A cryptocurrency is a type of money that exists only in the world of digital cryptography. It is protected by special codes that make it almost impossible to copy or spend more than once. Most of these currencies run on networks that don’t rely on a single company or government. Instead, they use a shared system called blockchain, where many computers work together to keep records. here are the complete guide to investing in cryptocurrency.
One of the main things that makes cryptocurrencies different from regular money is that they aren’t controlled by a central bank or government. This means no single authority can fully control how they work or change their value.
Understanding Cryptocurrency
Cryptocurrencies are virtual money built on encryption techniques. They allow secure payments over the Internet without needing banks or other middlemen. The term “crypto” comes from the encryption methods that protect transactions, like public-private key pairs, hashing, and elliptical curve encryption.
A major feature of Bitcoin and similar currencies is blockchain technology. As the name suggests, a blockchain is a series of linked data blocks stored on a shared record. Each block holds a group of transactions, which are checked and approved by independent participants in the network.
Before a new block is added, it must go through a verification process, making it extremely difficult to alter past records. A collection of computers, called nodes, work together to maintain and confirm the information.
Experts believe blockchain can be useful in different fields, including supply chains, crowdfunding, and secure voting. Some banks, like JPMorgan Chase & Co., are using this technology to cut costs by making payment processing more efficient.
Types of Cryptocurrency
Many cryptocurrencies are created to support activities on the blockchain they run on. For example, Ethereum’s ether (ETH) was made to pay for transaction validation and block creation. When Ethereum switched to a proof-of-stake system in September 2022, ETH also became the token used for staking.
XRP, issued by the XRP Ledger Foundation, is designed to help financial institutions move money across borders.
With so many cryptocurrencies available, it’s helpful to understand their different types. Knowing whether a coin has a clear purpose can guide your investment choices—those with a defined use tend to be less risky.
People often hear cryptocurrency names without knowing their type. Here are some common categories and examples:
- Utility Tokens: Used within a blockchain system for specific tasks, like ETH and XRP.
- Transactional Tokens: These are created for payments, with Bitcoin being the most well-known.
- Governance Tokens: Give holders voting power on blockchain-related decisions, such as Uniswap.
- Platform Tokens: Cryptocurrency supports applications built on a blockchain, like Solana.
- Security Tokens: They also represent ownership of real-world assets, like MS Token, which provides partial ownership of the Millennium Sapphire.
If you come across a cryptocurrency that doesn’t fit these categories, it may belong to a new group or require further research to confirm its legitimacy.
How to Buy Cryptocurrency
If you want to use cryptocurrency to pay for goods and services, you’ll need to visit a crypto exchange. These platforms let people buy and sell cryptocurrencies at current prices, much like the stock market. Once you purchase the coins, you can move them to a wallet or store them with a service like Coinbase.
If you’re only looking to invest in cryptocurrency, some brokerages allow you to do so. For example, Robinhood lets users buy bitcoin and other cryptocurrencies, but you won’t be able to withdraw them for spending. There are also funds that give investors access to crypto without needing to hold coins themselves. As of May 2024, people can invest in Bitcoin futures ETF shares. The SEC has also approved the trading of Ether spot shares.
Is Cryptocurrency Legal?
Government-backed currencies, like the U.S. dollar, hold value because the authorities declare them as official money. They are printed and recognized by the government for use in everyday transactions.
On the other hand, cryptocurrencies are not created or controlled by any government or private organization. This has made it challenging to define their legal standing in different parts of the world. Adding to the difficulty, most cryptocurrencies operate outside traditional financial systems, making their acceptance even more uncertain.
In the U.S.
The rules around cryptocurrencies affect how they are used for everyday spending and trading. In June 2019, the specialized Financial Action Task Force (FATF) suggested that cryptocurrency transfers should follow its Travel Rule, which requires measures against money laundering.
Even though cryptocurrencies function like money, the Internal Revenue Service (IRS) sees them as financial assets or property for tax purposes. Like other investments, profits from selling or trading them are taxable. How much tax someone owes depends on how long they hold the asset and how they use it.
In the United States, as of July 2023, courts decided that cryptocurrencies count as securities when bought by large financial firms but not when purchased by regular investors on exchanges. Supporters saw this as a win for the industry, though crypto exchanges and sales to big investors are still regulated by the SEC. While crypto is allowed in the U.S., regulators continue to gain control over the market.
As of June 2024, El Salvador remains the only country where Bitcoin is officially accepted as money. Elsewhere, rules on cryptocurrency vary by country.
In Asia
Japan’s Payment Services Act considers Bitcoin a type of property. Cryptocurrency exchanges in the country must gather details about customers and their transactions.
China has banned cryptocurrency trading, exchanges, and mining, but it has introduced its own national digital currency.
India is working on rules for cryptocurrencies, but until they take effect, crypto is not against the law. Exchanges can still offer crypto services.
In Europe
Cryptocurrencies are allowed in the European Union. However, any products or contracts that use them must be classified as “financial instruments.” In June 2023, the European Commission introduced the Markets in Crypto-Assets (MiCA) regulation. This law sets rules and protections for businesses and vendors that offer financial services using cryptocurrencies.
Is Cryptocurrency a Safe Investment?
Cryptocurrencies are known for being unpredictable investments due to scams, hacks, technical issues, and sudden price swings. While the technology behind them is generally secure, handling and storing them can be tricky, especially for beginners.
“Would you make this crypto investment if you couldn’t check prices for 6 months?”
Beyond the usual risks of investing in assets with shifting prices, here are some specific concerns for those putting money into cryptocurrency:
- User mistakes: Transactions cannot be undone once sent. It’s estimated that a large number of bitcoins are lost for a lifetime due to forgotten passwords or errors in sending funds.
- Regulation issues: Rules around cryptocurrency are unclear in many places. Some governments want to treat them as stocks, money, or both. A sudden rule change could make selling difficult or cause prices to drop.
- Third-party risks: Many investors store their cryptocurrency on exchanges or with other companies. If these businesses are hacked or go bankrupt, users could lose everything.
- Management risks: With few rules in place, some teams behind cryptocurrency projects act dishonestly. Many investors have lost money due to poor leadership or false promises.
- Technical risks: Many platforms rely on automated programs to handle transactions. If there’s an error or security weakness, people using these services could lose their funds.
- Market manipulation: Some powerful individuals, companies, and trading platforms take advantage of the lack of oversight to influence prices for their own benefit.
Even with these risks, cryptocurrency has experienced massive growth, reaching a total value of around $2.4 trillion. While investing in early-stage projects has been highly rewarding for some, it remains a high-risk venture.
Advantages and Disadvantages of Cryptocurrency
Cryptocurrencies were developed or mined with the intention to revolutionize financial infrastructure. As with every revolution, however, there are multiple tradeoffs involved. At the present-day stage of development for cryptocurrencies, there are numerous differences between the theoretical ideal of a decentralized system along with cryptocurrencies and its effective implementation.
Advantages Explained
Cryptocurrencies introduce a new way to handle money without relying on traditional banking systems or other financial institutions. In this system, people can send and receive funds directly without needing a middleman to approve or oversee transactions. This removes the risk of a single institution causing widespread financial problems, like what happened in 2008 when major U.S. investment banks collapsed.
With cryptocurrencies, sending money from one person to another becomes easier and faster. These transactions are protected using special codes and reward-based systems like proof of work or proof of stake. Since no bank or credit card company is involved, transfers can happen much more quickly than traditional methods. A great example of this is flash loans in decentralized finance, which allow users to borrow money without upfront collateral and complete the process in seconds—something often used in trading.
One of the biggest ways cryptocurrencies are being used today is in cross-border money transfers. Many people rely on them to move money across countries without dealing with extra fees or delays from banks. The process typically involves converting a local currency into Bitcoin (or another cryptocurrency), sending it to another country, and then switching it back to the needed currency—all without the involvement of a third party.
Disadvantages Explained
Cryptocurrencies might seem like a secret way to send money, but they actually leave traces that can be tracked. Agencies like the FBI can follow these trails, making it possible for governments and other authorities to monitor transactions.
Because of this, some criminals use cryptocurrencies for illegal activities like money laundering and shady purchases. A well-known example is Dread Pirate Roberts, who ran a successful marketplace for selling drugs on the dark web. Hackers also take advantage of cryptocurrencies, often using them to demand payment in ransomware attacks.
National Public Radio. “How Bitcoin Has Fueled Ransomware Attacks.”
Cryptocurrencies are supposed to be spread out among many people, with no single owner in control. But in reality, big companies and investment funds are buying large amounts and holding onto them, making ownership more concentrated.
At first, anyone with a computer and internet access could mine cryptocurrencies. But today, mining popular ones takes a huge amount of electricity—sometimes as much as an entire country uses. Because of the high costs and unpredictability, most mining is done by massive companies making billions of dollars.
From May 15 to June 15, 2024, only 61 out of 4,568 newly created Bitcoin blocks came from unknown sources. The other 99% were controlled by mining groups.
Even though cryptocurrency blockchains are very secure, exchanges and wallets where people store their coins can be hacked. Over the years, many of these platforms have been attacked, leading to losses worth millions.
Prices of cryptocurrencies change quickly, making them unpredictable. For example, Bitcoin shot up to nearly $65,000 in November 2021, only to fall to around $20,000 a year and a half later. By mid-2024, its value had climbed again. Because of these wild price swings, many believe cryptocurrency is a risky investment bubble.
Is Crypto a Smart Investment?
Crypto can be a decent option for those who enjoy taking risks and are okay with the chance of losing all their money. But it’s not the best choice for someone looking to grow their retirement savings or build wealth in a safe way.
Is Crypto Real Money?
Money is something people widely accept for trade, saving, and tracking value. By this definition, cryptocurrency counts as real money.
How Can Crypto Make You Money?
There are a few ways people try to earn from crypto. Some lend it out and collect interest. Others stake certain types to get rewards. Many just hold onto it, hoping the price goes up. None of these methods guarantee profit, but some have made money this way.
The Bottom Line
Cryptocurrencies are virtual assets protected by complex codes. Since they are a newer concept, their value can change quickly, making them a risky choice for those unfamiliar with how they work. Before putting money into them, it’s wise to learn about their unpredictable nature and the possible financial ups and downs involved.
These digital coins operate on a system that removes the need for banks, giving people more control over their transactions. However, this freedom comes with challenges, such as security concerns and market swings. Scams and fraud are common, so staying informed is necessary.
Many see these assets as the future of money, while others view them as a passing trend. Whether they will hold long-term worth is still unknown, so careful thought is needed before getting involved.