Investing in Cryptocurrency: A Beginner’s Guide
When Bitcoin burst onto the scene back in 2009, the world changed in a big way. Bitcoin ushered in a new way to invest using a form of digital currency called cryptocurrency.
At first, many people thought it was a scam (and many people still do).
Over the last decade, however, the market has evolved significantly, and blockchain technology has taken center stage. Bitcoin prices have soared and Wall Street has taken notice.
Today, all serious investors should know what cryptocurrency is and how it works. In this article, we’ll provide a basic rundown of cryptocurrency to help you determine whether it’s something you should consider adding to your portfolio.
What is Cryptocurrency?
Cryptocurrency is a type of digital currency that can be used for transactions or as an investment (i.e., a store of value). In cryptocurrency, all transactions are verified and managed on a decentralized ledger — instead of by a centralized authority (e.g., a bank or credit card company).
Cryptocurrency is different from most other forms of currency because it’s secured by a technology called cryptography. In other words, all transactions are encrypted, which protects against issues like fraud and counterfeiting.
Transactions — which come in the form of encrypted files or “blocks” — are distributed across public ledgers that are spread across a decentralized network of computers, which creates what’s called a blockchain. These ledgers are typically open, secure, and tamper-proof.
What is a Token?
Cryptocurrencies are digital assets that are distributed in the form of tokens, or coins. However, that doesn’t mean there is an actual physical token. The popular stock photos that you see online depicting bitcoin are just for visual purposes; the cryptocurrency itself is entirely virtual.
It’s important to note that when purchasing cryptocurrency, you don’t have to buy an entire coin or token. In other words, you don’t have to buy an entire bitcoin to get started investing. You can simply opt to throw any amount — even $50 USD — into bitcoin, and you’ll end up with a fraction of a coin that correlates to the bitcoin price at that time.
How to Buy and Sell Cryptocurrency
Buying cryptocurrency is a lot like buying stocks. You have to go through an online broker or cryptocurrency exchange to obtain it. One of the leading platforms for buying and selling cryptocurrency is Coinbase, which recently announced it was planning an IPO. Other options include Binance, Kraken, and Bittrex.
In addition, some financial institutions like Robinhood and Schwab now offer the ability to buy, sell, and manage cryptocurrency on their platforms. However, many leading brokers still do not support cryptocurrency. If you’re investing in stocks through a brokerage, you may want to ask if they support cryptocurrency. If not, you might have to set up an account elsewhere.
Unlike traditional exchanges like Nasdaq, cryptocurrency is traded 24 hours a day, seven days a week, with prices updated in real-time.
Buying Your First Coins
Fortunately, cryptocurrency transactions on Coinbase are instantaneous, so you don’t need to worry about waiting two or three days for funds to clear. You can start investing in bitcoin and coins like Ethereum and Litecoin immediately.
Once you purchase tokens, you’ll be able to see your progress on a centralized dashboard that contains all of your portfolio of crypto and how it has changed in value over time.
Types of Cryptocurrencies to Know About
Bitcoin (BTC) remains the most popular cryptocurrency by far — despite its turbulent history. This coin receives the lion’s share of attention in the cryptocurrency market, and this is for a few reasons.
The brainchild of an anonymous person (or group) with the pseudonym Satoshi Nakamoto, Bitcoin skyrocketed late in 2020 during the height of the pandemic and achieved over 300% growth — eclipsing its previous record of $20,000 per coin.
Part of what makes bitcoin so valuable is that it can’t be hyperinflated. It’s coded in such a way that ensures there will never be more than 21 million bitcoins. Since it’s a finite resource, the value is skyrocketing as more investors purchase coins. Looking forward, demand is expected to exceed supply — which means the price could continue to increase.
Of course, Bitcoin isn’t the only coin on the market — there are thousands of so-called “altcoins” on the market, too. Here are some additional cryptocurrencies to have on your radar as you explore the cryptocurrency market.
Ethereum (Ether) is the second-largest cryptocurrency behind bitcoin, and one of the most actively traded coins in the world. Ethereum is an open-source blockchain platform that enables digital applications that allow users to make transactions directly over a distributed ledger.
XRP is managed by Ripple, meaning all XRP transactions take over Ripple’s network. Ripple had a difficult 2020, as the company was sued by the Securities and Exchange Commission (SEC) alleging that they misled investors by not registering with regulators.
That said, the Ripple coin is not going away. Still, Coinbase recently announced that it would no longer support Ripple transactions. So you may want to think twice before pouring money into Ripple.
Litecoin (LTC) is another open-source project released under the MIT/X11 license. It’s been around since 2011 and is very similar to bitcoin in terms of its structure. Like bitcoin, Litecoin also has a fixed supply.
The Pros of Investing in Cryptocurrency
Buying digital assets is a great way to diversify your overall investment portfolio. Plenty of investors are choosing to allocate a portion of their portfolio into cryptocurrency to spread their money around and increase their earning potential.
One of the top reasons to invest in cryptocurrency is its explosive earning potential. The trick is to buy coins when the price is low and then hold on until the price skyrockets. That, of course, is easier said than done.
For example, people who invested in bitcoin during the early stages of the pandemic were able to experience significant gains as the price climbed from $5,000 per coin in March 2020 to over $54,000 by late February 2021 — proving you can get rich quickly by investing in cryptocurrency if you time the market right.
Access Finite Resources
Coins like Bitcoin and Litecoin are capped, meaning there is only a specific number of coins that can be mined over time. As a result, they likely will become more valuable as time goes on and demand outpaces supply. People who invest in cryptocurrency now could wind up with a precious commodity in the coming years.
The Cons of Investing in Cryptocurrency
The cryptocurrency market is highly volatile — even more so than the stock market. As a result, coins can crash at any time without warning. Investors are encouraged to use extreme caution when investing in cryptocurrency and avoid rushing in and dumping large sums of money for quick gains.
When a coin crashes, you’ll still retain your currency as long as the coin is actively traded. However, the value of your investment can plummet. Plenty of investors have learned this the hard way over the years.
Another issue with cryptocurrency is that it’s still making its way into the mainstream. As a result, it lacks the infrastructure to compete with payment providers like Visa — for now at least.
Over time, more businesses will likely accept cryptocurrencies as payment options. And as this happens, it will get easier for consumers to use coins for everyday purchases. For now, investors need to be patient if they want to use crypto to buy things. It’s much better as a store of value.
Lack of Regulation
There remains a major lack of regulation in the cryptocurrency market. As a result, there are higher risks associated with investing in it. Until more governments recognize and regulate cryptocurrencies, it will remain a turbulent commodity.
Tips for Buying Cryptocurrency
Buy the Dip
One strategy is to wait for a cryptocurrency to drop to a certain price, and buy when the price reaches that level. Keep your eye on cryptocurrencies as they move up and down in price, and buy when the price reaches a level you are comfortable with.
Set up Automatic Purchases
Another method is to set up automatic transactions so that you buy a fixed amount of coins every month (e.g., $500 worth). This is one way to keep investing in coins without having to make an effort to sit down and do it every few weeks.
Figure out a Strategy
Spend some time researching the overall value of each coin and figure out a long-term investing strategy. Some people believe in selling their assets and claiming a profit when they anticipate a crash is coming while others prefer to ride out slumps and buy more coins at opportune times.
For the best results, figure out a strategy that you are comfortable with and stick to it.
Watch out for Taxes
All cryptocurrency sales, payments, conversions, and donations need to be reported to the IRS. The IRS considers these currencies to be property and you could owe taxes if you mine or use them in any way.
Capital gain transactions are reported on IRS Form 8949. Even if you don’t liquidate any of your holdings, you still need to tell the IRS if you made any transactions. Failure to do so could result in fines and penalties.
Frequently Asked Questions
Can you trade cryptocurrency on Robinhood?
Robinhood is one mobile broker that allows you to buy, sell, and manage cryptocurrency transactions. That means you can make crypto exchanges alongside your stock market investments. This is a quick and convenient way to buy and sell cryptocurrency.
What is a Bitcoin IRA?
A Bitcoin IRA is an IRA that allows you to contribute Bitcoin for long-term growth. For example, investors who have a Roth IRA can buy bitcoins using post-tax dollars and avoid paying gains when they make qualified distributions.
Is there a crypto debit card?
There sure is. Crypto debit cards are now growing in popularity. You can use these cards to buy products using cryptocurrency at any location that accepts debit cards.
You can also use them at ATMs and at online merchants, collecting rewards in the process. Leading examples include Coinbase Card, Nexo Card, and Cryptopay.
Is cryptocurrency better than real estate or ETFs?
It’s not a matter of saying that cryptocurrency is better than any other type of investment. It’s more volatile and unpredictable, and it’s also mostly unregulated. At the same time, it has a lot of upside, too, in the form of rapid growth and earning potential.
Only you can decide whether cryptocurrency is right for you — and whether you have the risk tolerance to take on such a volatile asset. If you do invest in cryptocurrency, treat it as a risk in your portfolio, and build up more stable investments around it to protect yourself from volatility.
What is mining?
Bitcoin miners receive Bitcoin in exchange for completing blocks of transactions that get added to Bitcoin’s blockchain. Mining can allow you to earn currency without paying for it directly. However, you will pay for it in other ways, including time and resources.
Mining for bitcoin is exorbitantly expensive because it requires a significant amount of computer processing power — and the associated cooling and electricity costs. Mining is extremely difficult and beyond the scope of most investors.
However, it’s not impossible. If you’re proficient in computers, you may want to look into it to determine whether mining is the right fit for you. Who wouldn’t love earning some bitcoin instead of paying for it?
Are all cryptocurrencies equal?
Not all cryptocurrencies are equal. As an investor, it can be difficult to know where to focus your attention. Research each cryptocurrency and only put your money into coins that you trust.
Due to its lasting power, bitcoin remains the most trustworthy cryptocurrency of them all.
The Bottom Line
Here’s a final disclaimer before moving forward with cryptocurrency: It’s very risky and not for the light of heart. Even though it’s very popular right now, you could lose a lot of money if you’re not careful. Like any investment, you need to know how it works before diving in.
That said, investing in cryptocurrency could also be a profitable personal finance decision. Only time will tell.
Explore the market, and consider making a few small investments to start. Then, build from there. With enough patience and determination, you can build up a sizable crypto wallet before you know it.