to the currency itself. Then there's simply grasping the concept: Although bitcoins have a logo that looks like a coin, you will never actually hold one in your hand. Still, with debit and credit cards and online and mobile banking, a consumer these days could theoretically go weeks, months or perhaps years, if they never tip, without touching actual money.

Some people think bitcoins are the wave of the future, a digital form of money that could someday be a universal form of money that replaces the dollar, euro, yen, rupee and onward along the international currency chain. "If even modestly successful, Bitcoin could wind up being the tipping point of a sea change regarding how we are paid and how we pay for things," says Thomas Way, a computing sciences professor at Villanova University in Villanova, Pa.

Others think its future will fall more along the lines of the recent housing bubble, or even the Beanie Babies craze of the 1990s, when some people bought hundreds and thousands of the stuffed toys, planning to sell them one day to fund their retirement or kids' college education.

"People shouldn't invest in Bitcoin. And I think writing about Bitcoin will cause people to lose more money than if the media simply ignore it," says Peter Cohan, who teaches business strategy at Babson College in Wellesley, Mass., and has a background in management consulting and venture capital.

[Read: 2 Simple Steps to Make Your Retirement Savings Leap.]

Bitcoin was created in 2009 as a software code project, with the goal to verify and safeguard financial transactions without the assistance of a centralized bank or government treasury. These digital dollars are "mined," as the lingo goes, involving a complex computer system that creates and verifies bitcoins, which are essentially strings of numbers. Due to the authenticated history attached to this virtual money, counterfeiting is virtually impossible.

Once you have a bitcoin, or some BTC, as more lingo goes, you can give it to someone else—a friend, family member, an online storekeeper—over the Internet. You can also exchange the bitcoin into a dollar, euro, yen, rupee and so on.

Moreover, Bitcoin is modeled after some of the ideas behind gold. For instance, the computer systems that "mine" for bitcoins create new coins every 10 minutes and will continue until the total amount reaches a limit of 21 million bitcoins in the year 2140, a number and year that was chosen by an algorithm. Just as there is a finite, if unknown, amount of gold on the planet, there is, or will be, a finite amount of bitcoins, which makes them valuable.

The fact that a computer algorithm dictated the concept of bitcoins, versus the idea of human beings deciding monetary policy, drives their popularity among many enthusiasts. "The idea behind Bitcoin, the most popular instance of cryptocurrency to date, is generally a good one primarily because of its decentralized nature," Way says. "Democratizing some, and perhaps one day all, of the global financial system by using this decentralized digital-currency approach should have a similar effect on the financial market to what the Internet in general has had on information, communication and entertainment."

Way thinks "cautious adoption is likely," and he is likely to get little argument there. There are probably too many skeptics out there for the general public to embrace bitcoins any time soon. Ian Comisky, a partner at Blank Rome, a multidisciplinary law firm with offices throughout the world, is one of those. He believes consumers could face inadvertent tax fraud by investing in it, mostly because some taxpayers might not realize that you have to report any investments in bitcoins as capital gains.