Crypto has warmed its way into just about every mainstream conversation. With the blockchain industry and digital currencies hitting peak popularity, developers are starting to invest in financial infrastructure to ensure round-the-clock access to top-end services and product offerings. As this continues, more individuals and professional investors are finding new tools needed for protecting and managing their crypto assets.
New markets are being developed to encourage trading crypto futures, especially as more businesses permeate the cryptocurrency space. For instance, financial industry giants like PayPal and Block have made it easier for users to trade crypto assets via their platforms.
When it comes to answering the question “Is crypto a good investment?” The answer is more nuanced than a direct yes or no. Since the first mainstream cryptocurrency entered circulation in 2009, many have profited from the venture, particularly during the late 2010s to early 2020s. That shows that crypto isn’t an entirely useless asset class.
However, there have been innumerable losses due to price crashes and irrecoverable accounts, among other elements—which shows that crypto isn’t immune to the risks of investing either. More on this in the next header.
But the biggest challenge with cryptocurrencies is the hype. Fewer things have been hyped as much as crypto assets in the last four years. Every corner of the internet has someone trying to sell you on the potentials of cryptocurrency or non-fungible tokens (NFTs) or decentralized finance (DeFi).
The calamitous effect of this hype is that it blinds investors to the true nature of cryptocurrency: high risk, high reward. Instead, all they see is the potential to make big bucks in record time, forgetting that the unpredictability and high volatility of this asset class require a staggering risk tolerance.
Risks of Investing in Cryptocurrency
There are several risk factors to consider before investing in cryptocurrency. Here are a few to give you a feel of what the asset class holds:
Zero Cash Flow
In traditional investing, cash outflow is only an investment if it returns cash inflows in the future without having to sell the asset. For example, if you invest in a property, either through ownership or a real estate investment trust (REIT), future cash inflow will come in as rent or dividends, and you will still own your property or shares.
However, it’s a different ballgame with cryptocurrencies. You can’t expect any cash flow without first selling the asset. Even then, there’s no guarantee you will make a profit. The only time investors make gains is when they find someone willing to buy their assets for a higher price, making them probe the whims of the market and buyers.
Many have posited that cryptocurrencies are the future of money as we know it. But that might just be sensationalist speech. Yes, crypto has helped us reimagine what money could be like and cast a spotlight on glaring holes in our financial system. However, it’s no one-size-fits-all solution itself. For something to be considered a currency, it must be in circulation, so people can trade it for products and services. In this case, said thing is a medium of exchange and doesn’t represent any inherent value.
Cryptocurrencies, rather than being circulated, are mostly hoarded by investors pending the time they increase in value. So, should investors believe that the price of a coin will balloon in another five years, they are more likely to hold on to their hoard than use it. This method of usage shows that cryptocurrencies are more speculative than currency-like.
No Asset Backing
For a medium to be considered a currency, it must have some underlying value. So, while it doesn’t necessarily represent value in itself, its value is tied to something else. For instance, silver and gold are considered valuable, and their prices are tied to their rarity and previous use as a means of exchange in older civilizations. Fiat currencies, on the other hand, run on the faith of its users and the backing of its issuers (the government). Cryptocurrencies have none of these backings. Its value is speculative and dependent on market forces and hype. Take the rise of Dogecoin in 2020 following a tweet from Elon Musk.
Cryptocurrencies aren’t entirely risky, though, and present a range of benefits that could appeal to some investors.
A major selling point for cryptocurrencies is that they are decentralized, which keeps the asset in check and prevents monopoly. Thus, the value of the asset is determined by its flow in the market, which allows for a secure and transparent value system, unlike fiat currencies whose value is mandated by the government.
Privacy and Security
Cryptocurrencies were developed to address privacy and security concerns in the traditional financial system. Hence, the use of blockchain technology encrypts transaction data through complex mathematical puzzles. That makes crypto safer for transactions than their electronic counterparts.
The rising inflation rate has crippled many fiat currencies, triggering value declines globally. When cryptocurrencies are launched, they are introduced into the system fast and in fixed amounts. The developers determine the number of coins available for mining and in circulation. For instance, the maximum amount of Bitcoin available for mining is 21 million. This fixed amount coupled with increasing demand creates the value base of cryptocurrency, helping to maintain market conditions and hedge against inflation over time.