At Addition Financial, we’ve been getting a lot of questions from our members about cryptocurrency and how to get started buying it or investing in it. With that in mind, we’ve put together this guide to cryptocurrency for beginners, including information on the best cryptocurrencies for beginners to buy and how to get started buying it.
What is Cryptocurrency and How Does It Work?
The first question to answer is also the most basic one: what is cryptocurrency? Simply stated, cryptocurrency is digital currency that is decentralized. That differentiates it from traditional currency such as the US dollar, which are regulated by the government and backed by faith in the US government. (Until 1971, the US dollar was backed by gold.)
Another way of looking at it is that digital currencies have value because people believe they do. When people want to buy crypto, its value increases; when they don’t, it decreases.
Cryptocurrency transactions are tracked and cataloged in a blockchain. A blockchain is a distributed ledger where data is shared among all users instead of being stored in a single location.
The first cryptocurrency in the world was Bitcoin, which was launched in 2008 when the first coin was minted. In the world of cryptocurrency, minting is a digital process whereby a transaction is verified and crypto miners solve a hash to add it to the blockchain. A hash is a mathematical process that links a new block to the previous one, thus establishing its location and preventing tampering.
Since the launch of Bitcoin, there have been thousands of other digital currencies, some of which have succeeded and many of which have failed. Some of the best known include Ethereum, Litecoin, XRP, Tether and Dogecoin.
What Do You Need to Invest in Cryptocurrency?
Because cryptocurrencies are digital, it won’t surprise you to learn that you need some special things to buy and sell them. What may surprise you is that there are really only two things you need to get started:
- A crypto wallet. A crypto wallet is a place to store the cryptocurrency you buy. There are two options in terms of security: a hot wallet and a cold wallet. A wallet is connected to the web and may be either an online wallet, a mobile wallet or a desktop wallet. A cold wallet is not connected to the web and is therefore more secure than a hot wallet. Options include a desktop wallet (on a laptop that’s not connected to the web), a hardware wallet or a paper wallet.
- Access to a cryptocurrency exchange. There are multiple exchanges to choose from. We’ll get into detail below about how to choose a crypto exchange and which ones are best for beginners.
We strongly recommend a cold wallet for beginners as well as for experienced investors. The use of one greatly reduces the risk of someone hacking your digital wallet.
What Are the Best Cryptocurrency Exchanges for Beginners?
Choosing the right cryptocurrency exchange for your needs is essential if you want to buy or trade cryptocurrency. Some exchanges have features designed to attract and assist beginners and we strongly recommend starting with one of the following:
- Coinbase has a user-friendly interface that’s useful for beginners who want to learn about cryptocurrency. It will even reward you with cryptocurrency when you master the basics using their Learn platform. Their security is top-notch. After you learn the ropes, you can choose to upgrade to Coinbase Pro, which has additional features for experienced traders.
- KuCoin is a good choice for beginners who want to get their feet wet without paying high fees. This platform has some of the lowest fees around and you can further reduce them by paying with their proprietary KCS stablecoin.
- Crypto.com has the best mobile app for cryptocurrency and provides a free debit card to make it easy to spend your crypto. You can get rewards for paying with their proprietary stablecoin, Cronos, including fee discounts and 8% back on debit card purchases.
Whatever platform you choose, we recommend reading about it and reviewing the fee structure before you set up an account.
What is the Best Cryptocurrency for Beginners?
There are thousands of types of digital currency available to buy or trade, but some of them are more volatile than others. We think that beginners should minimize their risks, and they can do that in one of two ways. The first is to invest a small amount – more on that in the next section – and the second is to choose coins that are well-established.
Here are five cryptocurrencies we believe are worthwhile for beginners:
- Bitcoin was the first cryptocurrency in the world and it is by far the least volatile coin you can buy. Having said that, it is still quite volatile when compared to typical stocks, so you should keep that in mind.
- Bitcoin Cash is a spinoff of the original Bitcoin. It is less expensive than Bitcoin and transactions may be completed more quickly than they can on the original Bitcoin blockchain.
- Ethereum is often mentioned as an alternative to Bitcoin. It’s the second-most popular coin in the world and is one of the least volatile currencies to buy or trade, making it a decent choice for beginners.
- Litecoin is sometimes referred to as “the layman’s Bitcoin” and it is one of the most popular digital coins available. Transaction speeds are faster than they are on the Bitcoin blockchain.
- Cardano is a cryptocurrency designed for people who are concerned about the environmental footprint of other coins but still want to invest. Transactions are quicker and less expensive than on other networks and security is a priority.
We should note here that all cryptocurrencies, including the five we’ve mentioned here, are more volatile than traditional stocks. It’s best to approach buying them with a realistic view of what to expect.
How Much Crypto Should I Buy as a Beginner?
One of the questions we hear most frequently from our members is about how much cryptocurrency to buy as a beginner. As you might expect, there’s no one answer that applies to everybody, but we can tell you what we recommend.
We’ve already mentioned the high volatility of cryptocurrencies. With high volatility comes high risk. That means that you should never invest more in cryptocurrency than you can afford to lose.
Our recommendation is that you put no more than 5% of your portfolio into cryptocurrency as a beginner. Most of your assets should be in stable investments. Even if you don’t mind taking some risk, you should be cautious when buying crypto.
You can increase your investments as you become more experienced, and particularly if you already have enough money saved to ensure that, with compound interest, you’ll have what you need to retire. Make sure to review your risk allocation regularly and sell cryptocurrency if you need to minimize your risk.
Things to Know Before You Buy Cryptocurrency
To prepare you for the experience of buying and trading cryptocurrency, here are some other things you should know.
Cryptocurrency is Not a Stable Investment
We might sound like a broken record, but we want to make it clear that even Bitcoin is a wildly volatile investment. Prices rise and fall rapidly and without warning, and plenty of people have lost large sums because they bought or sold Bitcoin at the wrong time.
Cryptocurrency Gains are Taxable
The taxation rules around cryptocurrency may be confusing for beginners and it’s important to understand them before you buy. The most important thing to know is that if you earn a profit by selling cryptocurrency, you are likely to be on the hook to pay capital gains tax. As of this writing, the IRS considers cryptocurrency to be property and not currency, which is why profits are taxed as capital gains.
Cryptocurrency is Best Viewed as a Short-Term Investment
Because of its volatility, cryptocurrency is best viewed as a short-term investment. You can (and people do) hold on to crypto for long periods, but it’s not a stable investment. That may change in the future as the use of cryptocurrency becomes more common, but for now, it’s best to differentiate it from long-term investments.
The FDIC Does Not Insure Cryptocurrency Holdings
The final thing you should know is that unlike deposits in your bank account, the Federal Deposit Insurance Corporation (FDIC) does not insure cryptocurrency holdings. The money in a traditional account is insured up to $250,000 but that’s not the case with crypto. If the cryptocurrency exchange you choose gets hacked, goes bankrupt or shuts down, you won’t have any recourse to get your money back.
Cryptocurrency investing can be fun and profitable, but it’s essential for first-time investors to manage their risk. We hope that this guide to cryptocurrency for beginners will help you understand how to get started and how to minimize your risk.
Do you need help managing your investments? The MEMBERS Financial Services Program is here for you. Learn more and book an appointment now.
Posted on May 3, 2022
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