A few years ago, cryptocurrency was an obscure concept. Now, it’s become a mainstream investment, and governments are talking about regulating it, which would create some hurdles for investors but also legitimize it in a way that hasn’t happened so far.
If you want to invest in crypto but you aren’t sure where to start, you aren’t alone. From deciding which cryptocurrency is right for you to earning interest on your bitcoin and other investments, there’s a lot to know.
Get started with the following general guide.
How Does Cryptocurrency Work?
Cryptocurrency is also called crypto, and it’s any type of digital currency or virtual currency that uses cryptography for secure transactions.
Currently, cryptocurrencies are unique in that they don’t have a regulating authority or central issuing authority. Alternatively, crypto uses a decentralized system to record transactions and also issue new units.
The digital payment system doesn’t rely on a bank for transaction verification. Instead, it’s a peer-to-peer system that allows anyone, anywhere, to send and receive payments.
Crypto payments are purely digital entries added to a digital database, rather than being physical money that you take with you and exchange for goods and services in a traditional sense.
The online database where digital entries are added describes transactions. If you transfer crypto funds, then the transactions are recorded in a public ledger, and your currency is stored in a digital wallet.
The name comes from the fact that to verify the transactions, encryption is used, which is advanced coding. Advanced coding is how the crypto data is stored and transmitted between wallets and also to public ledgers. Encryption offers safety and security.
The world’s first cryptocurrency was Bitcoin, created in 2009. It remains the most well-known. Bitcoin’s total share of the crypto market is also more than 40%, but the market is much bigger than most people realize. There are nearly 18,000 cryptocurrencies that you can trade. In 2021, the market cap of the sector grew by 187.5%, according to data from the World Economic Forum.
The distributed public ledger on which crypto runs is called a blockchain. The blockchain is a record of all transactions that are updated and held by holders of the currency.
An individual unit of a cryptocurrency is known as coins or tokens, and the variation depends on how they’re used. Some units are for the exchange of goods and services, and others are stores of value. There are also some that are meant to help run computer networks to carry out financial transactions.
Learn About the Industry
Before you start investing in crypto, it’s important to learn as much about the industry as you can. It’s volatile and complex, so if you go into investing without understanding the main concepts, you’re putting yourself in a very financially risky situation.
Before you invest, ask yourself what your goal is. If you’re investing just because crypto is trendy, then you might want to rethink your decision. Investing in crypto is going to make sense for some investors more than others, which is true anytime you’re investing.
You want to learn about how the market works and the currencies that are available. You can look beyond the major names in your research.
As you research individual cryptocurrencies, look at how they utilize blockchain technology and whether there are any differentiating elements of innovation they use that set them apart.
If you can find ways to get involved in the community, like on Reddit, it’s also a good way not just to learn general information but stay ahead of trends and hear what discussions are going on.
Every cryptocurrency project should have a white paper, so you should go over that carefully to learn about what the project developers intend for their currency and their project as a whole.
White papers are a critical way for a development team to outline who, what, when, where, and why when it comes to their project. If this isn’t available or seems incomplete, then that can be a red flag to you as an investor.
You should get a feel for timing because digital currencies move fast, and they’re very volatile.
There’s an appeal that comes with buying a new currency before it’s popular, but there’s no guarantee that’s going to give you a good return.
Cryptocurrencies usually follow certain price patterns, with Bitcoin leading the way.
The speculative nature of crypto should lead you to be a cautious, informed investor. There have been some who have become millionaires literally overnight with crypto, and at the same time, many investors have lost a lot of money.
Any time there’s this high level of risk in an investment, doing your research can be helpful.
Cryptocurrency holdings aren’t insured by the FDIC, so if the exchange goes bankrupt or is hacked, you’re essentially out of luck.
In 2014, the IRS started taxing crypto gains as capital gains as well, so keep that in mind.
How Do You Buy Crypto?
If you’re interested in buying crypto, you’ll first want to choose an exchange. An exchange is where you buy and sell crypto and also often store it.
Coinbase is one of the more well-known exchanges, but there are a lot of others that are user-friendly. When you buy on a centralized exchange, it’s a third party that oversees your transactions, promoting the confidence that you get what you’re paying for.
Most exchanges sell crypto at the market rates, and then they make their money on fees for different services.
Along with bitcoin, some of the other well-known currencies include Ethereum, dogecoin, and Binance coin.
After you buy crypto, you have to decide how to store your private keys.
A hot wallet is online, and it lets you access and trade crypto easily. Hot wallets do leave you open to potential hackers, although the security mechanisms have come a long way.
A cold wallet is offline, like a hard drive or USB.
When you decide to buy crypto, you have to figure out how you’ll pay. Using the USD is what you’ll typically start with if you’re a first-time buyer. More advanced crypto traders can use their current holdings for another type.
Most exchanges allow for bank and debit transfers, and some will let you buy with your credit card, but then you’re adding even more of a level of risk when dealing with a volatile asset. If you’re paying interest, it’s going to make your losses worse if your investments go down in value.
What Are the Pros and Cons of Investing in Crypto?
As with any investment, there are pros and cons to crypto. Some people feel extremely passionate and enthusiastic about it, while other people think it’s a trend that could wane.
The upsides of crypto include that there, of course, is the potential it could become more valuable. Some people think that the fact crypto removes central banks from managing the money supply is a good thing. That’s because, over time, banks typically reduce the value of money through inflation.
There can be more security that comes with blockchain technology, and there’s a process called staking that is a way to earn passive income. With staking, you use your crypto to verify transactions on the blockchain.
With staking, there is the potential to grow your holdings in crypto without buying more.
So, what about the downsides?
First, blockchain technology, in general, isn’t widely adopted, so if the underlying concept doesn’t reach what investors think it will work in terms of its potential, they may never get solid returns.
If someone is a shorter-term investor, there are a lot of risks, including price fluctuations.
Some people, due to the volatility, can make money by doing the right thing at the right time, but there are plenty more people who have bought right before a crash in crypto happens.
There’s a significant environmental impact of Bitcoin and other projects that use mining, and governments around the world aren’t sure how to handle crypto yet. Regulatory changes and crackdowns could unpredictably affect the market.
No matter how you approach it, investing in crypto is risky.
High-risk investments should make up a small part of your portfolio overall. The rule of thumb for high-risk investments is usually to make sure they’re no more than 10% of your portfolio.
You might want to meet other financial goals like paying off debt or having emergency savings before you jump into something like crypto investing.
It’s also advisable to have most of your portfolio in stocks and bonds and less volatile funds before putting money into crypto.
The most important takeaway from all of this is that while investing in crypto can be a viable part of a well-rounded portfolio, you need to make sure you do your homework beforehand and know what you’re working with. There’s no way to eliminate risk, but you can be prepared and act strategically before investing in any cryptocurrency.
You may be interested in: Investing in crypto: new times offer new opportunities