Cryptocurrencies are highly volatile, but their volatility can create opportunities for profit if you are looking to trade these digital assets. Cryptocurrencies such as Bitcoin and Ethereum have appreciated significantly since their introduction, but they have also experienced incredible boom and bust cycles along the way. Experienced traders have been speculating in cryptocurrencies for years, but how can newcomers to the crypto market get started?
Here we explain how to start investing in cryptocurrencies and the significant risks you need to be aware of.
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5 steps to invest in cryptocurrencies
First of all, if you are considering investing in cryptocurrencies, you will need to get all your funds in order. That means having an emergency fund, a manageable level of debt, and ideally a diversified investment portfolio. Your crypto investments will become another part of your portfolio and hopefully contribute to increasing your total return.
Five other things to keep in mind when you start investing in cryptocurrencies.
1. Understand what you're investing in
As with any investment, make sure you understand exactly what you are investing in. When buying stocks, it's important to thoroughly analyze a company by reading its annual report and other SEC filings. Plan to do the same with any cryptocurrency. There are literally thousands of cryptocurrencies, all with different functions, and new ones are created every day. You need to understand the investment case for each trade.
In the case of many cryptocurrencies, they are not backed by any hard assets or cash flows of the underlying entity. This is the case with Bitcoin, for example, where investors are solely dependent on someone paying them more than they paid for the asset. In other words, unlike stocks, where companies can grow profits and generate profits in that way, many crypto assets need to rely on the market becoming more optimistic and bullish in order to make profits. There is.
Some of the most popular coins include Bitcoin, Ethereum, Solana, Dogecoin, and Tether (a stablecoin). So understand the potential upside and downside before investing. If a financial investment is not backed by assets or cash flow, it may ultimately become worthless.
2. Remember, the past is the past
The mistake many new investors make is looking at the past and applying it to the future. Yes, Bitcoin used to be worth pennies, but now it's worth much more. But the key question is: Will that growth continue into the future, even if not at such a rapid rate?
Investors focus on the future, not what the asset has done in the past. What will drive future returns? Traders who buy cryptocurrencies today need tomorrow's profits, not yesterday's.
3. Watch out for volatility
Cryptocurrency prices are almost as volatile as the assets themselves. A mere rumor that turns out to be unfounded can cause a quick drop in seconds. This is perfect for sophisticated investors who can execute trades quickly or who have a solid grasp of market fundamentals, market trends and future potential. For new investors who don't have these skills, or strong algorithms to direct these trades, it's a minefield.
Volatility is a game for Wall Street's most powerful traders, each trying to outdo other deep-pocketed investors. New investors can easily get overwhelmed by volatility.
That's because volatility scares traders, especially beginners. Meanwhile, other traders may step in and buy cheaper. In other words, volatility helps sophisticated traders “buy low and sell high” and helps inexperienced investors “buy high and sell low.”
4. Manage risk
When trading assets on a short-term basis, you need to manage risk. This is especially true for volatile assets such as cryptocurrencies. Therefore, novice traders need to understand how best to manage risk and develop processes to mitigate losses. And that process varies from person to person.
—Risk management for long-term investors may be to never sell, no matter the price. Long-term thinking allows investors to maintain their positions.
—But risk management for short-term traders may have strict rules about when to sell, such as when an investment drops 10%. Traders strictly follow the rules so that relatively small declines do not turn into large losses later.
Beginner traders should consider setting aside a certain amount of trading capital and only using a portion of it, at least initially. If the position moves against them, they still have funds left to trade later. Ultimately, if you don't have money, you can't trade. Therefore, having some cash set aside means you always have the bankroll to fund your trades.
Managing risk is important, but it comes at an emotional cost. Selling a losing position hurts, but doing so can help you avoid even bigger losses later.
5. Don't invest more than you can afford to lose
Finally, it is important to avoid investing your required funds in speculative assets. If you can't afford to lose it all, you can't invest it in risky assets like cryptocurrencies or other speculative assets.
Whether it's a down payment on a home or an upcoming major purchase, the money you'll need over the next few years should be kept in a safe account so it's available when you need it. And if you're looking for a foolproof return, your best option is to pay off high-interest debt. Regardless of the interest rate you're paying on your debt, you're guaranteed to make money (or save money). We can't afford to lose there.
Finally, don't overlook the security of the exchange or broker you use. You may legally own the asset, but someone still needs to protect it, and that security needs to be tight. If they believe their cryptocurrencies are not properly protected, some traders choose to invest in crypto wallets to keep their coins offline and inaccessible to hackers and others.
Remember that investing in cryptocurrencies can be part of a broader investment strategy, but it shouldn't be your only strategy.
Other ways to invest in cryptocurrencies
Although investing directly in cryptocurrencies is popular, traders have other ways to get into the cryptocurrency game. These include:
—Crypto Futures: Futures are another way to bet on Bitcoin price movements, and with futures you can harness the power of leverage to generate huge profits (or losses). Futures are a fast-moving market, exacerbating the already volatile movements of cryptocurrencies.
—Bitcoin or Ethereum ETFs: In 2024, the Securities and Exchange Commission approved several exchange-traded funds that invest directly in Bitcoin and Ethereum. Spot Bitcoin and Ethereum ETFs can be purchased through most online brokers that offer traditional securities such as stocks and bonds. Therefore, these ETFs can be an easy way to purchase cryptocurrencies through fund-like products.
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— Stocks in crypto exchanges or brokerages: Regardless of the winner, buying stocks in companies that are poised to profit from the rise in cryptocurrencies can also be an interesting option. And that is the potential of exchanges like Coinbase and brokers like Robinhood, which derive huge amounts of their revenue from crypto trading.
—Blockchain ETF: Blockchain ETFs allow you to invest in companies that have the potential to benefit from the emergence of blockchain technology. Top blockchain ETFs give you exposure to some of the major publicly traded companies in the space. However, be aware that these companies often do more than crypto-related business, meaning their exposure to cryptocurrencies is diluted and the potential upside and downside are reduced. It is important to do so.
Each of these methods has different risks and exposure to cryptocurrencies, so you need to understand exactly what you are buying and whether it suits your needs.
Cryptocurrency Investment Frequently Asked Questions
How much capital do I need to start investing in cryptocurrencies?
In theory, investing in cryptocurrencies requires only a few dollars. For example, most crypto exchanges have a minimum trade amount of $5 or $10. Other crypto trading apps may have lower minimums.
However, when trading small amounts of cryptocurrencies, it is important to understand that some trading platforms take a huge amount of your investment in fees. Therefore, it is important to look for a broker or exchange that charges minimal fees. In fact, many so-called “free” brokers include a fee called a spread markup in the price they pay for cryptocurrencies.
How does blockchain work?
Cryptocurrency is based on blockchain technology. A blockchain is a type of database that records and timestamps all entries to it. The best way to think of blockchain is like a receipt for a transaction in progress. When a blockchain database powers a cryptocurrency, transactions in that currency are recorded and verified, confirming the movement of the currency and its ownership.
Many crypto blockchain databases run on decentralized computer networks. This means many redundant computers operate the database, repeatedly checking and rechecking transactions to ensure they are accurate. If there is a discrepancy, a computer connected to the network must resolve it.
How do you mine cryptocurrencies?
Some cryptocurrencies reward those who validate transactions on a blockchain database in a process called mining. For example, the miners involved in Bitcoin solve highly complex mathematical problems as part of the verification process. If successful, the miner receives a given amount of Bitcoin.
To mine Bitcoin, miners require powerful processing equipment that consumes large amounts of energy. Many miners operate huge rooms full of such mining equipment in order to extract these rewards. As of October 2024, running the Bitcoin system consumes as much energy per year as the country of Poland.
How can I invest in Bitcoin?
If you're looking to invest in Bitcoin, there are many ways to do so and you can partner with many companies, including:
—Cryptocurrency exchanges: Exchanges have the widest selection of cryptocurrencies and tend to have the most competitive prices. Top players include Coinbase, Kraken, and Binance, but there are literally dozens of others.
—Traditional Brokers: Many traditional brokers allow you to trade Bitcoin in addition to stocks and other financial assets, but your options for other cryptocurrencies are relatively limited. Some of the top online brokers for beginners, such as Interactive Brokers and Robinhood, allow users to trade cryptocurrencies.
—Financial apps: Many financial apps now allow you to trade Bitcoin and several other cryptocurrencies. Top players here include Robinhood and Webull, as well as payment apps like PayPal, Venmo, and Cash App.
If you're considering buying Bitcoin, pay particular attention to the fees you're paying. Other important points to note when buying Bitcoin are:
What are altcoins?
Altcoins are alternatives to Bitcoin. Years ago, traders used this term pejoratively. Everything else was defined in relation to Bitcoin, as it was the largest and most popular cryptocurrency. Therefore, everything that is not Bitcoin has been lumped into an umbrella category called altcoins.
Although Bitcoin is still by far the largest cryptocurrency by market capitalization, it is no longer the only game in the game. Other altcoins such as Ethereum and Solana are gaining in popularity, making the term altcoin somewhat outdated. With over 15,000 cryptocurrencies reportedly in existence today, defining the industry as “Bitcoin and everything else” makes less sense than ever.
conclusion
Cryptocurrency is a highly speculative area of the market, and many smart investors have decided to invest their funds elsewhere. However, the best advice for beginners who want to start trading cryptocurrencies is to start small and only use funds that you can afford to lose.
Bankrate's Brian Baker contributed to this article.
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