When Bitcoin Exchanges Get Hacked, Don't Blame Bitcoin

Bitcoin exchanges get hacked.

It's an issue that's dogged Bitcoin almost since it started trading in 2010. And it's the source of one of the Bitcoin's most pervasive myths.

When a Bitcoin exchange is hacked, many in the mainstream financial media assume the hack resulted from a flaw in the cryptocurrency itself. So that's the story that gets out. And the Bitcoin price falls. Last August's Bitfinex hack shaved 23% off the Bitcoin price in one day.

Yet the Bitcoin protocol has never been hacked.

The hackers aren't attacking Bitcoin itself, but exploiting weaknesses in the security of the Bitcoin exchanges. Unfortunately, this happens with alarming frequency...

Bitcoin Exchanges Are Too Vulnerable

Bitcoin exchangesAccording to a report commissioned last year by the U.S. Department of Homeland Security, one-third of all Bitcoin exchanges were hacked between 2010 and 2015.

The latest incident occurred earlier this month when the South Korean Bitcoin exchange Bithumb was hacked. Data belonging to 30,000 customers was compromised. As much as $1 million worth of bitcoin was stolen. The price of Bitcoin suffered a two-day drop of about 3.5%.

Bithumb said an employee's PC was hacked, which gave the attackers access to customer data.

Last August, hackers took 120,000 bitcoins from the Hong Kong-based Bitfinex exchange, worth $65 million at the time. The weak link in that case was a "hot wallet" feature the company had implemented with another Bitcoin company, BitGo.

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The frequency of Bitcoin exchange attacks is concerning, but should not be misinterpreted as a reason to dismiss Bitcoin.

That would be like giving up on the U.S. dollar because a bank was robbed. If criminals successfully rob a bank, the problem is with the bank's security, not with the money stored in the building.

In fact, the Bitcoin code uses one of the most powerful security protocols in the world...

Why Bitcoin Itself Has Never Been Hacked

The Bitcoin code that drives the network uses a security protocol known as SHA-256. The letters stand for "secure hash algorithm." It's literally the reason Bitcoin is called a "cryptocurrency."

Bitcoin priceNot surprisingly, SHA-256 was designed by the National Security Agency (NSA). It's widely used by businesses and the U.S. government.

SHA-256 is sufficiently complex that cryptography experts consider it unbreakable by current technology.

"Bitcoin itself, and most of the other cryptocurrencies, have never been hacked or even really had any downtime," Chris Wilmer, founder of the blockchain-focused academic journal Ledger, told The Outline.

Because of SHA-256, and the fact that each Bitcoin transaction is broadcast to the network for confirmation, Bitcoin is one of the most secure forms of money ever created.

Think about it. Physical forms of money, such as cash, can be stolen and are difficult to trace. A stolen checkbook exposes your bank account and creates hassles that take months to resolve.

Credit and debit cards are not much better. In recent years, these older forms of "digital money" have become relatively easy prey for hackers.

Credit card breaches at retailers are almost routine now. There was Target Corp. (NYSE: TGT) in 2013 and Home Depot (NYSE: HD) in 2014. There was Neiman Marcus and Wendy's Co. (Nasdaq: WEN) in 2016. And this year Chipotle Mexican Grill Inc. (NYSE: CMG), Arby's Restaurant Group, and Kmart Corp. were hit.

Related: How to Buy Bitcoins - Your Guide to Digital Profits

The key to keeping Bitcoin safe is to avoid storing the cryptocurrency at the Bitcoin exchanges.

Here's how you can do that...

How to Protect Your Bitcoin from Hackers

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Bitcoin owners have several ways to store their digital currency that don't involve Bitcoin exchanges.

price of Bitcoin

  • Desktop wallets: The most secure Bitcoin wallet for a desktop PC is a "full node." That's a copy of the core Bitcoin software that downloads and verifies the entire Bitcoin blockchain. The drawback is that maintaining a node is resource-intensive. Verifying the transactions on the network taxes your CPU (the PC's "brain") and the blockchain file is enormous - currently 124 gigabytes and growing larger every day. But several alternatives, such as Armory and Electrum, offer good security features without the drawback of running a full node.
  • Mobile wallets: These Bitcoin wallets exist as apps on your smartphone. While not as secure as desktop wallets, they're safer than storing bitcoins in an exchange account. Examples include breadwallet, Airbitz, Xapo, and Mycelium (each available for both Android and iOS).
  • Paper wallets: Although it seems counterintuitive, you can store bitcoins on paper in what's called "cold storage" - off the Internet. Using a website like bitaddress.org, blockchain.info, or Bitcoinpaperwallet.com, you can create a paper representation of your bitcoin (usually represented as a QR code). Once created, a Bitcoin paper wallet needs to be properly protected by laminating it or putting it in a plastic bag. It should be stored in a secure location, ideally a safe.
  • Hardware wallets: A hardware wallet is a smartcard or a tiny computer designed specifically to store Bitcoin offline. This is another type of cold storage. Unlike the other options here, which are free, you have to pay for hardware wallets. Examples include Trezor ($100-$200) and the Ledger Nano S ($65).

Obviously if you want to spend or trade your Bitcoin, you'll need to keep them in a more accessible (and more vulnerable) wallet. The rule of thumb is simply to keep only as much Bitcoin as you need in vulnerable wallets and to move your Bitcoin to safer storage as soon as is practical.

Finally, if you must keep some amount of Bitcoin "hot," try to spread it out amongst two or more wallets so a breach won't cost you as much.

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About the Author

David Zeiler, Associate Editor for Money Morning at Money Map Press, has been a journalist for more than 35 years, including 18 spent at The Baltimore Sun. He has worked as a writer, editor, and page designer at different times in his career. He's interviewed a number of well-known personalities - ranging from punk rock icon Joey Ramone to Apple Inc. co-founder Steve Wozniak.

Over the course of his journalistic career, Dave has covered many diverse subjects. Since arriving at Money Morning in 2011, he has focused primarily on technology. He's an expert on both Apple and cryptocurrencies. He started writing about Apple for The Sun in the mid-1990s, and had an Apple blog on The Sun's web site from 2007-2009. Dave's been writing about Bitcoin since 2011 - long before most people had even heard of it. He even mined it for a short time.

Dave has a BA in English and Mass Communications from Loyola University Maryland.

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