A cryptocurrency (or “crypto”) is a digital currency that can be used to purchase goods and services, but it employs an online ledger and strong cryptography to secure online transactions. Much of the interest in these unregulated currencies is speculative, with speculators driving prices skyward at times.
Here are seven questions to ask about cryptocurrency, as well as what to look out for.
What exactly is cryptocurrency?
Cryptocurrency is a type of payment that can be exchanged for goods and services online. Many businesses have created their own currencies, known as tokens, which can be exchanged for the goods or services that the business offers. Consider them to be arcade tokens or casino chips. To gain access to the good or service, you must first exchange real currency for cryptocurrency.
Cryptocurrencies operate on the blockchain technology. Blockchain is a decentralised technology that manages and records transactions across many computers. The security of this technology is part of its allure.
How many cryptocurrencies exist? How much are they worth?
According to CoinMarketCap.com, a market research website, over 6,700 different cryptocurrencies are publicly traded. And cryptocurrencies continue to proliferate, with initial coin offerings, or ICOs, used to raise funds. According to CoinMarketCap, the total value of all cryptocurrencies on April 13, 2021, was more than $2.2 trillion, and the total value of all bitcoins, the most popular digital currency, was around $1.2 trillion.
The top cryptocurrencies in terms of market capitalization
According to CoinMarketCap, a cryptocurrency data and analytics provider, these are the top ten trading cryptocurrencies in terms of market capitalization.
|Binance Coin||$87 billion|
What is the appeal of cryptocurrencies?
Cryptocurrencies have a wide range of supporters for a variety of reasons. Here are a few of the most well-known:
Cryptocurrencies such as Bitcoin are seen as the currency of the future, and supporters are rushing to purchase them now, presumably before they become more valuable.
Some supporters like the fact that cryptocurrency removes central banks from managing the money supply, because these banks tend to devalue money over time through inflation.
Others support the blockchain technology that underpins cryptocurrencies because it is a decentralised processing and recording system that can be more secure than traditional payment systems.
Some speculators like cryptocurrencies because their value is rising, but they are uninterested in the currencies’ long-term acceptance as a means of transferring funds.
Is it a good idea to invest in cryptocurrencies?
Cryptocurrencies may appreciate in value, but many investors regard them as speculative investments rather than real investments. What’s the reason? Cryptocurrencies, like real currencies, generate no cash flow, so in order for you to profit, someone else must pay more for the currency than you did.
This is known as the “greater fool” investment theory. In contrast, a well-managed business increases its value over time by increasing its profitability and cash flow.
“Those who see cryptocurrencies like bitcoin as the currency of the future should keep in mind that a currency requires stability.”
As NerdWallet writers have noted, cryptocurrencies like Bitcoin may not be as safe as they appear, and some prominent voices in the investment community have advised would-be investors to avoid them. Notably, legendary investor Warren Buffett compared Bitcoin to paper checks, saying, “It’s a very effective way of transmitting money, and you can do it anonymously and all that.” A check is another method of transferring money. Is a check worth a lot of money? Just because they have the ability to send money? “
For those who believe that cryptocurrencies like Bitcoin will be the currency of the future, it should be noted that a currency requires stability in order for merchants and consumers to determine what a fair price is for goods. Bitcoin and other cryptocurrencies have been anything but stable for much of their history. For example, while Bitcoin traded near $20,000 in December 2017, its value then dropped.
This price volatility creates a conundrum: if bitcoins are worth much more in the future, people are less likely to spend and circulate them today, making them less viable as a currency. Why spend a bitcoin when it could be worth three times as much next year?
How do I get started with cryptocurrency?
While some cryptocurrencies, such as Bitcoin, can be purchased with US dollars, others require payment in bitcoins or another cryptocurrency.
To buy cryptocurrencies, you’ll need a “wallet,” which is an online app that can hold your currency. Generally, you create an account on an exchange, and then you can transfer real money to buy cryptocurrencies like Bitcoin or Ethereum.
Coinbase is a popular cryptocurrency trading exchange where you can create a wallet as well as buy and sell Bitcoin and other cryptocurrencies. A growing number of online brokers, such as eToro, Tradestation, and Sofi Active Investing, also offer cryptocurrencies. Robinhood offers free cryptocurrency trades (Robinhood Crypto is available in most, but not all, U.S. states).
Is it legal to use cryptocurrencies?
There is no doubt that they are legal in the United States, though China has effectively banned their use, and whether they are legal ultimately depends on each individual country. Also, consider how to protect yourself from fraudsters who see cryptocurrencies as an opportunity to bilk investors. As always, buyer beware.
How can I safeguard myself?
If you want to invest in a cryptocurrency through an ICO, read the fine print in the company’s prospectus for the following information:
Who owns the company? A well-known and identifiable owner is a good sign.
Is it being invested in by other major investors? It’s a good sign if other well-known investors want a piece of the currency.
Will you own a stake in the company or just currency or tokens? This distinction is critical: owning a stake means you get to share in its profits (you’re an owner), whereas purchasing tokens simply means you have the right to use them, similar to buying chips in a casino.
Is the currency already developed, or is the company raising funds to develop it? The further along the product, the less risky it is.
It can take a lot of effort to sift through a prospectus; the more detail it contains, the better your chances of it being legitimate; however, even legitimacy does not guarantee that the currency will succeed; that is an entirely different question that requires a lot of market knowledge.
Beyond those concerns, simply owning cryptocurrency exposes you to the risk of theft as hackers attempt to breach the computer networks that keep your assets safe. One high-profile exchange declared bankruptcy in 2014 after hackers stole hundreds of millions of dollars in bitcoins. Those aren’t typical risks for investing in stocks and funds on major U.S. exchanges.
Should you invest in cryptocurrency?
Cryptocurrency is a highly speculative and volatile investment, whereas stock trading in established companies is generally less risky than investing in cryptocurrencies like Bitcoin.