There is no beating around the bush; cryptocurrencies are complicated to beginners at first. That’s because they not only use complex technologies like blockchain to run, they also use complicated language that is difficult to understand initially. However, those are problems that do not have to persist forever. The more you read around the subject and use the terms used to discuss cryptocurrency or digital currency, the easier it becomes.
What is cryptocurrency?
Cryptocurrencies are types of digital assets. To put it very succinctly, they are digital currency which take the form of coins, often referred to as tokens. The premise behind cryptocurrencies is that they are intangible and can never be physically held. They are not to be confused with non-fungible tokens or NFTs.
They are called ‘crypto’ currencies because they are based upon cryptography or, as the dictionary defines it, the art of solving codes. That has led to cryptocurrency mines.
What is a cryptocurrency mine?
Cryptocurrency mines are usually made up of several highly sophisticated computers that are trying to solve codes that result in a cryptocurrency token or coin. While it can just take one computer to do that, the reality of the situation is that mining for cryptocurrency is an incredibly complex thing to do, which is why so many computers are required to do so. The complex codes that cryptocurrencies use allow them to be passed across decentralised systems and traded once they have been mined.
What can I do with cryptocurrency?
Despite their decentralised nature, cryptocurrencies can be used to buy products and goods. If a vendor accepts them as a form of payment, they are a means to purchase many items. A good example would be Tesla, who accept Bitcoin as a form of payment for their cars.
It is also possible to trade cryptocurrencies on cryptocurrency exchanges through a platform. Doing so is similar to how you would trade stocks on the stock market or currencies like the Euro or the U.S. dollar in the FX market. Essentially, you buy a cryptocurrency at a price point you think is attractive and you sell it when it hits a level you think is high enough for you to take profits (or not so low that you cut your losses).
What is a cryptocurrency wallet?
While you cannot physically hold a cryptocurrency, you still need a cryptocurrency wallet to keep your crypto assets safe. A crypto wallet is a place to store your private keys. Private keys are passwords that allow you to access your cryptocurrencies.
Crypto wallets take many forms. Some crypto technology has set up hardware wallets that are akin to a USB stick. Increasingly popular, however, are apps on a person’s digital devices like the Coinbase Wallet or a Revolut wallet. By having them on an app in a person’s phone or digital device, it means that using cryptocurrency to buy goods online is similar to the process of buying goods with a credit card.
Crypto wallets do not, importantly, technically hold your digital assets. Your digital assets are actually held on the blockchain, which we discuss below. What cryptocurrency wallets provide users is somewhere safe to store those all-important private keys that allow you to access your holdings on the blockchain.
What is blockchain technology?
So, given that cryptocurrency holdings are held on the blockchain, what is it? On a very simplistic level, the blockchain is the technology that runs cryptocurrencies like Bitcoin or Ethereum. Blockchain works like a ledger that lists all the transactions of a cryptocurrency. So Ethereum blockchain, for example, will have on it the history of each and every time a person was either sent an ‘Ether’ or received one.
What makes that so crucial to cryptocurrencies and why they have soared in popularity is that using technology like the blockchain means that individuals do not need banks or credit cards to transfer their wealth or make purchases online. Cryptocurrency users argue that it is, in fact, safer to transfer wealth and partake in transactions online using digital assets powered by blockchain technology as they rely on that aforementioned complex cryptography.
Other advantages to blockchain technology would be:
- Its global nature (you do not have to exchange cryptocurrency for another currency to purchase something from an individual in another country)
- It is open-source. While that may sound like another jargonesque term, it is crucial to cryptocurrency. As all transactions are on a public ledger, it eradicates the potential for transactions being changed mid-flow or money supply being ‘massaged’.
- Its privacy. Every time you buy something with a credit card, you have to enter your personal details. That is not the case when buying services or goods with cryptocurrency.
Different types of cryptocurrency
There are many different types of cryptocurrency within the cryptocurrency market. If you want to buy a cryptocurrency and partake in cryptocurrency investing, it is crucial that you evaluate each potential option as you would any other investment. Weigh it up in relation to your own specific circumstances. What are the pros? What are the cons? Is it on balance a risk worth taking given your situation?
Providing a truly exhaustive list of cryptocurrencies is almost impossible. There are thought to be over 12,000 in digital circulation at the moment, with more being established every day. However, here are the most popular cryptocurrencies at the moment.
Bitcoin is, without a doubt, the most famous of all cryptocurrencies. Its market cap currently stands at around $900billion. Bitcoin is believed to be the first cryptocurrency invented by a person or entity called Satoshi Nakamoto, the Banksy of the cryptocurrency world. No one knows exactly who it is! Bitcoin’s popularity has risen exceptionally since its inception despite its mysterious beginnings. At the time of writing, its highest valuation was above the $60,000 market for just one coin. Bitcoin has various offshoots like Bitcoin Cash.
Ethereum is the second largest cryptocurrency out there. It runs on an open-ended decentralised platform. It has its own programming language, which helps facilitate smart contracts and the creation of decentralised applications. Ethereum tokens are called Ether, and they can be seen as a means to work on the Ethereum platform to develop apps. Market commentators claim it has the potential to be more than just a digital currency due to how it is structured.
Dogecoin is a peer-to-peer cryptocurrency that is also open-source. Its emblem is a dog on a coin and it is thought it was invented by its creators almost as a joke. Despite its joke beginnings, the currency still has a market cap of around $22billion. It has an unlimited supply, which is more unusual in the cryptocurrency world, and around 5 billion Dogecoins will enter the Dogecoin system each year.
Litecoin was invested to try to tackle some of the issues with Bitcoin. Namely, it was intended to be more affordable and also have the ability to complete transactions more quickly. Like Bitcoin, it has a capped coin supply, though it has 84 million coins in circulation as opposed to Bitcoin’s 21million - hence why it is cheaper. However, it still takes a great deal of computing power to mine Litecoin.
Binance Coin (BNB)
Binance Coin is the digital currency that is issued by the Binance exchange. It was initially based upon the Ethereum network when it was first established. It now allows holders to pay for transactions and trading fees that are at a lower rate than if they were to use other tokens on the exchange. There is also the coin Binance USD that the same entity has created. It too has a capped supply of 200 million BNB tokens.
XRP is the digital currency that was created by a company called Ripple Labs. It runs on blockchain technology like Bitcoin, however, it acts as a cryptocurrency but also can work like a digital payment too that you will be far more used to using. For example, it acts very similarly to the SWIFT system which allows international money and security transfers. One of its other big differences is the fact that as opposed to mining, it uses something called a consensus mechanism to confirm transactions.
Bitcoin runs on a proof-of-work mining system, Cardano runs on a proof-of-stake blockchain. So, what does that really mean? Proof-of-work is a labour intensive, high energy-consuming process used to mine tokens or coins. Proof-of-stake reduces the amount of energy required as the algorithm it uses is far less intensive. It is in no way less secure, however, and in fact, some cryptocurrency market commentators argue that Proof-of-Stake is less risky.
How do I trade cryptocurrency?
If you want to buy cryptocurrency and sell it in the hope that you make a good return to grow your wealth, you need to know how to trade it. Technically speaking, there are three ways to trade cryptocurrency.
Firstly, you can sell an item and receive payment for it in a digital currency of your choice. Secondly, you can buy and sell digital currencies on an exchange through a trading platform. Thirdly, if you think it will be cheaper for you to do so, you can mine for your chosen currency using intelligent computer software. However, doing so can sometimes be just as expensive as buying cryptocurrencies on exchanges. That’s down to the energy consumption involved in mining as well as the cost of the hardware and software needed to mine it anyway.
The reality of the situation is that most people will choose buying and selling cryptocurrency on a trading platform for ease. You do not want to be trading cryptocurrency through platform providers that hinder your ability to buy and trade effectively. To do that, you must research your chosen cryptocurrency as we suggested above and pick a platform that supports your investment style and technological capabilities. It is also a good idea to investigate buying Cryptocurrency through PayPal or Revolut, which can be an easy way to access digital currencies for the first time.
Advantages to cryptocurrency
If you are considering investing in cryptocurrency, there are a number of advantages that the asset can provide you.
Hindsight in investing is always 20 20. If you had bought only a couple of Bitcoins when they were first established, you would be sitting on a total fortune right now. However, there is still potential for high returns in a short space of time with Crypto. That’s because the asset class as a whole is exceptionally volatile. That means you can stand to make large gains quickly. For example, compared to where Bitcoin started the year, there have been times in 2021 that it has been twice its January 1st valuation.
One of cryptocurrencies biggest advantages is the fact that it is decentralised. That means that no one Government is there to provide it with oversight and it sits outside the traditional banking system. As a result, it is less sensitive to monetary policy from a Central bank like a traditional currency will be. Plus, many people simply like being free from the prying eyes of a central authority.
One added benefit to the blockchain technology that cryptocurrencies run on is the fact that it is totally anonymous. Suppose you don’t like putting your name to your assets that have an audit trail back to you specifically. In that case, that can be a big benefit, particularly when coupled with the fact that cryptocurrency is decentralised.
Diversifying a portfolio with several different types of holdings or asset classes is a good way to help mitigate risk. By investing in several asset classes at once, you are making your portfolio less sensitive to the news cycle. Bonds and stocks react to Government announcements differently for example. Diversifying is, therefore, simply the practical enactment of not putting all your eggs in one basket. Cryptocurrency offers you another means to diversify your portfolio as its price fluctuations are dependent on different influences to other traditional asset types.
Disadvantages to cryptocurrency
Of course, there are disadvantages to every type of investment. Cryptocurrency is by no means the exception. The main disadvantages of cryptocurrency are:
Cryptocurrencies are eye-wateringly volatile. That makes investing in them that little bit more difficult as it makes deducing what truly impacts their prices hard. When something bobbles around as much as some cryptos do, it can be hard to decipher how it may move in future. That’s because it can be difficult to extract any type of meaningful story from an asset whose price moves so erratically. Additionally, it simply means that there is the potential to lose a vast amount of wealth in any one day. If you are nearing the end of your investment timeline, and heading for retirement, that is perhaps not something you want for your portfolio.
While one of the asset class’s biggest advantages is that it is decentralised, the repercussion of that is that it means that it is unregulated. Therefore, if you become embroiled in any one of the scams out there right now, there is very little that the Financial Conduct Authority, or any other regulatory body can do to help you.
To some, the high-risk nature of cryptocurrency is just one step too far. Many cryptocurrencies come with some pretty high price points and it can be difficult to get to the bottom of whether those prices really offer value for money, and therefore whether prices are undervalued or overvalued. Traders often try to get around that by partaking in sentiment trading - where they use past support levels to inform their trading decisions. However, If you are new to trading cryptocurrency, it can be tough to dedicate the time to such a trading strategy.
A beginner's guide to cryptocurrency - what’s all the hype about?
The hype with cryptocurrency is arguably down to two things. Firstly, it is new and innovative and therefore exciting as a consequence. Secondly, it moves around from such grandiose highs to such epic lows, that it does provide people with the ability to generate some substantial and meaningful real returns. That volatility always has the potential to create attention-grabbing headlines, which in turn adds to the hype. Headlines or no headlines, if you are thinking about investing in crypto, make sure you know your stuff and that, even if it is an exciting prospect, it is a prospect that works for you.