It seems like cryptocurrencies, like Bitcoin and Dogecoin, are all over the news. But what exactly are these exciting investment opportunities—and exactly how do you invest in cryptocurrency?
How to Invest in Cryptocurrency
- Find a Broker
- Set up a Wallet
- Choose Your Crypto
- Store and Protect Your Crypto
What is Cryptocurrency?
Cryptocurrency is not money from beyond the grave (as the name would seem to imply), but rather a form of digital currency. It is not tied to a central bank, unlike, for example, the US dollar, which is issued by the Federal Reserve Bank. Instead, cryptocurrency transactions occur along something called a blockchain, which is a decentralized ledger of transactions. To keep a long story short, blockchain technology eliminates middlemen like banks and credit card processing companies, allowing buyers and sellers to transfer cryptocurrency directly between them.
Additional appeals to cryptocurrency include the way it affords anonymity for buyers and sellers. And for investors, crypto (as it’s called for short) is subject to price explosions that can make it a very lucrative investment, if you buy it at the right time.
The most popular currencies at the time of this article include Bitcoin, Ethereum, and Dogecoin—but there are hundreds of other cryptos, some of which have come and gone. That’s the thing about cryptocurrency in terms of its investment potential: although its price can go up, it can also be very volatile, and that type of risk is not good for most investors, especially casual retail investors.
You really need to know your stuff if you are actively trading cryptocurrencies. Nonetheless, even if you’re a retail investor with a portfolio of more traditional investments set up for retirement or to fund other important life goals, it’s usually okay to invest around five percent of your portfolio into an experimental investment.
The History of Cryptocurrency
Though trading cryptocurrency is all the rage today, the idea of virtual currency actually began in 1983 with the work of David Chaum, who invented cryptographic systems for processing transactions: eCash, and 12 years later, DigiCash. However, it was a still-anonymous inventor known as Satoshi Nakamoto who created the first cryptocurrency—Bitcoin—in 2009. Nakamoto created cryptocurrency as a form of decentralized exchange in response to the economic crisis of 2008, which was devaluing standard fiat currency. Since the crisis was created in large part by banks and government policy, cryptocurrency offered a P2P exchange (peer to peer) of value that could transcend international boundaries and avoid manipulation.
Fast forward to today, where many a cryptocurrency investor is involved in buying and selling or buying and holding cryptocurrency, like a trader on the stock market. Cryptocurrency investment does not take place on one centralized exchange like the New York Stock Exchange or NASDAQ. Instead, cryptocurrency investment and cryptocurrency trading take place across several marketplaces. In fact, some forms of cryptocurrency trading involve purchasing crypto in one cryptocurrency market and then selling it in another. This is because there might be a different cryptocurrency price in each market for the same crypto.
This form of trading is unique to cryptocurrency, facilitated by the fact that there is not one central bank issuing crypto, or one centralized exchange where it is bought and sold. In fact, it’s sort of like what might have been seen in the Middle Ages, when the value of coins was not universal, even within the same country. In addition to buying crypto in one market and unloading it in another, a crypto investor might attempt to get rich on the next big initial coin offering, sort of like the IPO (initial public offering) when a company goes public on the stock market.
Is Cryptocurrency an Investment?
A crypto investor can make money by buying cryptocurrency when its value is low, and selling it when its value is high. This is particularly interesting because it places crypto in a similar asset class as a stock or ETF, when really, crypto is not supposed to be an investment vehicle—it’s supposed to be a form of payment.
You won’t typically find people buying different forms of currency hoping that its value goes up. Of course, people do collect coins made from precious metals or memorial pieces that carry intrinsic value in the workmanship or significance, but fiat currency itself is not often traded for profit. This is because fiat currency (dollars, the yuan, the pound, the euro) are typically very stable, issued as they are by a central bank. Crypto, so far, is quite different. It’s new, it’s exciting, it’s mostly untested, and almost entirely unregulated. Price swings, soars, and drops are common. It’s kind of the Wild West of investing right now.
Profiting from those ups and downs will usually be out of the hands of most casual investors, especially since many forms of crypto carry an exchange rate that is cost prohibitive for anyone but the wealthy. There are, however, ways to buy a fractional share of a cryptocurrency. If someone is looking into buying crypto, their best bet will be to avoid allocating more than five percent of their investment portfolio into crypto until it stabilizes.
How to Invest in Cryptocurrency
Find a Broker
Cryptocurrency is still mostly unregulated, and traditional banks and investment firms have just started dabbling in it. That said, you will most likely need to buy crypto on a cryptocurrency exchange like Coinbase. These exchanges allow you to buy cryptocurrencies with standard fiat currency, like the US Dollar or British Pound. There are also platforms like Robinhood, which allow you to purchase whole and fractional shares of stocks and cryptocurrencies. This is particularly useful for casual investors who only have a few hundred dollars to invest in crypto, since (at the time of this article) even just one Bitcoin exchanges to $34,000.
Set up a Wallet
If you are not using a brokerage like Robinhood, once you’ve acquired cryptocurrency, you’ll need to store it in a digital wallet, also called a cryptocurrency wallet.
A desktop wallet is located on your personal computer, which may afford greater security (assuming your computer is secure).
An online wallet is managed by a third party, stored on a data cloud, and accessible from any computer or internet compatible device.
Mobile wallets are similar, but the interface is only or primarily accessible from a mobile app.
Hardware wallets are also very secure because they are actually a hard drive or USB stick that holds your crypto.
The type of wallet you choose will, of course, be based on your ability to set one up. For most crypto traders, an online wallet or mobile wallet will be the way to go. Those storing large amounts of crypto should probably look into a hardware wallet.
Choose Your Crypto
As mentioned, there are hundreds of cryptocurrencies, some of which have come and gone. It’s next to impossible to predict which crypto is going to be the next big thing. That said, for most casual investors, purchasing a fractional share of a more stable cryptocurrency—like Bitcoin or Ethereum—is their best bet. Dogecoin, a cryptocurrency created as a sort of parody of the whole digital currency paradigm, has recently transitioned into a crypto that is actually building momentum. Some cryptocurrencies are accepted at retailers. Microsoft, Overstock.com, Home Depot, and a handful of restaurant chains accept cryptocurrency as payment. However, given the fact that cryptocurrency is not yet commonly used in everyday transactions, this might not be an influencing factor in terms of what type of crypto you buy.
Store and Protect Your Crypto
Once you’ve chosen a broker, set up a wallet, and selected your crypto, it’s time to store and protect it. Your crypto is not actually stored in your digital wallet. Rather, the digital wallet connects to the blockchain with your private key and public key (the latter being your cryptocurrency address). Your digital wallet will store a record of the transactions you make and your current balance, if that is fluctuating. There are two types of wallets: hot and cold. Cold wallets are more secure, but more steps are required to access the stored crypto. Hot wallets are more accessible, but that accessibility will require additional security. A VPN (virtual private network) can encrypt transactions and prevent hackers or crypto thieves from accessing what lies within your hot wallet.
How Risky is Investing in Cryptocurrency?
Since cryptocurrency is mostly unregulated, it is definitely a more volatile investment. And for investors who don’t know how to deal with volatility, it presents significant risk. That’s why it’s good for stock investors or casual retail investors to only put around five percent of their investment portfolio into something as speculative as cryptocurrency. Moreover, it is virtually guaranteed that central banks like the Federal Reserve will roll out their own digital currency; this has already been done with by The People’s Bank of China, which issues a digital yuan. It’s hard to say what such a move will mean for the price of Bitcoin, but just think of what iTunes did to Napster as a precedent—the legal and regulated version wiped out the value of the unregulated ad hoc version.
Still, if the current allure and excitement of rising crypto prices is exciting to you, and you want to get in on some form of investing, it might be best to do a little research to learn more about basic do’s and don’ts when it comes to investing money. That’s why we recommend reading something like The Infinity Investing Book.
Cryptocurrency is Volatile, Proceed with Caution
Cryptocurrency is here to stay, but what that means exactly is still in the works. Right now, it’s an asset class with a high degree of volatility in terms of its value. That means it should only comprise a small part of your investment portfolio.
Moreover, it’s important to keep in mind that cryptocurrency is not in an asset class like stocks, which pay dividends. Its value is really only in its ability to provide a medium of exchange, like any other currency. However, cryptocurrency does present the possibility for more efficient online exchanges of value, since, decentralized as it is, the value is based on the market and not subject to manipulation by a central bank or government. In any case, crypto has still not even proven its value as a medium of exchange, yet. For all these reasons, it’s good to only invest a small amount in crypto, and perhaps join Infinity Investing to explore less volatile, more time-tested methods of growing wealth.
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