Jan 20, 2022
Considerations for Investing in Crypto: What You Should Know
Here’s why cryptocurrency could be a good investment for you, and the risks that come with it.
What to Consider When You’re Investing in Cryptocurrency
You probably know a little about cryptocurrency, and have seen how the value of certain cryptocurrencies has surged in recent years.
The pop in the value of cryptocurrencies like Bitcoin has been enough to catch the attention of amateur investors and big financial institutions alike. And you might be interested in getting in on cryptocurrency yourself. But before you invest in cryptocurrency, you should be aware of the advantages of investing in it, as well as some potential drawbacks.
What is investing in cryptocurrency?
The first order of business when you’re considering investing in cryptocurrency is to understand what cryptocurrency actually is. At a basic level, cryptocurrency is a purely digital form of money that allows users to exchange value without depending on a physical currency, such as the dollar, euro, or pound. Cryptocurrency was designed to be used primarily on the internet, and it is also open source, meaning that it can be developed and accessed by just about anyone. Since its introduction in 2009, more than 3,000 types of cryptocurrency have emerged, including well-known ones like Bitcoin, Ethereum, Litecoin, ZCoin, and Ripple, as well as lesser-known ones that have gained traction, like Shiba Inu, Solana, Cardano, and others.
Cryptocurrency uses something called blockchain technology, and distributed ledger software.
That means a digital currency’s code produces an encrypted record of the value of each virtual coin and the transactions for which it’s used, storing it in a block that’s added to a chain of transaction records. The records of these transactions are then distributed across numerous networks on the internet. In certain instances, such as with Bitcoin, users create more coins by “mining” for it. This is a complex procedure that involves using computers that have large amounts of processing power, to create new units of a cryptocurrency using algorithms, or complicated mathematical formulas. What’s more, the number of cryptocurrency units is often limited, helping to control supply and the ultimate value of the cryptocurrency.
Investing in cryptocurrency is similar to investing in the stock market. When you invest in a cryptocurrency, you buy a coin. And when you invest in a company’s stock, you buy a share in that company. You can buy cryptocurrency on exchanges designed specifically for that purpose, such as Coinbase, Binance, and Kraken.
Benefits of investing in cryptocurrency
As with bonds, stocks, and exchange-traded funds (ETFs), there can be benefits of cryptocurrency as an investment. Here are some of the biggest advantages that can come with investing in cryptocurrency:
Cryptocurrency is an asset
Some cryptocurrencies—including perhaps the most popular one Bitcoin—have a fixed supply. As a consequence, some experts compare Bitcoin to gold because of “its scarcity and hedge against inflation,” says Jeremy Britton, chief financial officer of cryptocurrency fund Boston Trading Company, based in Australia. Hypothetically, the limited supply of Bitcoin should mean that the coin’s value will increase over time, if demand continues. Additionally, some cryptocurrencies, known as stablecoins, are pegged to the value of an asset such as the U.S. dollar or gold. For that reason, stablecoins tend to be less volatile than other cryptocurrencies.
Cryptocurrency can also fulfill a role similar to bonds in your portfolio. While bonds aren’t commodities like gold or cryptocurrency, cryptocurrency can help you hedge against stock market performance like bonds do.
Cryptocurrency can be secure
Another benefit of cryptocurrency is that it’s highly secure, because of the distributed ledger on which it is based. The distributed ledger is a shared database, spread out among many computer networks and nodes in many locations, that functions as a public record for a cryptocurrency’s transactions. These transactions are recorded and synchronized in the many network nodes simultaneously, and can be viewed by many people. In contrast to a traditional bank account that exists in a centralized database, hackers would have to break into potentially millions of computers to steal a particular cryptocurrency.
Decentralization of cryptocurrency allows for a variety of transactions
Cryptocurrency’s use of distributed ledger has also led to the creation of Decentralized Finance (DeFi), an environment that reportedly can give anyone with an internet connection access to financial services. Some experts refer to Defi as “programmable money,” because it relies on blockchain that has been given instructions to perform a specific task.
Businesses in the DeFi industry create DeFi apps, or dapps, which operate by taking out the middleman: traditional banks. In contrast to traditional banking, which relies on a centralized money system, DeFi uses the technology behind cryptocurrency to securely and automatically carry out financial transitions. Those transactions can include taking out loans or mortgages, peer-to-peer payments, and insurance.
Considerations when investing in cryptocurrency
Investing in cryptocurrency also comes with disadvantages, such as volatility. Here’s what you should keep in mind:
Cryptocurrency can be volatile
Cryptocurrencies tend to be volatile, meaning that their value moves up and down dramatically. For example, bitcoin fell 20% over the course of less than two weeks in November 2021, after surging 40% the month before. So investors who aren’t comfortable with a degree of volatility and unpredictability might want to avoid investing in cryptocurrency. “You could lose a lot of money if you’re not careful, so always check its history before you invest,” says Jim Pendergast, senior vice president of altLINE, a division of The Southern Bank Company, which is based in Alabama.
Cybercrime and cryptocurrency
Another thing to consider is that because cryptocurrency is so secure and private, cyber criminals frequently used cryptocurrency in the past to make transactions. In fact, one study found that between January 2009 and April 2017, 46% of Bitcoin transitions were used for illegal purposes. In 2021, illegal web addresses received $14 billion in cryptocurrency, a 79% increase year-over-year. Cryptocurrency was also heavily used on the online illegal marketplace SIlk Road, which was shut down in 2013.
Cryptocurrency is relatively new and unregulated
Cryptocurrency has only been around since 2009, and is still relatively new as an investment. Therefore, cryptocurrency is still pretty unregulated. While the lack of oversight might be positive for the value of a cryptocurrency investment, it can also add risk to your investment. And the U.S. government is exploring increased regulation of cryptocurrency, which could affect your investment. In the U.S., cryptocurrency is not considered an official currency, and regulators have taken a hands-off approach to regulating it.
Cryptocurrencies are currently considered commodities, and are regulated by the U.S. Commodity Futures Trading Commission (CFTC). But as of August 2021, the Securities and Exchanges Commission (SEC), which tends to be stricter than the CFTC, said it would explore regulating cryptocurrency to the maximum extent allowed by the regulatory agency’s authority.
Is cryptocurrency a good investment?
It’s impossible to know whether any investment will be “good.” When deciding whether or not to invest in cryptocurrency, you should weigh the advantages and disadvantages to decide whether or not it has a place in your portfolio. It’s important to maintain a diversified portfolio, which holds investments across different assets, such as stocks, bonds, ETFs, and cryptocurrency.
How to get started investing in cryptocurrency
Consumers can buy cryptocurrency through an exchange like Coinbase or Binanace or an app, and then either hold on to it as an investment or use it for online transactions with other people or with businesses that accept it. You need a special electronic wallet or private key to store cryptocurrency if you want to buy it. With Stash, you can get exposure to cryptocurrency exclusively through Smart Portfolio, which is a portfolio that is managed by Stash’s investment team. When you invest in your Smart Portfolio, you won’t be investing directly in cryptocurrency. Instead, you’ll be purchasing shares of something called a Unit Investment Trust (UIT), which gives you exposure to cryptocurrency.
Cryptocurrency news is always changing, and that news can affect your investments. Make sure you stay up to date on the world of cryptocurrency investing with Stash.