Cryptocurrency 101

5 Things to Consider Before You Make that Cryptocurrency Purchase

What you don’t know about Bitcoin can hurt you

If you are like me you have watched now for some time from the sidelines while people “in the know” buy, sell, and trade various cryptocurrencies.

You and I have heard stories of early huge gains as the value of Bitcoin skyrocketed, and then, seemingly without reason, it has fallen again — only to surge back, but not as high.

From the outside, it seems like a relatively unpredictable roller coaster ride. Perhaps one in pitch darkness, where the tracks move around, so even the experienced riders can’t effectively predict the next pitch or turn.

That said, it does not mean that there isn’t a future for cryptocurrency, in fact the idea and the surrounding technologies seem to be gaining speed hurtling forward.

The current broad market fluctuations secondary to fallout from Covid-19 notwithstanding, there is sufficient basis to consider entering the cryptocurrency market at some point, either during or after a broad market downturn.

There are two reasons, both interrelated, why you should consider investing in cryptocurrency, which for the sake of the rest of this article we will concentrate on Bitcoin as that is the most well-known and common form.

Reason Number 1 to invest in Bitcoin

The technology life cycle + the hype cycle. The technology adoption life cycle is most accurately depicted by a bell curve where the left side minority is represented by the innovators, followed by the early adopters as the curve slopes upward and over the top working down to where late adopters and the laggards finally join in.

Right now, Bitcoin is in the phase in which the early adopters are all on board, and early majority has mostly invested.

Meanwhile, the hype cycle looks different.

They hype cycle starts with a product or service innovation, raises rapidly to its peak of inflated expectations, then dips significantly in a period of early disillusionment. Then, a slope of enlightenment occurs giving rise to a gentle upslope onto a plateau of productivity.

When you layer the two curves, it looks a bit like this:

We can argue about fine points, but generally speaking I think we call all agree that Bitcoin is in the middle of the technology cycle and past the low point of the hype cycle. Now is the best time for the average (like me) investor to jump aboard.

Reason Number 2 to invest in Bitcoin

Over time the marginal cost of production has come to mirror the value — generally speaking. What this means is that the cost to produce (called mining) Bitcoin has leveled out to roughly the market value.

This is very important because it indicates a certain amount of stability and predictability, in spite of news reports that tend to focus on the extreme ups and downs.

Don’t get me wrong, it is still very speculative to invest in Bitcoin, there are inherent risks in any investment. However, there is some reassurance in the fact that the correlation of cost-to-produce has settled in around the value of the commodity.

Like throwing an apple in the air, it is very reassuring to see it come down as we expect. Now, it could still roll into the street and get smashed by a passing truck. But it is reassuring to see the action play out as expected.

So, you are ready to purchase Bitcoin (or another cryptocurrency), what next? There are five major things to consider before you purchase:

Risk tolerance

Just as it says, what is your tolerance for risk? Bitcoin is at least as risky as purchasing a single-company stock. So, if you would never risk buying a share of say, Amazon stock, then you probably shouldn’t consider Bitcoin.

If you are more inclined to the idea of spreading risk, but still interested in cryptocurrency as a commodity, you might consider an Exchange Traded Fund (ETF) such as Grayscale Bitcoin Investment Trust (GBTC) or a fund that partially invests in cryptocurrency such as the Bitwise 10 Private Index Fund.

Care, custody and control

Different Bitcoin exchanges offer differing levels of security, ways to store the Bitcoin (called wallets) and different levels of privacy. It is important to find an exchange company that offers the features you most desire.

For instance, if you want to use a hardware type wallet, you will need to assure that you can successfully transfer the funds from the exchanges cloud wallet to your hardware wallet.

Human error

Another aspect of the security of Bitcoin is keeping the keys private. Often there are no workarounds for lost key passwords. There have been several instances of people either forgetting that they even have the currency stored somewhere or forgetting the password to access the funds. An interesting illustration of this is rapper 50 Cent forgetting that he had been paid $8 million in Bitcoin in this BBC article.

New regulatory issues

So far governments haven’t solidified tax and regulatory policy surrounding cryptocurrency trading. It is important to pay attention to any tax regulations in your country and whether holding and trading cryptocurrency assets in a foreign country will require filing or registration to do so.

The tendency to treat Bitcoin differently than your other investments.

Even if you are a long-time investor, have plenty of experience in changing markets and have a steadfast investment strategy that you always follow there is still a temptation to treat Bitcoin differently. After all, it is relatively new.

If you do invest in Bitcoin or another cryptocurrency, you will want to follow whatever investment plan you already have in place.

Consider the Bitcoin as high-risk and volatile and resist the urge to sell when there is a large price drop. And don’t be tempted into day-trading to capitalize on the volatility of the commodity. Let the pros do that; and even being pros, they aren’t always that successful at it.

Conclusion

In summary, now is probably one of the best opportunities to invest in Bitcoin based on value stabilization and where the presence of the commodity lies on both the technology adoption life cycle and the product hype cycle.

Cryptocurrency can be a great investment as long as you consider it to be a part of your larger overall portfolio, have your eyes open to the reality of the commodity and do your homework before you buy.

If you liked this article, you may also like:

Timothy Key spent over 26 years in the fire service as a firefighter/paramedic and various fire chief management roles. He firmly believes that bad managers destroy more than companies, and good managers create a passion that is contagious. Compassion, grace and gratitude drive the world; or at least they should. Follow me on Instagram, Facebook, and Twitter, and join the mail list.