Strategic Long-Term Crypto Investment: How Long Should You Hold?

Cryptocurrency is a highly volatile asset class, and investors need to understand the risks involved. It is crucial to do your research and understand the technology and regulations before investing. While some experts recommend limiting crypto exposure to 5% of your portfolio, others suggest 1-2% for beginners. The choice of how long to invest depends on your risk tolerance, investment strategy, and financial goals. It is important to approach crypto investing with caution and be prepared for potential losses.

Volatility and risk

Cryptocurrency is a highly volatile asset class. Its value can fluctuate dramatically over short periods, making it a risky investment. The extreme volatility is due to its lack of central governance, with cryptocurrencies being decentralised and not issued, backed, or regulated by a central authority.

The volatile nature of cryptocurrencies means that investors can make large gains or large losses in a short space of time. For example, in 2021, the value of most cryptocurrencies rose dramatically, but in 2022, their value fell just as sharply.

The unpredictable nature of cryptocurrencies means that investors must be prepared for the risk of loss. It is recommended that investors only allocate a small percentage of their portfolio to cryptocurrencies – typically between 1% and 5% of their net worth. This helps to manage the overall volatility and risk within an investment portfolio.

Additionally, investors should be cautious of scams and fraud, as the lack of regulation in the cryptocurrency market makes it more susceptible to fraudulent activity.

The regulatory landscape for cryptocurrencies is also uncertain, and government interventions can impact the market. For example, China's ban on cryptocurrencies in 2022 caused a significant shift in the market.

The high volatility and risk associated with cryptocurrencies mean that investors must carefully consider their risk tolerance and investment goals before investing. It is crucial to recognise that cryptocurrency investments can result in substantial losses, and investors should only invest what they can afford to lose.

Diversification

• Invest in cryptos with various use cases: Different cryptocurrencies have different use cases. For example, Ripple specialises in money transfers for financial institutions, while Ethereum is the foundation for DeFi protocols and smart contract technologies.
• Invest in different blockchains: Ethereum is the most well-known blockchain, but Cardano (ADA) and EOS (EOS) are also good options. Cardano prioritises efficiency, scalability, and security, while EOS is great for web services like cloud storage, dApps, and smart contracts.
• Invest in different sectors: The banking industry has been the most accepting of cryptocurrency, but it's also being used in the video game industry and other sectors. Diversifying across sectors helps protect your portfolio if one sector experiences market risk.
• Diversify by market capitalisation: A high market cap cryptocurrency may be more stable, while a lower market cap crypto may have more growth potential.
• Diversify by geography: You can invest in global cryptocurrency ventures to expose yourself to various crypto business developments.
• Time diversification: This is an interval-based investing approach where you put aside money at specific periods to invest in selected tokens.
• Expand to more asset classes: You can invest in other asset classes like utility tokens, NFTs, and stocks in crypto-related companies.

The volatile nature of the cryptocurrency market makes diversification especially important. Diversification helps to reduce the impact of market volatility and enhances the potential returns on investment. It also protects your investment and ensures you get the most out of your risk-adjusted returns.

Long-term vs short-term

The best approach to investing in cryptocurrency depends on an individual's objectives, risk tolerance, and financial situation. Short-term and long-term crypto investments each have their own advantages and disadvantages.

Short-term crypto investment

Short-term crypto investment strategies aim to capitalise on the market's volatility to make quick profits. This approach involves actively buying and selling cryptocurrencies to take advantage of short-term price movements, often within hours or days. Day trading, swing trading, and scalping are common short-term investment techniques. This strategy requires a higher level of involvement and market understanding and carries increased exposure to market risks. Due to the unpredictable nature of price movements, short-term strategies require constant market monitoring, swift decision-making, and a good understanding of technical analysis.

Long-term crypto investment

Long-term crypto investment strategies involve holding digital assets for an extended period, typically spanning years. This approach focuses on the potential for substantial returns over time, despite short-term market fluctuations. Long-term investment strategies provide opportunities for diversification and effective risk management. Popular techniques include the buy-and-hold strategy and dollar-cost averaging, where fixed amounts are invested at regular intervals to smooth out the impact of short-term volatility. This approach requires patience and a belief in the long-term potential of cryptocurrencies.

Hybrid approaches

In some cases, investors may opt for hybrid approaches that combine elements of both long-term and short-term strategies. The core-satellite strategy involves allocating a significant portion of the portfolio to long-term holdings, while a smaller portion is dedicated to more active trading or short-term investments. Another hybrid approach is trend following, which combines long-term holdings with short-term trading based on market trends. These hybrid strategies aim to balance long-term stability with potential short-term gains.

Tax implications

Investing in cryptocurrencies can have tax implications, and the rules are evolving. The Internal Revenue Service (IRS) treats cryptocurrencies as property for tax purposes. This means that any profits or income from your cryptocurrency is taxable. If you hold a cryptocurrency, sell it, and profit, you owe capital gains tax on that profit, just as you would on a share of stock.

If you use cryptocurrency to buy goods or services, you owe taxes on the increased value between the price you paid for the crypto and its value at the time you spent it, plus any other taxes you might trigger. If you are a cryptocurrency miner, the value of your crypto at the time it was mined counts as income.

Cryptocurrency taxes are complicated because they involve both income and capital gains taxes. In most cases, you're taxed multiple times for using cryptocurrency. It's best to consult an accountant familiar with cryptocurrency and current practices to ensure you're reporting taxes correctly.

If you invest in cryptocurrencies through a retirement account, such as a Transamerica 401k plan, any gains or losses from your cryptocurrency investments are generally tax-deferred until you withdraw the funds. However, if you withdraw the funds before reaching the age of 59 and a half, you may be subject to early withdrawal penalties and taxes.

Security and storage

• Only deal with reputable exchanges and digital wallet providers. Look for platforms with strong security measures, such as two-factor authentication, cold wallet storage, and encryption.
• Protect your account and wallet with strong passwords, two-factor authentication, and secure internet connections. Avoid accessing your wallet via public Wi-Fi, or use a VPN if necessary.
• Be vigilant about phishing scams and other types of fraud targeting crypto investors. Never enter your seed words or private key on a website or share them with anyone.
• For added security, consider using a hardware wallet or cold wallet to store your cryptocurrency offline. Keep your private keys and recovery phrases in a safe place, such as a locked vault or safety deposit box.
• Regularly back up your wallet and store your backup in a secure location.
• Choose a platform that offers financial insurance and is regulated to provide an extra layer of protection for your investments.
• Diversify your crypto investments across multiple cryptocurrencies and platforms to minimise risk.
• Stay informed about the latest security measures, scams, and regulatory changes in the cryptocurrency space.
• Remember that cryptocurrency is a risky and volatile investment. Only invest what you can afford to lose and be prepared for potential losses.

Frequently asked questions