Introduction to Cryptography: Here’s What You Need to Know Before Investing in Bitcoin

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By Jeanne Sahadi, CNN Business

Let’s be honest, the advice to “invest in what you know” is hard to follow when you are trying to build a diverse portfolio.

So even if you’re someone who can’t define blockchain to save your life, you might be wondering if you should have at least a little crypto exposure in your wallet.

After all, institutional investors and the big banks have started to take it seriously. And it’s hard to miss the meteoric rise in the prices of bitcoin and other digital currencies over the past few years.

If you had bought bitcoin in early April 2017, for example, you could have seen a 3,700% return in just four years.

But there have also been a lot of price drops along the way. If you had bought in mid-April of this year, you would have lost over half of your investment in just four months.

So if you’re tempted to invest, here’s what to consider before you take the plunge.

It is a highly speculative investment

Generally speaking, there is no intrinsic value underlying most cryptocurrencies.

Unlike a stock, for example, they don’t track the growth potential of a real world business selling real world products and services. Nor do they track the value of a natural resource like a traditional product does.

(An exception are so-called stable coins such as tether, USD Coin, and USD binance. These are cryptocurrencies tied to the value of the US dollar, euro, and other forms of fiat currency, making them less expensive. volatile than unrelated cryptocurrencies.)

Moreover, none are accepted as legal tender anywhere, except in El Salvador, which in early September adopted bitcoin as its national currency alongside the US dollar.

So, by investing in a digital currency today, “your only source of return is to bet that someone else will be willing to pay more for it. [it] in the future than you did, ”said Matt Elliott, Minnesota-based chartered financial planner.

This could be a fair bet given the growing interest of the general public in crypto, especially with some of the biggest currencies like bitcoin, which has a market cap of almost half of the total crypto universe, according to Charles. Schwab.

But it’s just as fair to assume that many cryptocurrencies will go up in flames, much like so many companies have in the dot-com era, the Newly-based chartered financial analyst noted. York Ryan Sterling.

“On the upside, we could see a 10x return over the next five years. Having said that, we would not be surprised that they are worth nothing in five years, ”he said. noted.

Don’t bet what you can’t afford to lose

While not a huge fan of crypto, Sterling sees it as something that in very small doses could help clients diversify more, as it performs very differently from stocks and bonds.

Sterling advises interested clients not to invest more than 2% of their liquid portfolios in digital currencies. In other words, they should only invest a small percentage of the money they have beyond their home equity and their retirement and education savings.

“By investing 2%, they feel like they are participating, but not so much that it creates problems,” Sterling said.

Elliott suggests devoting no more than 5% of your overall portfolio to speculative investments of any kind, including crypto, but only if you have little to no debt and are willing to accept the risk of losing what you have. invested.

Arizona-based certified financial planner Christine Papelian believes direct exposure to crypto is too volatile for her clients, who invest primarily for their retirement

But she said she reminded clients that they may already have some indirect exposure to crypto assets through investments in tech companies that invest in blockchain technology, enabling the crypto trading universe to work. Or investors can have exposure through actively traded mutual funds and exchange traded funds, which themselves may have crypto or crypto-related companies, like Coinbase, in their portfolios, Papelian said.

There are very few protections

Another factor to consider: direct ownership and transactions with crypto assets are mostly unregulated and offer very little consumer protection.

“We just don’t have enough investor protection in the financing, issuance, trading or lending of crypto. …[I]It’s more like the Wild West… This asset class is rife with frauds, scams and abuse in certain applications, ”SEC Chairman Gary Gensler noted in written testimony to Congress.

The rules for how to report and pay tax on crypto assets are also in their infancy. But the the regulations that currently exist become especially onerous if you ever decide to buy something with the crypto you own.

Rules and regulations are likely to increase in the foreseeable future. And that could affect the prices positively or negatively.

Easier ways to get exposure

Unless you are comfortable buying cryptocurrency directly and storing it in a secure digital wallet, there are easier ways to access it.

Sterling typically invests its clients’ money in bitcoin and Ethereum trusts operated by Grayscale, currently the world’s largest digital currency asset manager.

If you are not working with a financial advisor, you can also gain indirect exposure by purchasing stocks in grayscale funds and other third-party crypto investment products. in the OTC secondary market through certain large retailers trading platforms, such as Schwab.com and Fidelity.com.

The company’s most popular fund – the Grayscale Bitcoin Trust (GBTC) – will likely become an ETF, if and when the SEC approves bitcoin ETFs in the United States. But in the meantime, it will meet the same SEC reporting and disclosure requirements that ETFs operate under today, said Michael Sonnenshein, CEO of Grayscale.

In either case, watch out for the fees, which are much higher than the fees for index funds.

If the SEC were to ultimately approve bitcoin ETFs, expect to see big players come up with them, like Fidelity, which has already applied to launch one.

Talk to your partner before taking the plunge

If you’re married, don’t let crypto get in between you.

“The most difficult client conversations I have had regarding cryptocurrency investing are with spouses, usually with one or two children, and without any training in technology,” said Mike Turi, certified financial planner based at New Orleans.

Even when these couples are united and have a high tolerance for risk, a spouse may prefer to risk money on a more tangible speculative investment, such as a small-cap biotech company or a friend’s startup. he explains.

His best advice? “Planning always prevails. Start with a client’s plan and end with how cryptocurrency investing affects its current trajectory. In my experience, this is the best way for spouses to make an informed, joint decision. Much more powerful than starting with the question “Is bitcoin a good investment?” “”

The-CNN-Wire ™ & © 2021 Cable News Network, Inc., a WarnerMedia Company. All rights reserved.

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