Digital currency advocates believe that cryptocurrency and related blockchain investment products could produce a new generation of millionaires and billionaires. However, for investors who haven’t yet taken the plunge, some are wondering if there is good reason to start investing in cryptocurrency now.
Before diving in, investors should learn what cryptocurrency is and how to invest sensibly, as well as weigh the potential risks and benefits.
Cryptocurrency is digital money, based on blockchain technology—an open, distributed ledger that records transactions in code. Transactions are recorded in “blocks” that are then linked together on a “chain” of previous cryptocurrency transactions. Unlike other currencies, it is not regulated by a central authority.
The first and most well-known cryptocurrency is Bitcoin, but there are more than 5,000 cryptocurrencies in circulation. The top three based on market capitalization are Bitcoin (BTC), Ethereum (ETH) and Tether (USDT).
The virtual currency can be used to buy regular goods and services, but many invest in cryptocurrency as they would in other alternatives, like art or precious metals.
Investors can purchase cryptocurrency on exchanges like Coinbase and Bitfinx. However, these online marketplaces charge high fees even on small crypto purchases, which can diminish investor returns quickly.
Though investing in cryptocurrency is exchanging one form of currency for another, it is treated like a capital asset from a tax standpoint. Therefore, when investors sell cryptocurrency at a profit, capital gains taxes must be paid.
Though some experts contend that cryptocurrencies are not a sound investment, there are some undeniable reasons it attracts investors’ attention. First, it has seen remarkable growth since its inception. Five years ago, investors could buy Bitcoin for $500. As of September 30th, 2021, a single Bitcoin’s price was valued at over $43,000.
Second, cryptocurrency is a transformative technology that has potential to revolutionize industries like banking, healthcare and supply chains. There is no doubt that potential future applications of cryptocurrency are exciting.
Further, the digital currency is resistant to inflation because the value cannot be diluted by a governing body. This aspect is appealing to investors who are concerned about hyperinflationary events, bank failures or other disasters.
Some financial advisors don’t recommend investing in crypto at all, because it is highly speculative and has the potential for intense price swings. In fact, cryptocurrency is so volatile that it can be affected by something as small as a celebrity’s tweet.
Furthermore, cryptocurrency theft and scams are common- hackers have stolen tokens worth billions of dollars from crypto exchanges, wallet software, and users.
Let’s compare cryptocurrency investment to a traditional investment vehicle—investing in the stock market. Stocks are traded on an exchange overseen by a governing body such as the Securities and Exchange Commission (SEC), the Financial Industry Regulatory Authority (FINRA), or the National Association of Securities Dealers (NASD). Cryptocurrency, on the other hand, is unregulated. The market price is driven by supply and demand and the quality of the code.
Finally, investing in stock is equivalent to buying a share of ownership in a company. Should the company go bankrupt, investors might receive compensation. However, crypto does not grant ownership over anything but the token itself.
These risks should be taken into account when considering investing in cryptocurrency.
For investors interested in cryptocurrency despite its risks, portfolio managers suggest investing a large enough amount for it to be meaningful, but not enough to derail long-term investment plans. Usually, 1-5% of investable assets is a sensible amount to invest in cryptocurrency if you’re just testing the waters.
Bitcoin ETFs are another option, which allow investors to place bitcoin investments alongside other equity investments. These include ProShares Bitcoin Strategy ETF (NYSE:BITO) and the Valkyrie Bitcon Strategy ETF (NASDAQ: BTF), which began trading on October 22, 2021.
For investors excited about transformative technology and disruptive companies, there are other investment vehicles that could generate risk-adjusted returns and are managed by an experienced portfolio manager.
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