So, you want to learn how to invest in cryptocurrency? Then you have arrived at the right place on the internet. In the following, we aim to take you from zero to hero in cryptocurrency investing.
Disclaimer: This article is for educational purposes only. It should not be regarded as professional financial or tax advice. You are responsible for any investments you make.
Table of contents:
- Introduction to cryptocurrency investing
- Why invest in cryptocurrency?
- How to invest in cryptocurrency?
- Is there a good time to buy?
- How to store cryptocurrency?
- Cryptocurrency risks
- What about taxes?
Introduction to cryptocurrency investing
As with any investments you should not just jump into cryptocurrency investing without knowing the ins and outs of it. But just hang in there and read this guide. You will know exactly how to invest in cryptocurrency when you are finished.
What is cryptocurrency?
Cryptocurrencies are a medium of exchange. And just like dollars, euro or other so-called fiat money, they allow people to make purchases and store value.
Opposed to fiat money, cryptocurrencies are not controlled by any government. Instead, they are controlled in a decentralized way.
This means that the control of money is in the hands of the people and not the governments.
At this point, you might wonder why that even matter and why cryptocurrencies can be a better alternative to normal money.
We’ll get back to this later. But first, let’s take a look at how the market has developed over the past years.
How have cryptocurrencies performed as an investment?
It is no secret that cryptocurrency investing has made a lot of early investors rich. Like really insanely rich.
Just take a look at this chart of the total cryptocurrency market capitalization from early 2013 to late 2018.
Over a 5 year period, the market capitalization shot up from $1B to a staggering $200B.
You can’t of course not invest in a market index. But if we take a look at bitcoin, the biggest cryptocurrency according to its market cap, it saw a similar increase during the same time period:
From early 2013 to late 2018 it rose from around $100 to around $6.000. That’s a rough 5.900% return on investment over a time period of a little more than 5 years.
Comparably the American stock market index S&P 500 has risen about 70% in the same timeframe.
But even though cryptocurrency investing has made a lot of people very rich, you should be aware that investing in cryptocurrencies is very high-risk.
Why invest in cryptocurrency?
Before getting into how to invest in cryptocurrency, let’s take a look at why and if you even should invest in them.
In order to get an idea of why it might be a good idea to invest in cryptocurrencies, you have to understand what money is and how it works.
What is money?
In ancient times, before money even existed, people relied on barter in order to exchange things. This meant that farmers would trade their excess corn for clothes, or whatever else they needed. So in order to obtain other things than the things people made themselves, they would have to trade with each other in a very direct way.
This changed as silver and gold coins were introduced around 600 BC. Now people exchanged their excess stuff for coins and bought what they needed for those same coins. It was a better solution, as the coins could last longer than fish or corn. They were more durable. But still, the coins had value, as the commodity itself was usable.
Coins later evolved into notes, with a promise that one could get gold in return for the notes.
But in 1971 this changed as President Nixon took the US dollar off the gold standard. This meant that the US dollar no longer had any value other than the perceived value.
Money without intrinsic value is called fiat money. Having turned the US dollar into fiat money allowed the government to print more money, without having to dig up a specific amount of gold in order to do so.
But whenever new money is printed, existing money loses its purchasing power.
How much money that is printed is up to the governments and central banks around the world. So they effectively decide how much your money losses in value. The higher the inflation, the more value is erased from existing money.
Today, fiat money is the standard of money globally.
4 traits of money
We have now looked at the history of money in order to get an idea of the use of money. In practice, you can’t just use anything as money. So in order to determine if something can be used as money, including cryptocurrencies, it has to have these four traits:
Firstly, money has to be divisible in order to be practical to use. Just imagine that you couldn’t use anything lower than 1 dollar to pay for a piece of bubblegum. It would not be ideal. Therefore, we have cents in order to make the currency more divisible. Even gold can be divisible by dividing it into smaller pieces.
Secondly, money also has to be durable. So it’ll have to not just disappear into thin air. Durability is what makes money useful in the first place, as it can’t rotten like a fish for example.
Thirdly, money has to be fungible. This means that one unit of the money has to be interchangeable with another unit of the money. For example: 1 USD = 1 USD, and 1 BTC = 1 BTC.
Finally, it’s important for money to be verifiable. Else you’d just be able to make counterfeits, which would take away trust from the currency.
Cryptocurrencies live up to all of these 4 traits. Furthermore, cryptocurrencies like bitcoin are also limited, as there will only be a maximum of 21 million bitcoin.
So just like when money was tied to commodities like gold government, it is not possible to just make a lot of new bitcoins.
Which problems does cryptocurrency solve?
So cryptocurrencies have the same traits as currently used fiat money like the dollar. But what main problems does cryptocurrencies solve?
- Banking the unbanked
- Cross-country transfers
- Can’t be counterfeited
Let’s go over these main problems that cryptocurrencies might be able to solve:
1. Banking the unbanked
Around 1.7 billion adults worldwide don’t have access to a bank account. But as there are no or few requirements to be able to have cryptocurrency, they make it very easy for anybody to have access to virtual banking without government permission or control.
Normal fiat money is controlled by governments. And this can make their currencies victim to monetary policies and inflation. Just try to take a look at what has happened in Venezuela in recent years.
Basically, their currency has been experiencing hyperinflation due to massive printing of money. Therefore, the currency becomes less and less worth on a daily basis.
With cryptocurrencies, you won’t see massive hyperinflation like in Venezuela. This is because cryptocurrencies like bitcoin handle the problem of inflation by only releasing a predetermined amount of new currency over the years. And since the amount of new currency is predetermined, more than that can’t just be made.
3. Cross-country transfers
Have you ever tried to make a transfer to another country? Then you’ll know how unideal that is at the time being. It costs an unnecessarily high amount of money while taking at least a day or two to arrive.
Cryptocurrencies can solve both of these problems, as it is possible to send money cross-country with lower fees. Furthermore, the funds will be available in another country within seconds.
4. Can’t be counterfeited
A lot of things have been done in order to prevent counterfeiting normal physical fiat money. But it is still possible doing so.
Cryptocurrencies solve this problem by tracking all transactions on publicly available ledgers. This means that counterfeits aren’t possible as new fake money simply can’t appear and be confirmed on the ledgers.
As we have now taken a look at what solutions cryptocurrencies bring to the table, it’s now time to learn how to invest in cryptocurrency and what options you have of doing so.
How to invest in cryptocurrency?
It is possible to invest in cryptocurrency in numerous different ways, and even more are bound to come in the future. There are in general two different methods you should distinguish between:
1. Buy cryptocurrencies directly
Buying cryptocurrencies directly is the preferred method of investing in any cryptocurrency if you want full control over your investment. Let’s dive further into which ways you can buy cryptocurrencies directly:
Buying cryptocurrencies on an exchange is our favorite method for buying cryptocurrencies as it provides the most security of different methods. For beginners, we recommend Coinbase, as it’s the most well-tested and secure cryptocurrency exchange out there. It is also available for the vast majority of investors.
If you want to check out different exchanges, we have included a selection of exchanges for cryptocurrencies:
In the US:
If you buy your cryptocurrencies on an exchange, you should probably remove it from the exchange itself for improved security. Read on as we’ll teach you how to store your cryptocurrencies safely later in this guide.
Buying cryptocurrency using an ATM is a great option. It is not available for all investors as cryptocurrency ATMs are still to be as widespread as normal fiat money ATMs. If you are interested in buying through an ATM, you can find the nearest and more information at coinatmradar.com.
Buying through an ATM can be a really cool experience, but we still recommend using exchanges.
From other people
Another possibility is buying cryptocurrencies from current holders of your desired cryptocurrency. But as a lot of people has been scammed this way, buying cryptocurrencies from other people might not be the best idea. Especially for beginners.
2. Buy cryptocurrencies indirectly
This method of buying cryptocurrencies may add a perceived safety of owning regulated investment products. But buying cryptocurrencies indirectly is critiqued a lot in the cryptocurrency community. And for good reasons. Basically, it all comes down to this saying in the crypto world:
Your keys, your Bitcoin. Not your keys, not your Bitcoin.
Buying cryptocurrencies indirectly can offer easier taxes. However, it takes control of the currency away from you as you don’t have your own keys. Therefore, you are depended on a third-party, which somewhat takes away the idea of cryptocurrencies. Furthermore, you won’t be able to use the cryptocurrencies as a method of payment if you buy them through an investment vehicle.
Through an investment trust
It’s currently possible to invest in cryptocurrencies through investment trusts provided Grayscale. Some of the Investment trusts are traded on the stock market. Grayscale manages cryptocurrency investment trusts of the following cryptocurrencies:
Grayscale charges an annual fee for running these investment trusts. And the trusts are often traded at a premium. In order to avoid paying high premiums and fees, there is no way around buying cryptocurrencies directly.
Is there a good time to buy?
As with any investments, it’s hard to know when it’s a good time to buy. But in general buying at an all-time high should be avoided. Especially if you start having a fear of missing out, also called FOMO.
From time to time people start to FOMO and start dreaming about soon being able to buy that house or quitting their jobs by only investing for a few months the market. It happened in 2013 and in 2017. These are the times NOT to buy, as absolutely no market is going to make everybody rich. Especially not in a short amount of time.
This is especially true if you what to invest a lump sum in cryptocurrencies. Investing a lump sum can result in two different outcomes. Either your investment goes up or it goes down. And as you never know if a market will go up or down, entering the market at only one point can be more a gamble than smart investment move.
Dollar cost averaging
If you have decided to invest some of your money into cryptocurrencies, it might be a good idea to use dollar cost averaging, instead of just investing a lump sum of money.
By definition, dollar cost averaging makes you buy the largest amount of an asset when it’s cheap while buying less when it’s more expensive.
You dollar cost average by every month or so investing a specific amount of dollars into an investment. You could, for example, decide that you want to invest a specific percentage of your monthly income into cryptocurrencies every month.
By sticking to a dollar cost averaging plan, you will avoid any headaches about when you should or should not buy cryptocurrency.
But you might wonder how well a dollar cost averaging plan have worked in the past?
Dollar cost averaging bitcoin
In the following, we’ll take a look at how dollar cost averaging have worked out for bitcoin since the peak in December 2013. We’ll assume that one would have invested $500 at the start of every month throughout the period.
Let’s take a look at how the investment performed in both a falling and thereafter rising market:
If you have decided that you want to buy cryptocurrencies, and think that they will increase in price over the long term, we recommend just making a simple plan to invest a specific amount of money every month. Then you will just have to stick to the plan through thick and thin.
Setting up a dollar cost averaging plan is the most practical way to invest in cryptocurrencies.
How to store cryptocurrency?
Learning how to invest in cryptocurrency also involves learning how to properly store them in a safe and secure manner. You have several options on how you can go about this.
First and foremost, we recommend keeping your cryptocurrencies off exchanges. Basically, we recommend this because a lot of people over the years have lost their cryptocurrencies due to hacker attacks of the exchanges. You will learn more about exchange risk later in this post, where we go more in-depth with some of the biggest cryptocurrency risks.
Instead of keeping your cryptocurrencies on an exchange, we recommend keeping them in so-called cold storage.
Opposed to hot storage, cold storage is all the types of storages where hackers can’t gain access to your cryptocurrencies. So basically cold storage is a way of keeping your cryptocurrencies offline.
Let’s go over some of the best types of cold storage for your cryptocurrencies:
Using a hardware wallet is the best way of storing your crypto assets if you want a great way of storing many different cryptocurrencies in an easy and highly secure way. The only drawback is that you will have to invest a bit of money in acquiring a hardware wallet.
Important: Never ever buy a used hardware wallet, as the previous owner can still have access to the hardware wallet and therefore also all the cryptocurrencies you store on it. A lot of people has been scammed this way by buying a previously owned hardware wallet.
Best hardware wallets:
As cryptocurrencies still are a very new thing, and new cryptocurrencies enter the market on a daily basis, not every cryptocurrency is supported by hardware wallets, so remember to check which cryptocurrencies your hardware wallet supports before sending your cryptocurrencies to it.
If the cryptocurrency is not supported on the hardware wallet, and you try to send it to the wallet, the cryptocurrency can be lost.
A free alternative to hardware wallets is paper wallets. We recommend storing your cryptocurrencies on paper wallets if you only buy a very few types of cryptocurrencies, and want a free alternative to the hardware wallets.
Remember to check if the paper wallet you use supports the cryptocurrency you want to store on it. If you try to send a cryptocurrency to a non-supporting address, the cryptocurrency can be lost forever.
Commonly used paper wallet generators:
After creating a paper wallet, make sure to keep it in a safe place. If somebody finds it, they’ll have access to your valuable cryptocurrencies.
As with any other investments, knowing the risks of what you are investing in is crucial in understanding your investment. So let’s take a look at a few of the biggest risks in cryptocurrency investing:
1. Price volatility
The fact that the price goes up and down with very high percentages makes currencies very risky. Imagine that you in bought a cryptocurrency and it a few months later has lost 50-90% in price. This happens all the time with cryptocurrencies.
These massive price swings can be very hard to stomach for most people. And therefore a lot of people end up selling their cryptocurrencies, despite the fact that the cryptocurrencies often rise to even higher levels than before a fall in price.
This high volatility also makes cryptocurrencies hard to use as a currency, at least for now, as most people and merchants desire relatively stable currencies to settle deals in. But some people argue that as more money gets into cryptocurrencies, they’ll be more stable down the road, thus making it possible to use it as a stable currency.
2. Lack of safety mechanisms
Cryptocurrencies don’t have any safety mechanisms, due to their decentralized nature.
So if you lose your keys, your cryptocurrencies will be gone with them. The same thing applies if you send the cryptocurrencies to a wrong address. No one can give the cryptos back to you, even though it’s clear that you sent the cryptocurrencies to the wrong address.
So investing in cryptocurrencies come with the responsibility of making sure that you send your cryptos to the right address, as well as keeping your funds totally secure at all times.
3. Exchange risk
Being highly valuable, cryptocurrencies are often tried to be stolen by hackers. Particularly on exchanges.
A very bad example of an exchange being hacked is Mt. Gox. In its active time, Mt. Gox was the single largest crypto exchange on the planet. But due to a security breach, a hacker managed to steal a large number of bitcoins on June 19, 2011. This caused a lot of clients funds to be lost, which lead to Mt. Gox declaring bankruptcy.
Mt. Gox statued an example on the importance of keeping cryptocurrencies off exchanges. Furthermore, the hack of the exchange lead to price changes in the market.
The risks of exchanges are not as big of a threat to the cryptocurrency space as it previously was, as no exchange has processes that high a percentage of the market as Mt. Gox did. However, centralized exchanges are still a risk that is to be considered.
But as we wrote about previously in the post, exchange risk can be countered by moving your cryptos out of the exchange itself, and into a form of cold storage.
Cryptocurrencies provide a real threat to the institutions currently in charge of our money. There will always be a risk that they will try to regulate cryptocurrencies out of existence. The main risk involves taking down a cryptocurrency.
However, undermining any major cryptocurrencies will require a LOT of effort, due to the decentralized nature of cryptos.
5. Lack of adoption
No cryptocurrency is yet perfect and ready to offer a truly ideal and superior alternative to normal fiat currency. But developers are working hard on different projects to try to come up with increasingly better solutions for an ideal cryptocurrency. Whatever cryptocurrency or cryptocurrencies it might be.
Even though developers in the cryptocurrency space might come up with a better alternative to conventional currencies, there will always be the risk that it will not be adopted.
One of the risks is therefore that cryptocurrencies will not be adopted by the mainstream.
5. Black swan event
Cryptocurrencies are a relatively new thing. The first cryptocurrency Bitcoin has only existed since 2009. Therefore, it is not impossible, that a black swan event will occur and surprise the cryptocurrency space at some point in time.
In other words, you don’t know what you don’t know.
What about taxes?
Dealing with taxes on cryptocurrencies can be difficult depending on where you live. At the time being, only specialized tax consultants know how to properly do taxes on cryptocurrencies.
However, as cryptocurrencies move toward being more mainstream, it’ll probably be easier to deal with taxes on them in the future, when governments have decided how cryptos should be taxed.
It’s often questioned whether taxation on cryptocurrencies should be handled as a form of currency or a form of security. So until that is settled, it can be somewhat tough to know how much you are going to end up paying in taxes.
It’s expected that it’ll become possible to deal with taxes on cryptocurrency the same way you deal with taxes on other investments like stocks and real estate within a few years.
So dealing with taxes on cryptocurrencies should hopefully be of no struggle within that timeframe.
For now, conventional exchange-traded notes as are probably easier to do taxes on, but here you’ll still have to trust a third party with your private keys.
Where taxes become messy
You should always keep track of all your investments in cryptocurrencies. Being able to prove at what time and price you bought a given currency is a necessity with taxes.
But this can become really messy. Imagine for a moment that you bought bitcoin at a price of $10.000. This would be relatively easy to do taxes on. Especially on an exchange like Coinbase, where they provide you with your whole transaction history.
If you instead wanted an altcoin that is not traded for the currency you do your taxes on, fx. the dollar, you’d have to buy it for bitcoin or another cryptocurrency. This can lead to a lot of headaches as you’d have to individually calculate the different costs in the different currencies and apply it back to the currency you do taxes in.
It can, of course, be done, but imagine that you do a lot of trades. Here you’d have to do the calculation of the taxes individually on every transaction.
So in order to make your taxes as simple as possible, we recommend doing so few trades as possible. Especially as not every single rule in the taxation of cryptocurrencies are settled in stone – yet. Buying and holding cryptocurrencies opposed to can both be more reward and save you a lot of headaches down the line.
Remember: Taxes should always be paid according to local laws.
Investing in cryptocurrency can be a smart move if cryptocurrencies start to be used as payments. Rationally, there are a lot of ways that makes cryptocurrencies a better type of money than normal fiat money. So it’s very possible, that cryptocurrencies one day will be used instead of traditional money.
If you want to get started investing in cryptocurrencies, the best way is probably by starting just buying some Bitcoin. You can do so on Coinbase.
After that, you can eventually send it to a paper wallet or maybe even use it for a payment. This way you get your foot inside the cryptocurrency space, in an easy way. Later on, and after understanding the ins and outs of the space some more, you can try buying some altcoins.
We hope that this guide gave you a better understanding of how to invest in cryptocurrency. If it did, feel free to share it.