Cryptocurrency Investment: Where To Begin And What To Know

Investing in cryptocurrencies has become increasingly popular in recent years, with some investors viewing it as a risky alternative investment due to its speculative nature, and others seeing it as a legitimate option for inclusion in their portfolio. Cryptocurrencies are digital currencies that generally operate outside the regulation of any individual company or government. They are overseen by an online, decentralised network of users and guarded by encryption through blockchain technology.

There are several ways to invest in cryptocurrency, from buying it directly to investing in crypto funds and companies. Before investing, it is important to conduct thorough research and understand the risks involved, as the cryptocurrency market is highly volatile and susceptible to dramatic price swings.

Understand the risks

Investing in cryptocurrencies is risky, so it's important to understand the potential pitfalls before getting started. Here are some key points to consider:

Volatility and Price Swings

Cryptocurrency prices can be extremely volatile, with large and unpredictable swings over short periods. This volatility is driven by various factors, including supply and demand, regulatory changes, and market sentiment. These price swings can be challenging for investors to navigate, and it's not uncommon to see double-digit percentage changes in value within a few hours.

Regulatory Risk

The lack of government regulation in the cryptocurrency space is a significant concern. This means that investors have limited legal protection if things go wrong. Regulatory changes could also impact the future value of cryptocurrencies, and there is a risk that they could become illegal, rendering them worthless.

Security and Fraud

The decentralised nature of cryptocurrencies makes them susceptible to hacking and fraud. While the blockchain technology behind crypto is secure, individual investors can be targeted by hackers, just like with any other online activity. Additionally, the lack of regulation means it's easier for fraudulent coins or schemes to operate, and investors may struggle to get their money back if they fall victim to scams.

Limited Track Record

Cryptocurrencies are a relatively new asset class, and their long-term viability is uncertain. While some coins, like Bitcoin, have been around for over a decade, their value is largely based on market sentiment and demand. There is no guarantee that cryptocurrencies will continue to grow in popularity or that their value will increase over time.

High-Risk, High-Reward Nature

Investing in cryptocurrencies is often described as a high-risk, high-reward endeavour. The potential for substantial returns attracts many investors, but it's crucial to recognise that these potential gains come with a significant risk of loss. Cryptocurrencies are highly speculative, and their value can fluctuate dramatically.

Lack of Intrinsic Value

Unlike stocks, which represent ownership in a company, cryptocurrencies have zero intrinsic value. They are not backed by any physical assets or the cash flow of an underlying entity. The value of a cryptocurrency is based solely on supply and demand and market sentiment. This lack of underlying value means that cryptocurrencies could theoretically lose all their value if demand decreases or disappears.

In conclusion, investing in cryptocurrencies carries a high level of risk. It is crucial for investors to thoroughly understand these risks and carefully consider their investment goals, risk tolerance, and financial situation before allocating any funds to this volatile asset class.

Do your research

Before investing in any cryptocurrency, it is crucial to conduct thorough research to understand the unique characteristics and risks associated with each option. Here are some essential factors to consider when doing your research:

Understand the Basics of Cryptocurrency

Cryptocurrency is a virtual or digital currency that operates independently of any central authority, such as a government or financial institution. It relies on blockchain technology, a decentralised system that records transactions securely and transparently. Each unit of cryptocurrency, often called a coin or token, is created and validated through this blockchain process.

Evaluate the Cryptocurrency Market

The cryptocurrency market is vast, with over 2,400 coins as of May 2024, according to CoinMarketCap.com. The most well-known and widely adopted cryptocurrency is Bitcoin, which was also the first to be introduced in 2009. Since then, thousands of other cryptocurrencies, often referred to as "altcoins," have emerged.

When evaluating the market, consider the following:

• Risk and volatility: Cryptocurrency is highly volatile, with large swings in value over short periods. This risk can be mitigated by investing in larger, more established cryptocurrencies, but even these can experience significant price fluctuations.
• Regulation: Cryptocurrency is currently unregulated, which can increase risk. Regulatory changes could impact the future value of cryptocurrencies, and it's essential to stay informed about potential government interventions.
• Investment thesis: Each cryptocurrency has its own investment thesis, consensus mechanism, and use cases. Understand the unique value proposition of each before investing.
• Market capitalisation: Consider the market cap of a cryptocurrency. A high market cap may indicate less potential for future growth, while smaller market caps come with higher risk.
• Supply and demand: The price of a cryptocurrency is influenced by supply and demand. Research how the supply increases and what will drive demand for a particular coin.
• White paper and roadmap: Read the white paper published by the cryptocurrency team to understand their vision and strategy. Look for potential demand drivers in their roadmap and assess if they have the skills to execute their plans.
• Community and sentiment: Engage with communities of people already investing in the cryptocurrency to gauge their sentiment and get a sense of the broader community's outlook.

Assess Your Risk Profile and Investment Goals

Be honest about your risk tolerance and ensure that you are prepared for the possibility of significant price swings and potential losses. Consider how a crypto investment aligns with your broader financial goals and ensure that you are not relying solely on crypto for essential goals like retirement. Diversification is key.

Choose Established Currencies for Your First Investment

As a beginner, it's advisable to start with more established cryptocurrencies like Bitcoin (BTC), Ether (ETH), or Cardano (ADA). These have built-out networks, are widely recognised, and have lower transaction fees. This will allow you to familiarise yourself with the mechanics of crypto investing before exploring more speculative options.

Stay Informed and Adapt Your Strategy

The cryptocurrency space is rapidly evolving, so staying informed about new developments, regulatory changes, and market trends is essential. Periodically review your portfolio and be prepared to rebalance your holdings as needed.

In summary, investing in cryptocurrency requires a strong understanding of the market, a clear-eyed view of your risk tolerance and investment goals, and the ability to adapt to a dynamic and volatile environment. By doing your research and staying informed, you can make more confident decisions about adding crypto to your investment portfolio.

Pick a broker or exchange

Picking a broker or exchange is a crucial step in starting to invest in cryptocurrencies. There are two main ways to purchase cryptocurrencies: through a broker or a cryptocurrency exchange.

Cryptocurrency Brokers

Cryptocurrency brokers simplify the process of buying crypto, but they may charge higher fees or restrict moving holdings off their platform. Examples of brokers that offer crypto include Robinhood and SoFi. Some investors prefer holding coins in crypto wallets offered by these platforms for added security. It is important to note that brokers may embed fees, called spread mark-ups, in the price you pay for your cryptocurrency.

Cryptocurrency Exchanges

Cryptocurrency exchanges such as Coinbase, Gemini, Binance, Kraken, and Crypto.com offer platforms for buying and selling digital currencies. These platforms can be overwhelming for new investors, as they are often designed for more experienced traders. While some exchanges offer user-friendly options to make buying easier, they usually come with higher fees compared to standard trading platforms. Therefore, to minimize expenses, it is recommended to master a standard trading platform before or shortly after your first cryptocurrency purchase. When choosing an exchange, consider factors such as security, fees, trading volume, minimum investment requirements, and the types of cryptocurrency available.

Other Options

In addition to brokers and exchanges, you can also buy cryptocurrencies through certain broker-dealers or crypto apps.

Set up an account

Once you have selected a cryptocurrency broker or exchange, you will need to create an account. This generally involves signing up and providing personal information to verify your identity. This process is often known as Know Your Customer (KYC) protocols. You may be asked to enter information from your driver's license or passport, and sometimes a photo of yourself or a form of identification.

After completing the sign-up process, you will need to verify your email address. Most platforms will send you an email with a link to click to confirm your email address. Click the link, and your account will be verified.

Now that your account is set up, you will need to secure it with two-factor authentication. This adds an extra layer of security to your account, making it harder for unauthorized users to access your funds. You can enable two-factor authentication by following the instructions provided by your chosen platform.

Some platforms may also require you to set up a digital wallet to store your cryptocurrency. This can be a hot wallet, which is accessible via the internet and is generally more convenient, or a cold wallet, which is a physical storage device like a USB drive that keeps your cryptocurrency keys completely offline and more secure.

By following these steps, you will have successfully set up your account and taken the necessary security precautions to protect your investments.

Add funds to invest

Once you've chosen a cryptocurrency broker or exchange, you'll need to set up an account and add funds to it. You can add money to your account through various methods, including connecting it to your bank, initiating a wire transfer, or using a debit or credit card for payment. The time it takes for funds to become available in your account varies depending on the deposit method and the broker or exchange you've chosen.

While some exchanges allow credit card deposits, these come with risks and additional costs. Credit card companies often categorise crypto purchases as cash advances, leading to higher interest rates and extra fees. Coupled with fees from both the credit card and the exchange, you could lose up to 10% of your crypto purchase.

Before you can begin investing in crypto, you must ensure that funds are available in your account. It's important to manage your risk and not invest more than you can afford to lose.

Frequently asked questions