Cryptocurrency 101: What You Should Know Before Investing

Cryptocurrency has been one of the most talked-about topics in the financial world over the past decade. With headlines boasting of overnight millionaires and disruptive technology, it’s no wonder people are curious about diving into this digital frontier. 

But before you transfer some of your hard-earned assets into Bitcoin, Ethereum, or other digital assets, it’s crucial to understand what cryptocurrency is and isn’t. Cryptocurrency investing can feel exciting but comes with new risks, complexities, and opportunities. 

SGL Tip: Never invest in something that you don’t understand.

Unlike traditional investments, crypto operates on technology, market forces, and principles unfamiliar to even experienced investors. In this guide, we’ll break down the basics to help you decide whether cryptocurrency has a place in your portfolio and how to approach it thoughtfully. 

As Buffalo Grove financial advisors, our team at SGL Financial can help you create a cryptocurrency strategy that aligns with your financial goals. 

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What is Cryptocurrency?

Cryptocurrency is a type of money that exists in digital form and is secured through cryptography. Think of it as a super secure lockbox for your money. Unlike the cash or coins you get from banks or governments, which we call fiat money, cryptocurrencies don’t rely on any central authority. 

Instead, they work on a blockchain system, like a public, shared record book where every transaction is logged on a network of computers worldwide. This setup makes everything transparent and very difficult to tamper with.

Key Features of Cryptocurrency:

• Decentralization: No central authority; transactions are peer-to-peer.
• Transparency: All transactions are recorded on a public ledger.
• Security: Uses cryptographic methods to secure transactions.
• Scarcity: Many cryptocurrencies have a cap on the total supply, mimicking the scarcity of precious metals like gold.

Blockchain Explained

Blockchain is fundamental to cryptocurrency investing, serving as the platform and security infrastructure. Each cryptocurrency operates on its blockchain or a shared one, with Bitcoin and Ethereum being prime examples. The decentralized nature of blockchain ensures transaction integrity, fostering trust and security without a central authority.

Investment in cryptocurrencies involves buying and holding digital assets recorded on the blockchain, with options like staking for earning rewards or mining to support network security. Blockchain economics, including supply control, significantly impacts investment value, while technological innovations can boost cryptocurrency demand.

However, the blockchain’s scalability, security, and regulatory status directly affect investment risks and potential returns. 

Given the complexities of blockchain technology, consider working with a Buffalo Grove CFP® professional who can guide you through constructing a cryptocurrency strategy. 

Major Types of Cryptocurrencies

1. Bitcoin (BTC):

• Bitcoin, introduced in 2009, is the first and most well-known cryptocurrency. Due to its store-of-value properties, it’s often called ‘digital gold.’ Bitcoin’s total supply is capped at 21 million coins.

2. Ethereum (ETH):

• Beyond being just a cryptocurrency, Ethereum introduced self-executing contracts with the terms directly written into code. This has given rise to decentralized applications (DApps). Ethereum is in the process of transitioning to Ethereum 2.0, which aims to improve scalability and security.

3. Altcoins:

• This term refers to all cryptocurrencies other than Bitcoin. Notable altcoins include:
  • Ripple (XRP): Focused on enabling fast, low-cost international money transfers.
  • Litecoin (LTC): Often considered the silver to Bitcoin’s gold, with faster transaction times.
  • Cardano (ADA): Emphasizes security and scalability with a research-driven approach.

4. Stablecoins:

• These are cryptocurrencies designed to minimize the volatility typically associated with crypto. They are pegged to more stable assets like the USD (e.g., USDT, USDC).

5. Privacy Coins:

• Cryptocurrencies like Monero (XMR) and Zcash (ZEC) focus on offering enhanced transaction anonymity and privacy.

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Ways to Invest in Cryptocurrency

1. Direct Purchase:

• You can buy directly through exchanges like Coinbase, Binance, or Kraken. You can hold these in digital wallets, either hot (online) or cold (offline, more secure).

2. Trading:

• Engaging in buying and selling cryptocurrencies for profit, similar to stock trading. This can be done on spot markets or through derivatives like futures and options on platforms like FTX or Binance.

3. Staking:

• With Proof of Stake (PoS) blockchains like Ethereum 2.0, Cardano, or Tezos, you can earn rewards by holding and ‘staking’ your cryptocurrency to help secure the network.

4. Yield Farming/DeFi:

• Decentralized Finance (DeFi) platforms allow you to lend your crypto to earn interest or provide liquidity to pools in exchange for fees. Projects like Uniswap or Compound are popular for this.

5. Crypto Funds:

• For those who prefer a more traditional investment approach, funds and trusts now invest in a basket of cryptocurrencies managed by professionals.

6. Mining:

• Although more technical, mining involves contributing computing power to secure the blockchain network and validate transactions in exchange for rewards in cryptocurrency. This is more common with Bitcoin but applies to other coins using Proof of Work (PoW).

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Risks and Other Considerations for Investing in Crypto

It’s important to understand the risks associated with cryptocurrency investing. 

One of the primary risks is volatility. Cryptocurrency prices can fluctuate dramatically within very short periods, leading to the potential for significant capital loss if the market moves against an investor’s position. This volatility is part of what can make cryptocurrencies both lucrative and risky.

Another critical risk factor to consider is regulatory uncertainty. The legal framework surrounding cryptocurrencies differs from country to country and is subject to change. These changes can profoundly affect the value, usability, and even the legal status of cryptocurrencies, potentially affecting investments in unforeseen ways.

Security is another vital concern. Cryptocurrencies’ digital nature makes them susceptible to hacking, fraud, and other forms of cybercrime. Especially with online wallets or exchanges, there’s always a risk of losing your investment due to security breaches or scams. Investors must take extra precautions like using hardware wallets or ensuring exchanges have robust security measures.

Lastly, liquidity can be an issue, particularly with less popular or newer cryptocurrencies. Some might lack sufficient trading volume, making selling them at the desired price or within a reasonable timeframe challenging. This lack of liquidity can lead to scenarios where investors are stuck with assets they can’t easily convert back into cash, especially during market downturns or when trying to exit positions quickly.

SGL Tip: If this sounds interesting, we recommend starting with a small percentage of your investable assets (5% or less).

Connect with the SGL Financial team today to learn more about implementing a cryptocurrency investment strategy in 2025.