What is cryptocurrency?
Cryptocurrency or crypto is a digital currency that is not synonymous with any one country, authoritative body or bank. Instead, it is maintained and managed entirely on the web, with each individual’s coin ownership records stored on a cyber-based database.
While this may raise security concerns, after all, how do you keep your cash safe on the internet? The crypto database uses strong cryptography to keep transactions secure. This is a form of coding that prevents cyberattacks and keeps your cryptocurrency where it should be – in your account.
In addition, cryptocurrency isn’t a traditional form of currency found in the average bank account. Moreover, it doesn’t exist in a physical form in terms of paper money or coins as it is not issued by a central authority. Instead, cryptocurrency is entirely online and uses blockchain technology to keep track of the transactions received or sent.
This technology makes it possible to transfer cryptocurrency value online without the need for an intermediary such as a credit card company or bank.
Purchasing everyday items with crypto in your average retail store, while not the norm, is increasing in popularity as vendors are starting to see the benefits of accepting this web-based currency. While generally used for online trading and purchasing digital items such as digital art, crypto can be used to buy luxury items such as watches, cars and electronics from supporting retailers.
What is cryptocurrency trading?
The key to understanding cryptocurrency trading is to first understand the concept of trading itself, which is broadly defined as the buying and selling of assets.
These assets are goods or services exchanged between trading parties. In terms of the financial markets, these assets or rather financial instruments can be margin products, currency, stocks and even cryptocurrency. Cryptocurrency trading is much the same and involves using a crypto trading platform to buy and sell cryptocurrency.
When trading in cryptocurrency, the objective is to increase crypto value in a specific time frame. Popular trading platforms for cryptocurrency include Coinbase, CoinDCX and Binance.
Cryptocurrency trading is regarded as short term trading because many crypto traders only hold onto crypto for short periods. These periods can be as short as a few minutes or extend to a few months, depending on when traders envision the cryptocurrency increasing in price in the short term. When traders exchange crypto, they benefit profit-wise from the price fluctuations that are caused by supply and demand.
Investing vs Trading?
While investing and trading are similar strategies used to increase profit, they require very different approaches to achieve their common goal. When investing, the idea is to hold onto assets for long periods so that they gain value in the long term. In contrast, trading usually has specific short-term time frames in which profit is gained.
When investing, investors need to ignore short term market fluctuations and keep their focus on the envisioned long term benefits. Moreover, with cryptocurrency investment, the idea is to increase the number of coins you hold. For example, if you purchase ten crypto coins for a specific value after several years, the invested amount will increase directly in proportion to the coin price.
However, when trading, the general trading strategy is to focus on short-term fluctuations, which can occur every few minutes, days or weeks. This means that traders need to be aware of the daily market and short-term price trends. This is the same for cryptocurrency trading, where you can trade cryptocurrencies such as Bitcoin (BTC) in the same way you would trade USD or other currencies. The key to cryptocurrency trading is to buy in cheap and sell when prices increase; this is when the trend is beneficial to the trader. Therefore, gaining maximum profit when crypto trading requires the dropping or selling of coins on a regular basis.
A Trade’s Structure
When trading on the crypto market, the buyer and seller are linked by trade structure in terms of profit and loss. For example, when trading, one cryptocurrency trader will profit while the other will lose. In more basic terms, when one trader gains profit by selling, the other trader purchasing will experience minimal profit.
One of the primary factors to consider when looking at the trading structure and market trends is that when more people are buying than selling, the price goes up. However, when more people sell than buy, the price goes down.
Crypto market vs. Stock market
Compared to crypto, the stock market has been around for a very long time. However, there are certain similarities and differences that both link and set them apart.
- Both the crypto and stock markets have similar products that make use of derivatives and investing strategies to increase gains or losses. This concept is an age-old stock market concept that has been incorporated into the new age world of digital currency, crypto. As a result, you can trade Bitcoin and leveraged tokens in the same way as US dollars and other fiat currencies in exchange for goods, services and other digital asset types such as art, music, or software.
- Investment and trading strategies are similar for both markets. For example, both markets allow traders to choose the type of trading they wish to engage in, such as position trading, swing or day trading. However, both markets can also decide to purchase and then hold their assets for longer terms.
- Both the stock market and cryptocurrency market use similar investing tools such as technical analysis in the form of charts to analyse and predict the market.
- The stock market is considered more stable than the cryptocurrency market in terms of market volatility. This is because the stock market has been around for far longer than its younger counterpart. In addition, the crypto market is also known for its rapid and, in some cases, excessive price fluctuations.
- The types of assets that traders can invest in also differ when it comes to the stock market and crypto market. For example, crypto market investors buy into the token (currency), technology or business idea rather than actual shares or stocks of a physical company as in the case of the stock market.
- While both markets are regulated and governed by rules, these differ significantly due to the length of time each market has been around. For example, the stock market is far older than the cryptocurrency market, which means the rules and regulations it is governed by have been in place for longer and are therefore thoroughly developed.
- In contrast, the cryptocurrency market is the younger sibling in this relationship, and thus regulators are still implementing proper regulations – its somewhat increased volatility further evidences this.
As with traditional trading, cryptocurrency traders employ a host of trading strategies when trading on the crypto market. Depending on when traders start trading cryptocurrencies and close their trading position, trading strategies can be defined in one of the following ways:
This form of trading is fast-paced and entails the buying and selling of cryptocurrencies within one day. This means traders need to open and close all positions on the same day and may not hold positions open until the next day. Trading in this way allows traders to take advantage of short-term price fluctuations while implementing a short term move. This type of trading can be highly beneficial but can also carry high levels of risk and subsequent losses. Newbie bitcoin traders may find this form of trading daunting as they struggle to predict when to buy or sell.
Crypto traders looking to protect their investment use this strategy to remove or reduce the risk of high losses. This means they use one investment to counteract the high risk of a volatile market. This trading method is more about reducing risk than about making a profit. It allows traders to maintain a stable asset portfolio value when the market experiences high levels of instability. Hedging is a risk-minimising strategy that enables traders to take an offsetting position against a primary asset. This can be done in three ways, namely, short selling of digital assets, diversifying the portfolio and making use of derivatives.
HODLing is often called ‘holding on for dear life and for a good reason. This is because HODLing is when investors hold onto assets rather than sell them during massive price movements on the crypto market. Many see HODLing as long-term investing. The popularity of HODLing has increased due to the volatility of Bitcoin and its frequent price crashes. With HODLing, profit can only be made when the market increases as against when it goes down. To finally realise a profit, investors usually sell to avoid losing value when the market goes back down.
This form of trading is when traders buy or sell an asset based on the fundamental analysis of its momentum (up or down movement) on the market. This means that investors may decide to buy a security when they notice an upward trend or sell when a dip is seen. Generally, crypto traders purchase when the market goes up and sell when it falls.
Trend trading provides investors with the opportunity to increase profits as and when strong trends are identified. Investors simply make the buy or sell at the exact time the trend is noticed, allowing them to immediately take full advantage of the trend. While not an exact science, trend trading allows investors to analyse historical movements of a security; this gives them a better idea of when to buy or sell.
How do I trade cryptocurrency?
While trading in cryptocurrency is exciting, it also requires crypto traders to follow a few basic guidelines. Firstly traders need to choose a cryptocurrency exchange, open and fund an account, and select a cryptocurrency, strategy and wallet. All of these steps are detailed in the guide below.
Step 1: Cryptocurrency exchange
The cryptocurrency exchange is an online platform used by crypto traders to trade one cryptocurrency for another. In addition, this platform can also be used to exchange digital currencies for fiat currency (government-backed currency) or rather regular currency such as banknotes. Depending on the type of exchange, it can either be a currency exchange or stock exchange. As a beginner crypto trader, knowing which exchange to use can be confusing; below are some reputable cryptocurrency exchanges for you to consider.
- Popular cryptocurrency exchanges include:
- eToro (Social trading platform)
Once you have chosen your crypto exchange, you will need to open a crypto brokerage account. This will involve you providing personal information such as proof of identity, address, contact details and other relevant information in line with anti-money laundering policies.
Many factors may influence your choice of cryptocurrency exchange, however, they should take into account the following criteria.
- Fees – lower fees equate to higher profit margins
- Payment options – most platforms accept a wide range of payment options but some may be limited
- User experience – beginners may prefer platforms that are easy to navigate
- Customer support – check customer reviews to assess if the help desk is easily accessible
- Security – platforms should have adequate security and insurance policies that protect and secure their assets and those of their customers.
Step 2: Funding your account
The next step in the process is to fund your crypto account. This is when you add money to the account’s digital wallet. While wire transfer is the cheapest way to add money to your digital wallet, you can also use credit cards and debit cards to fund your account.
Another way to fund your account is by using crypto exchanges such as Gemini or Coinbase, which have the added benefit of facilitating wire transfers for free.
Step 3: Choose your cryptocurrency
Cryptocurrency prices can be extremely volatile and unpredictable; this is seen in particular amongst the smaller coin types. As a result, most traders prefer more predictable cryptocurrencies such as Ethereum or bitcoin.
When considering which cryptocurrency to purchase, ask yourself three questions.
- How much are you looking to invest?
- Are you comfortable with the level of risk involved?
- Is there a chance buying into a cryptocurrency today will provide you with a profit?
Altcoins are similar to bitcoin and are considered a good choice of cryptocurrency to invest in, having recently seen an increase of 1000% in a single month.
Step 4: Choose your strategy
A trading strategy or fixed plan is a way of trading that is geared towards making a profit by investing in one or more cryptocurrencies while monitoring and using technical analysis to predict market trends.
Most investors believe crypto trading is simply a case of buying coins and waiting for them to increase in value. While this is perfectly acceptable, it may not provide you with the profits you envision. This is because people enter the crypto market for different reasons, with some wanting to earn massive profits in a short period and others wanting protection from inflation.
Hence the need for specific trading strategies that cater to each investor’s needs and personality. For example, a conservative person would probably not choose the same trading strategy as someone who prefers a higher risk exposure.
While a trading strategy doesn’t guarantee success, it does help mitigate large losses.
- A trading strategy allows you to map and plan your trades.
- Sticking to a trading plan helps manage the stress felt with prices drop.
- Risk management is vital when trading with cryptocurrency; as such, traders spend a lot of time researching before trading. A trading strategy allows traders to manage risk factors when trading.
Popular trading strategies include day trading, scalping, swing trading, HODLing and margin trading.
Step 5: Cryptocurrency Wallet
Just as keeping your money in the bank is a necessary safety measure, so too is storing your crypto assets in a safe place. Unlike cash or bonds, crypto cannot physically be drawn and placed in a wall safe or deposited into the bank. This means your cryptocurrency needs to be digitally stored in either a cryptocurrency or hardware wallet.
- Cryptocurrency wallet
This wallet is usually attached to your cryptocurrency exchange account. It is a digital wallet that traders can use to store digital currencies such as bitcoin and other cryptocurrencies. In addition, it can also be used to send and receive digital currencies.
- Hardware wallet
A hardware wallet is usually a plug-in, portable device that allows safe access to crypto assets. This type of wallet can work with many blockchains at the same time and allows traders to manage various cryptocurrencies simultaneously.
Some popular crypto wallet websites include base Coinbase, SoFi and Jaxx. These crypto wallet websites are web or mobile-based and free. Additional security measures and benefits such as cold storage and in wallet currency swapping are also available depending on the wallet website you choose.
What is risk management?
As with traditional trading, crypto trading comes with a certain element of risk. This means that while you may enjoy positive returns, you could also experience losses. When trading cryptocurrency, the levels of risk can differ significantly. Understanding the types of risks traders face when trading cryptocurrency can help mitigate and manage the impact on your investment.
This section will look at the types of risks involved with cryptocurrency trading.
- Market risks
- When an asset’s market price or the crypto market goes down, this can negatively impact the overall value of your investment.
- Liquidity Risks
- Sellers may struggle to find buyers for their assets, leaving them trapped with devaluing cryptocurrency.
- Legal Risks
- Liquidity issues arise when government policy or regulations negatively impact assets or trading platforms. For example, this can prevent traders from selling their assets if buyers are prohibited from purchasing them or cause sellers to lose the funds they have stored in the cryptocurrency exchange.
- System Failure
- This rare occurrence can happen when critical systems within the marketplace fail, thus causing a total collapse.
- Operational Risks
- Trading platforms or applications can malfunction, preventing traders from executing necessary trade movements such as opening or closing a position. This can negatively impact the cryptocurrency value.
- Less Recourse
- It’s good to note that cryptocurrencies are not financial instruments under USGAAP (the U.S Generally Accepted Accounting Principles). This is because they do not represent a contract or obligation, and they do not represent cash. This means you have less recourse if your money goes missing. In contrast, traditional banks have certain policies and regulations that protect the consumer.
What is portfolio management?
Investing in a single asset may seem safe, but in fact, it increases your risk as all your eggs are in one proverbial basket. This puts you at higher risk should the market dip significantly, just as you find you need the cash. This is the reason why even the experts don’t keep only one asset in their crypto basket! Instead, they use portfolio trackers to help them monitor their investments and trades.
These portfolio trackers are extremely effective when tracking and measuring the performance of your portfolio. As a result, you may notice positive trends and thus be able to make better trading decisions.
To effectively manage your portfolio, it’s crucial that you understand the value of your assets and what crypto wallets are storing them. This knowledge combined with access to portfolio trackers, data portals and news aggregators(information platforms) is the recipe for successful cryptocurrency portfolio management.
Another way to ensure good portfolio management is for traders to tap into platforms such as Twitter, news websites and other forms of media to ensure they are up to date with crypto developments as they happen.
While similar to trading on the traditional stock market, cryptocurrency trading has a few differences in terms of process. In summary, traders should research the market before investing actual cash and selecting the crypto exchange most suited to their needs. This choice may be affected by fees, security, payment methods, customer support and user experience.
Next, traders should purchase their chosen cryptocurrency; this could be bitcoin, Ethereum or Litecoin, to mention a few. Then using a trading strategy, traders should trade their chosen crypto, withdraw their profits and reinvest.
While you don’t have to be an expert to trade in cryptocurrency, a certain level of knowledge is required, as is familiarising yourself with the exchange platforms’ disclaimer.