Cryptocurrency is a new technology which involves a certain investment risk for an investor, thus a detailed study of a particular cryptocurrency coupled with informed approach might counter the lure of market noise.
Unlike traditional currencies, which are validated through publicly distributed ledgers, but are subject to manipulation by central banks and governments, the blockchain is immutable and un-hackable. When someone sends ethereum, bitcoin, or any other cryptocurrency, the event is permanently recorded on the blockchain, and it stays there forever. In addition, the validation process, which relies on thousands of other users, makes cryptocurrencies more secure than any fiat currency.
What is Cryptocurrency?
Cryptocurrencies are digital tokens that are backed up by blockchain and can be spent for goods or services and traded.
Blockchains are simply distributed databases that track every transaction that occurs for a particular cryptocurrency – who has what, and who’s trading it with whom. This network of computers representing the blockchain constantly refers to each other to keep track of this information – to keep an eye out and verify the currency, if you like – as part of their regular activities.
It could be entirely based on speculation as to the demand and supply for a cryptocurrency, but also on hypothetical factors such as peoples’ expectations on what value a coin might acquire in the future, whether there’s a company that wants to use it, what is happening to it – socially, economically and politically – outside of the traditional financial market, and how it is (or isn’t) being legislated and regulated by governments. Prices can change very quickly in the crypto world.
Some think cryptocurrency is an overhyped bubble destined to pop. Others think cryptocurrency is the wave of the future. Either way, if you want to buy crypto assets, you should educate yourself before hand.
How do Cryptocurrencies Work?
A system called a blockchain is used to track cryptocurrency transactions in an open-source, decentralised network. Instead of governments and banks printing and safeguarding the money we use, like in other economies, cryptocurrency accounts and transactions are encrypted on a ledger distributed among many computers. That’s why Bitcoin and other cryptocurrencies are difficult to print fake versions of and easier to store and trade without fraud or theft.
A cryptocurrency’s ledger consists of cryptography, computer science and economic incentives: the cryptography guarantees that transaction data is kept private and audit-trailable, the computer science maintains transparency and immutability, and the economic incentives urge individual participants to act honestly as part of this cooperative endeavour.
Research the cryptocurrency’s popularity and performance over time and investigate the project leaders and founders (many reputable crypto projects provide details about their teams – just google them). Does the cryptocurrency seem to be a good store of value, or will massive price fluctuations erode purchasing power over time and make this digital coin worth less overall thanks to price volatility?
What are the Risks of Investing in Cryptocurrencies?
It’s important to realise that volatility is a key feature of cryptocurrencies; the market prices of cryptocurrencies reflect constant shifts in the supply and demand dynamic within markets. Market prices are essentially determined by how many buyers are interested in a cryptocurrency, what the investors think such assets are useful for, whether there are real assets or commodities behind a cryptocurrency or not, etc. Some cryptocurrencies have tried to tether their value to the dollar, other real assets, or other types of assets.
With cryptocurrencies not as thoroughly regulated as stocks and many transactions irreversible, there’s understandable unease about sinking funds into crypto assets. At some point, they could also fall prey to hacking attempts or other types of crises. Governments might evenly crack down on emerging ‘Wild West’ type markets or require companies to put aside a minimum percentage of their crypto reserves.
Investors should also consider carefully how they’ll store their investments if they buy or mine cryptocurrencies, as the technologies utilised by some platforms have proven vulnerable to hacking, and users have lost money through human mistakes and the loss of passwords. Furthermore, investors should only contribute the amount they’re willing to lose, as the value of cryptocurrencies can depreciate if government authorities or investors decide they don’t have the same properties as normal currencies.
How Can I Start Investing in Cryptocurrencies?
There are many exchanges and banks that deal with cryptocurrencies, but keep in mind that cryptocurrencies are a highly volatile investment that can have wild price moves in a single day.
Because cryptocurrency investments are so speculative, they should only constitute a fraction of your portfolio. And by investing in several different digital currencies, you can lower risks as a good hedge.
Second, like any good investment decision, since capital gains tax will apply to any profits made from selling cryptocurrency, you should speak to an accountant or a financial adviser before buying. They’ll be able to let you know whether it’s a suitable investment for your financial goals – and if so, how much to invest, perhaps preventing headaches of your own later.
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