The cryptocurrency market gained a lot of momentum last year thanks to the rapidly rising value of bitcoin, Ethereum, and other cryptocurrencies. Last year's massive gains have boosted investors' appetite for digital currencies, but cryptocurrency investments (or rather, speculation) might not be for everyone given the massive volatility and the inherent risks.
But there are safer and less volatile ways to take advantage of this rapid growth: through graphics processing unit (GPU) manufacturers Advanced Micro Devices (NASDAQ:AMD) and NVIDIA (NASDAQ: NVDA).
Miners need GPUs
Digital currencies such as bitcoin are based on blockchain technology, which is a decentralized ledger recording financial transactions without the need for financial intermediaries like banks. So, if you buy or sell any of the several cryptocurrencies available on the market, they will be recorded in a blockchain.
This makes cryptocurrencies immune to cyberattacks as there is no centralized database, while the absence of an intermediary should lead to faster settlements and lower transaction fees. But the verification of these blockchain transactions is done by cryptocurrency miners, who have very powerful computers capable of verifying and logging the digital currency transactions.
This is where GPUs come into play, as they provide the required computing power to mine the cryptocurrencies. Not surprisingly, both NVIDIA and AMD have seen a surge in GPU sales because of cryptocurrency mining.
In the second and third quarters of the current fiscal year, cryptocurrency mining contributed $220 million to NVIDIA's total revenue, amounting to 4.5% of the top line. By comparison, AMD is said to generate 10% of its total revenue from cryptocurrency mining, according to some estimates. But investors shouldn't forget that these are still the early days, and the rise of additional cryptocurrencies could give a boost to cryptocurrency mining.
Looking past the bearish argument
However, bears could argue that the use of GPUs for this application could decline along with a drop in the payoff from cryptocurrency mining, as well as with a potential change in mining technology that could eliminate the need for graphics cards. This bearish theory has gained ground ever since NVIDIA and AMD saw a cooldown in cryptocurrency-related GPU sales earlier as 2017 progressed.
In fact, NVIDIA's cryptocurrency-related revenue fell by half from the second quarter to the third quarter. Meanwhile, AMD CEO Lisa Su forecast "some leveling off" in cryptocurrency demand back in October 2017. And we'll have to see how the latest crash in cryptocurrency values plays out.
But it is the shift in mining technology that posts a more serious, long-term challenge for GPUs in cryptocurrency mining. Ethereum, the second-most-valuable cryptocurrency in terms of market capitalization at the time of this writing, is reportedly going to change its mining model within the next year or so.
Ethereum's new model is aimed at reducing the amount of electricity and computing power required for mining, allowing users with less powerful computers to mine the currency, as it eliminates the need for GPUs.
Under the new system, miners wouldn't need to invest in equipment like GPUs, but they would have to commit money to the Ethereum platform and follow certain rules to earn payouts. The mining would happen virtually, possibly in the cloud with application-specific integrated circuits (ASICs) instead of GPUs.
But AMD and NVIDIA investors shouldn't miss the fact that Ethereum's mining switch was pushed back in 2017 for at least a year or two. Critics of the system believe that the Ethereum network won't be able to implement this experimental mining model completely, and instead will move to a hybrid model where mining takes place on two different algorithms.
Additionally, Ethereum isn't the only cryptocurrency on the market. So, it is too early to be spooked by the prospect of just one of the many minable digital currencies in the space moving to a different mining technology.
AMD and NVIDIA are hedging their bets given the massive volatility. AMD, for example, doesn't count cryptocurrency mining as a long-term growth driver, though this was one of the biggest factors behind its impressive quarterly performances last year. NVIDIA has a different approach, admitting that cryptocurrency mining will be a contributor to its business, and saying it will address this market based on how it pans out.
Investors hoping to ride cryptocurrency from a distance will be watching how things turn out for these two companies.
Harsh Chauhan has no position in any cryptocurrencies or stocks mentioned. The Motley Fool has no position in any cryptocurrencies mentioned. The Motley Fool owns shares of and recommends Nvidia. The Motley Fool has a disclosure policy.