Cryptocurrency may seem mysterious, but there’s nothing to be confused by here. This beginner’s guide to cryptocurrency will break down everything you need to know to start investing in this truly 21st-century asset class.
What is cryptocurrency?
Cryptocurrency is digital money that exists only online. You can’t touch it, but you can spend it just like other money to buy either digital or tangible things. It is a decentralized, peer-to-peer form of money, which means that it can be traded from person to person without the intervention of banks, government, or other regulating institutions.
Cryptography — specifically blockchain technology — is used to secure cryptocurrency transactions and coins. Blockchain is an online ledger that records each transaction’s details, and stores and shares this information across a network of nodes, making it difficult to tamper with.
Crypto is kept secure by the use of private keys and public keys, a system that requires one method of encoding and another method of decoding. Only the person whose private key matches the public key used on the encryption can receive the cryptocurrency.
Why do you people use crypto?
Interest in cryptocurrencies has been accelerating since they were invented in 2009, but especially in recent years as they have become more mainstream. For example, popular cryptocurrency Bitcoin’s value exploded 1,000% between 2020 and 2021, and in March reached a record high of $1 trillion market cap. It is now worth 570 times what it was in 2010 (as of mid-March 2021, one Bitcoin is worth around $57, as opposed to $0.10 in 2010).
Much of that interest is due to a profit motive — speculators are vying to get in on the next big thing. However, there are other reasons people use crypto: It enables fast and easy online payments and can let you avoid bank fees, especially on international transactions.
What are the main types of crypto?
Bitcoin was the first cryptocurrency and is by far the most popular and widely known — so much so that many people use the terms “crypto” and “Bitcoin” interchangeably. Bitcoin is so dominant that different cryptocurrencies in coin form are termed “altcoins” (derived from “alternative to Bitcoin”). There are many types of altcoins, and new ones are being created all the time.
10 popular cryptocurrencies
The original and most popular crypto, Bitcoin was created in 2009 by an anonymous person using the name Satoshi Nakamoto. Read a full review on Bitcoin.
An offshoot of Bitcoin created by a “hard fork” (forced split in the blockchain), Bitcoin Cash allows for faster transacting and lower fees.
A hard fork in the Bitcoin Cash blockchain created Bitcoin Satoshi’s Vision (BSV) that aims to be more like the original Bitcoin in its structure and usage.
The second-most-popular crypto, Ethereum works like Bitcoin but is more focused on decentralizing data and not just monetary value.
This is the original version of Ethereum, out of which Ethereum was created with a hard fork in 2016.
Though very similar to Bitcoin, Litecoin is faster and cheaper to use.
Zcash allows transactions to occur without the transactors or the amount being made public.
Ripple is a platform whose cryptocurrency is called XRP, which institutions can use on a network called RippleNet to transact globally.
Created by the same person as Ripple, Stellar Lumen is similar to Ripple but is focused on helping individuals transact.
Created as a satire of Bitcoin, Dogecoin originally just sought laughs but is starting to get real buyers, like famous innovator Elon Musk.
Tokens comprise another category of cryptocurrency.
These are created by an Initial Coin Offering (ICO), which is similar to an initial public offering (IPO), when a company goes public and begins selling shares of stock. These tokens provide ownership of programmable assets or access rights and are issued via a smart contract that runs on a blockchain. Assets are things like paper currency, tickets to events, insurance policies, or commodities. Access rights are things like software licenses, stock certificates, voting rights, and subscriptions.
Related: What is an NFT and How Do You Invest
How to buy crypto
Before buying crypto, check out the price of your target currency on CoinMarketCap, the prominent price-tracking website for digital assets that lists cryptocurrencies in order of market capitalization.
Once you’re ready to obtain some, you’ll find that there’s an easy way and a hard way to obtain cryptocurrency. The easy way is to buy it with a credit card via a cryptocurrency exchange — also called a crypto trading platform — like Coinbase, Binance, or Kraken.
The hard way, which is only possible in some cases, is to get it via a process called “mining.” Mining involves using special computer equipment to solve puzzles to verify a transaction block in the blockchain. The fastest solver gets awarded a number of crypto coins.
One thing to consider when deciding which type of crypto to invest in is its liquidity. The easier it is to convert a cryptocurrency into another currency, the higher liquidity it has. The higher the trading volume of a given crypto, the higher the rate of liquidity. The number of crypto exchanges and regulations that allow use of crypto also affect crypto’s liquidity.
Once you’ve obtained cryptocurrency, you can keep it in a cryptocurrency wallet, which sits online, on your computer hard drive, or some other digital hardware. As the Ethereum website says, “Think of it like an internet banking app — without the bank.”
There is a range of digital wallets from providers such as Coinbase, SoFi, Robinhood, and Mycelium. You can also get a hardware wallet, which stores your private keys on a dedicated hardware device. Most wallets can hold cryptocurrency of various kinds. Investors in Bitcoin can get a dedicated Bitcoin wallet directly from the company.
What are the risks in cryptocurrency?
Cryptocurrency does not have the same protections that fiat currency tends to have so buying it involves taking on more risk than traditional investments. The value of cryptocurrency tends to shift a lot, sometimes rapidly, so your wallet may end up losing a lot of value all of a sudden. Additionally, these new currencies aren’t mediated by any institution such as a bank, so you have no one to turn to if things go awry.
When thinking of investing in a cryptocurrency, especially one new to the market, do your due diligence about the company before clicking “purchase.” The FTC recommends searching the company’s name and the name of the currency, along with words such as “review,” “scams,” or “complaint.”
Crypto payments are not reversible, so if you get cheated out of some of your digital coins, you’ll have little recourse to get your money back. Scammers out to lighten your pockets of your crypto will often give you guarantees that you’ll make money, such as a promise to double your investment, or make fishy or unclear claims about their company.
Another common crime involving crypto is “cryptojacking,” which is when hackers take over your computer’s processing power to mine cryptocurrency for themselves. These thieves gain access to your computer by tricking you into clicking a link that lets them control your machine.
One way traders work to reduce risk is using derivatives, which are contracts based on the assets’ future price. Often called “futures,” derivatives create an agreement about the underlying auction price of the currency.
Related: How to Invest in Crypto
How does crypto stack up?
As an investment, cryptocurrency is a risky choice compared to other investment opportunities and financial products, which all occur in fiat currencies — that is national legal tender, usually known as “money.”
It’s extremely important for those looking into this investment to know that cryptocurrencies are not backed by any government, unlike national currencies, like U.S. dollars. This means that crypto in your digital wallet is distinctly different than the money in your bank account — if your wallet gets hacked or the company that issued the coins goes out of business, the government will be unable and unwilling to lend a helping hand.
Another reason investing in crypto is riskier than investing in traditional instruments is that crypto’s value constantly swings up and down. An investment that’s worth a thousand dollars at lunchtime might be worth only a hundred by dinnertime. And there’s no guarantee the value will rise back up.
This volatility means that crypto stacks up positively against traditional investments in at least one way: The potential upside is high. If you sell your crypto at the top of one of these wild swings, you can make out gloriously. Say you buy a few altcoins one day for $50 and by the next week they’re worth $500. If you sell then, you’ve just made a $450 profit in a week with a few clicks of a button.
Pros and cons of crypto
Crypto trading has several advantages over transacting and investing the usual way, but there is also a range of disadvantages to consider.
Easy transactions: Transacting with cryptocurrency is simple once you’ve gotten yourself set up with a digital wallet and found a reliable crypto exchange to use.
High upside potential: The cryptocurrency market is hot, and wild swings in value mean there’s a possibility you can get a very high return very quickly from this investment.
Autonomy: Users of cryptocurrencies often find it an advantage to have autonomy in managing their currency without the interference of intermediaries like banks or governments.
No or low fees: While you do typically pay some fees when transacting with crypto, you are able to do away with those pesky banking fees and typically pay very low fees for transacting internationally.
Relative anonymity: Due to the nature of blockchain, many cryptocurrency transactions are posted to a public ledger — a list of transactions that might include information such as the amount and the sender’s and recipient’s wallet addresses. While it’s technically possible to figure out the identities of the transactors from this ledger, they are much more difficult to trace than with many traditional forms of transaction, such as credit and debit cards.
High risk: Since cryptocurrencies are unregulated, you’ll have no recourse if you lose value due to market volatility, theft, or other eventuality.
High downside potential: The fluctuations in these currencies mean that you can lose all your money in the blink of an eye, and it’s anybody’s guess whether and when the value will swing back up.
No promises: With reports of massive payoffs circulating, a crypto investment can seem like a sure thing, but anyone who promises a guaranteed return is a fraud.
Irreversible payments: Once you’ve hit the button to transact with crypto, your fate is sealed. There’s no reversing the payment, even if you are dissatisfied with the outcome.
Legal vulnerability: When transacting with crypto, you don’t have the same legal protections as when you pay with the usual legal tender. There’s no one to appeal to if you want to dispute a purchase or report a scam.
The bottom line
The world of cryptocurrencies is a wild and wonderful place. There’s great possibility of profit, not to mention the excitement of being part of a truly modern financial system. As the types of crypto proliferate, you have ever-expanding options for investing in digital currencies.
That being said, before you go and buy yourself a nice little crypto asset, think about the considerable risks of using this unregulated type of currency. Wild shifts in value can lead to big losses, and there’s little recourse when things don’t go your way.
But for those comfortable with risk and interested in being part of a new frontier in financial investment, cryptocurrency is an intriguing and potentially lucrative option.
Featured Image Credit: iStock.