Here’s what to know before you invest in cryptocurrency 

In the past decade, there’s a solid chance you’ve heard the terms “cryptocurrency” or “crypto.” Maybe you don’t quite understand how digital currency works, or maybe you or someone you know is already investing in crypto. One study found 94% of cryptocurrency investors are between 18 and 40 years old.^{Disclosure 1}

Since its introduction in 2009,^{Disclosure 2} crypto has become more popular as a payment and investment strategy. A few major companies, like Overstock.com and Microsoft, allow purchases with crypto.

But is crypto investing right for you? It depends. So far, its history has been volatile, with different cryptocurrencies experiencing dramatic highs and lows, seemingly at the drop of a hat. So before you make the decision to invest in crypto, make sure you know the fundamentals, risks, and rewards of this game-changing technology.

What is cryptocurrency?

When you hear “adhesive bandage,” you probably think “Band-Aid.” Likewise, you probably think “Bitcoin” when you hear “cryptocurrency.” This makes sense: Bitcoin was the world’s first cryptocurrency and often holds the largest market share. But there are more than 10,000 other cryptos, like Ethereum, Binance, and Dogecoin, to name just a few.^{Disclosure 3}

What makes cryptocurrency different from what’s known as fiat currencies (government-issued money like the U.S. dollar or Japanese yen) is that it’s not a physical form of money, and it’s decentralized. It’s digital code that exists outside of any government or financial institution, so no one person or organization can own it.

But if there’s no oversight, how do people keep track of it? Cryptocurrency is tracked through an online ledger called a blockchain—the fundamental technology that cryptocurrencies are built on, which basically allows crypto transactions to be secure and anonymous.

Here’s how it works: Let’s say you buy a Bitcoin. Your transaction is entered into the blockchain as a “block,” which is then linked via a digital chain to all of the other Bitcoin transactions ever made, creating a sort of blockchain ledger. The record of your transaction is anonymously recorded across an entire network of computers, so anyone with access to the blockchain can see that a transaction was made. Once it’s entered, no one can alter the transaction. So, you can think of the blockchain as a permanent record of all the crypto’s transactions—a history of the currency that anyone can see, but no one can manipulate.

Because it doesn't pass through a traditional bank, crypto was initially popular with people who didn't have bank accounts or were wary of government-regulated financial institutions. In fact, one of the primary reasons Bitcoin became so popular in the late 2000s and early 2010s was because some people were skeptical of banks in the wake of the Great Recession.^{Disclosure 4}

How crypto gets its value

Crypto’s value is determined by what investors are willing to pay for it. Scarcity is, in part, what drives investors to see it as valuable. This scarcity exists because many cryptos have a quantity limit. Bitcoin, for example, now has 18.5 million coins in circulation and will cap at 21 million coins by 2140.^{Disclosure 5} So, once all bitcoins have been “mined”—the process of creating new coins by solving complex mathematical puzzles—no new bitcoins will be released. (In addition to creating scarcity, the quantity limit also prevents inflation.)

An important thing to know if you’re investing in crypto is that it’s not exactly something you can use to buy your morning latte. It’s more of a speculative investment—people buy it in hopes that it will increase in price, so they can sell at a profit.

Potential benefits of crypto investing

One thing that makes crypto appealing is that anyone can invest in it. Sometimes, you need to have crypto to buy crypto. But many exchanges, like Bitcoin and Coinbase, let you buy crypto with dollars. Theoretically, you could also create your own crypto, but since more people have gotten in on it, you’d likely need a very sophisticated computer to keep up.

Buying crypto can also be a rewarding investment strategy, as long as you proceed with caution. Its volatility means there can be dramatic highs and lows—sometimes overnight. If you’re willing to accept the big risks, you might earn big rewards. If you’re OK with the cryptocurrency roller coaster, it could be a way to diversify your portfolio. 

Risks of crypto investing

Crypto investing can be risky—especially if you put too much into it and your investments aren’t diversified. And because of its novelty, anonymity, and volatility, it can be even riskier than many other investments.

These are some of the most considerable drawbacks of crypto investing:

• Its environmental impact is under scrutiny. The act of mining cryptocurrency uses more energy than some countries’ entire populations, like Sweden and Malaysia. This has caused people like Elon Musk and Janet Yellen to speak out against the negative environmental impact.^{Disclosure 6}
• There’s no insurance. Crypto isn’t covered by FDIC insurance because it’s not transferred through banks.
• It’s anonymous. It’s very hard to track thieves or lost coins. Just ask Colonial Pipeline, a company that was forced to pay a 75-bitcoin, or $4.4 million, ransom after an anonymous hack.^{Disclosure 7}
• The lack of oversight may not last. It’s likely that regulators will begin to crack down on cryptocurrency exchange in the near future (which some argue could be good for cryptocurrencies in the long term, but nobody knows for sure).^{Disclosure 8}

If the thought of your crypto losing half its value in mere days—it’s happened before^{Disclosure 9}—makes you queasy, crypto investing may not be for you. But fear not: There are many other ways to invest with lower risk to achieve your financial goals. Retirement plans like a 401(k) or IRA are safer investment vehicles for a secure retirement. If you really want to cash in on crypto, you could also invest in stocks of companies that accept crypto, like the aforementioned Microsoft and Overstock.com.

The future of crypto

Supporters of cryptocurrency see a cashless future where crypto can act as a global currency free from government interference. But the lack of government oversight could actually pose a problem. Without backing and insurance from banks or governments, many consumers might be concerned about the currency's instability, especially if it continues to be connected to fraud or other illegal activities.

For crypto to have a presence in the future, it will need to be:

• Technologically complex to deter hackers, but easy for consumers to understand
• Decentralized, but provide consumer protection
• Anonymous, but be able to prevent illegal activities

It’s up to you whether you want to accept the risks of crypto. Just be sure that your decision will make you happy and financially healthy since crypto’s longevity is just as unpredictable as its value.