A Beginner's Guide To Cryptocurrency Investing

Investing in cryptocurrency is an increasingly popular option, but it's important to understand the risks involved. Cryptocurrencies are highly volatile and fluctuate wildly, even more so than stocks. They are also largely unregulated, leaving investors with little protection if things go wrong.

Before investing in cryptocurrency, it's essential to do your research. Understand the risks, ensure your near-term savings are solid, and be aware of the tax implications. Consider whether it fits with your investment plan and risk appetite.

If you decide to invest, there are several ways to buy cryptocurrency, including via a crypto exchange, a brokerage account, or a cash app. You can then choose from thousands of different cryptocurrencies to invest in, such as Bitcoin, Ethereum, Litecoin, and Stablecoins.

Remember, investing in cryptocurrency is risky, so only invest what you can afford to lose.

Understand the risks

Before investing in cryptocurrency, it is imperative to understand the significant risks associated with it.

Volatility

The value of cryptocurrencies can fluctuate drastically within a short period, sometimes by 10% or more in a single day. This volatility is often driven by market speculation, public announcements, or individuals with large amounts of a crypto-asset influencing its perception through social media.

Regulatory Uncertainty and Lack of Regulation

The world of crypto is rapidly evolving, with thousands of cryptocurrencies and hundreds of trading platforms. However, there is little to no regulation in this space. The addition of new regulations or the failure of a trading platform could result in significant losses. For example, customers of the FTX exchange lost nearly $9 billion when it went bankrupt.

Security

While the blockchain technology underpinning cryptocurrencies is secure, exchanges and wallets are vulnerable to hacking. If your crypto is stolen, recovering it is highly unlikely.

Short Track Record

Cryptocurrencies don't have a long history like traditional investments, making it challenging to predict their future performance and value.

Limited Protections and Consumer Risk

Direct ownership and transactions of crypto-assets are largely unregulated, offering minimal consumer protection. The rules for reporting and paying taxes on crypto gains are still evolving, and the process can be cumbersome. Additionally, crypto systems allow users to remain anonymous, making it difficult to recover funds if your digital wallet is hacked.

Speculative Investment

Most cryptocurrencies have no intrinsic value and are not backed by any physical assets. Their value depends on market speculation, media hype, investor opinion, and their underlying blockchain technology. As a result, investing in crypto-assets is highly speculative, and there is a significant risk of losing your entire investment.

Other Considerations

• Diversification: Investing in multiple cryptocurrencies can help manage risk by not putting all your eggs in one basket.
• Research and Understanding: Blindly investing in a trending coin can be disastrous. It is crucial to research the team behind a cryptocurrency, its technology, scalability, and market capitalization before investing.
• Emergency Fund: Ensure you have a solid emergency fund or near-term savings before investing in crypto.
• Spousal Agreement: If married, discuss crypto investing with your spouse and ensure it aligns with your joint financial plan and risk tolerance.

Research coins

Researching coins is an important step in your cryptocurrency investment journey. Here are some ways to do it:

• Read the whitepaper: A whitepaper outlines the objectives, technical details, and vision of a cryptocurrency project. It should clearly define the problem it aims to solve and how it plans to achieve its goals. Solana's whitepaper is a good example.
• Research the team: Understand the professional experience of the project team. Review their LinkedIn profiles, the "About" page on the website, and their previous projects. A red flag would be anonymous founders or an inexperienced team.
• Learn about the leadership: Crypto projects with clear leadership have a better chance of success. Ask questions like: Do they have a history of successful leadership? Are they reputable or well-known? Do they have a history in crypto, and is it good or bad?
• Understand the technology: Gain a basic understanding of blockchain technology and how it works. Learn about tokens, how blockchains are maintained, what is stored on them, and how users interact with them.
• Get to know the crypto community: Most cryptocurrencies are community-driven projects. Join their Discord, Telegram, or other social media channels to gauge community sentiment and get your questions answered. A strong, supportive community can indicate a potential for growth.
• Review the roadmap: A roadmap is a timeline of events outlining the expected progress of a crypto project. It should have clear and concise milestones, preferably broken down on a quarterly basis. Be wary of generic milestones or those based solely on money raised.
• Learn the tokenomics: Understand the distribution, circulation, and total supply of a cryptocurrency. Review the circulating supply, total supply, and maximum supply. Be cautious of projects that give a large portion of tokens to founders at release.
• Check upcoming events: Keep an eye on upcoming events that could impact a coin's price. For example, Ethereum's upgrade to Ethereum 2.0 included free Ether for users holding a certain amount of ETH.
• Research the fundamentals: Look for coins that solve real-world problems and have actual usability. Check the coin's website, whitepaper, social media accounts, and communities for information.
• Discover trending topics: Use keyword tools like Ahrefs and KWfinder to analyze trending topics and search volumes. This can indicate market sentiment and investment opportunities.
• Utilize niche forums: Forums like Bitcointalk or crypto-related subreddits can provide in-depth information and allow you to connect with more experienced individuals.
• Go to crypto meetups: Attend crypto meetups to hear different perspectives and gain technical insights from other investors.
• Observe transaction volume: Check the transaction volume of coins on reputable exchanges like Binance and Kraken. This can provide insights into the demand and popularity of a coin.

Decide on short-term vs long-term investment

When deciding between long-term and short-term crypto investment strategies, several factors should be considered. These include an individual's risk tolerance, financial situation, investment goals, time commitment, and availability.

Long-Term Crypto Investment

Long-term crypto investment involves holding digital assets for an extended period, typically spanning years. This strategy is suitable for investors with a higher risk tolerance and long-term financial goals, such as retirement planning or wealth accumulation. It provides an opportunity for substantial returns over time, despite short-term market fluctuations. Popular long-term investment approaches include the buy-and-hold strategy and dollar-cost averaging, where fixed amounts are invested at regular intervals to mitigate the impact of short-term market volatility.

The advantages of long-term crypto investment include:

• Potential for substantial returns: By holding digital assets for the long term, investors can benefit from the potential for significant returns over time, even with short-term market fluctuations.
• Diversification and risk management: Long-term investment provides opportunities for diversification and allows for effective risk management by riding out short-term market volatility.
• Reduced risk: Long-term investments in cryptocurrencies are less risky compared to short-term investments as they demand patience and a long-term perspective.
• Profit from market growth: Investors can profit from the market's long-term growth by purchasing digital currencies with high growth potential and holding them for an extended period.

The disadvantages of long-term crypto investment include:

Enduring market downturns: Long-term investors may need to endure extended periods of market downturns, which can be challenging for those seeking quick profits.

Short-Term Crypto Investment

Short-term crypto investment involves capitalizing on the market's volatility to make quick profits. This strategy is suitable for individuals with a higher risk tolerance seeking immediate gains. It requires more active involvement, constant market monitoring, and swift decision-making. Common short-term investment approaches include day trading, swing trading, and scalping, which aim to profit from rapid price fluctuations within hours or days.

The advantages of short-term crypto investment include:

Quick profits: Short-term crypto investment can generate substantial returns quickly, attracting those looking for immediate gains.

The disadvantages of short-term crypto investment include:

• Increased risk: Short-term investments have increased exposure to market risks due to the unpredictable nature of price movements.
• More active involvement: Short-term strategies require a higher level of involvement and a deeper understanding of market analysis and technical expertise.
• Regulatory and legal considerations: Investors must ensure regulatory compliance and adhere to applicable laws and regulations in their jurisdictions.

Tax Implications

When deciding between long-term and short-term crypto investment strategies, it is essential to consider the tax implications. In most countries, including the United States, cryptocurrencies are considered assets for tax purposes. This means that any gains or losses from the sale or disposal of cryptocurrencies are subject to capital gains taxes.

The IRS taxes capital assets differently depending on how long they are owned. If a cryptocurrency is held for less than a year, the gains or losses are classified as "short-term" and taxed at the same rate as ordinary income. Short-term capital gains tax rates range from 10% to 37% in 2022, depending on the individual's filing status and income bracket. On the other hand, if a cryptocurrency is held for more than a year, it is taxed under "long-term" rates, which are lower than short-term rates, ranging from 0% to 20% in 2022.

Therefore, if an individual wants to minimize their tax bill, they should consider holding their cryptocurrency for at least a year to take advantage of the lower long-term capital gains tax rates. Additionally, investors can use tax loss harvesting strategies, optimize their accounting methods (FIFO, LIFO, or HIFO), and invest in tax-advantaged accounts (IRA, 401(k), etc.) to further reduce their tax liabilities.

Set up a digital wallet

Setting up a digital wallet is an essential step in your cryptocurrency journey. A digital wallet is a secure place to store your cryptocurrency, much like a physical wallet for cash. There are several types of digital wallets, each with its own advantages and disadvantages. Here are some key points to consider when setting up your digital wallet:

• Online Wallets: These are stored in the cloud and are convenient for accessing your cryptocurrency from anywhere. However, they are slightly less secure than other options.
• Mobile Wallets: Accessible from smart devices such as phones and tablets, mobile wallets offer portability and convenience.
• Desktop Wallets: This type of wallet is installed on your computer, providing easy access to your cryptocurrency when you're using your desktop or laptop.
• Hardware Wallets: Typically in the form of a USB drive or other portable media, hardware wallets are considered one of the most secure options as they store your private keys offline, protecting them from hackers.
• Software Wallets: These can be held by an individual or a crypto trading platform on your behalf. While software wallets simplify the process of buying, selling, and storing crypto, they are not a regulated service, so there may be no recourse if the trading platform fails.

When choosing a digital wallet, it's essential to prioritise security. Consider using a combination of wallet types, such as a hardware wallet in conjunction with an online or software wallet, to balance accessibility and security. Remember, it's better to be safe than sorry when dealing with cryptocurrencies.

Choose a trading platform

There are hundreds of trading platforms to choose from. You can go to a comparison site and see which one suits you best — they all offer different fees for trades, different cryptocurrencies, and different options for ways to put in your own money, like POLi, PayID and bank transfer.

Some of the most popular trading platforms include Coinbase and Binance, which work like stock markets for buying and selling crypto. They are fairly intuitive to use, and you can store your crypto with them without the need for a crypto wallet. However, there are fees for buying and selling crypto and platform risk (if the exchange goes bankrupt, you could lose any crypto you have stored with them). This is why you may want to use a crypto wallet in conjunction with an exchange.

Not all stock brokerage accounts allow you to trade crypto, but many, like Robinhood, do. Brokers don’t offer access to as many cryptocurrencies as exchanges do (Coinbase claims to offer thousands of different cryptos). You also can’t do things like stake crypto through a brokerage account. (Staking is locking up your crypto for a period of time in order to earn a return, much like putting money into a savings account.)

If you’re just after Bitcoin, you can easily buy, sell and send Bitcoin through Cash App.

If you don’t want the hassle of owning crypto directly, there are ETFs that track the crypto markets. The company’s most popular fund – the Grayscale Bitcoin Trust (GBTC) – will likely become an ETF, if and when the SEC approves bitcoin ETFs in the United States.

If you’re not working with a financial advisor, you can also get indirect exposure by buying shares in Grayscale funds and other third-party investment crypto products in the over-the-counter secondary market through some large retail trading platforms, such as Schwab.com and Fidelity.

Frequently asked questions