New Year, New Money? A Newbie’s Guide to Cryptocurrency
December 31st, 2017
If you haven’t heard about Bitcoin (BTC) by now, then I promise — unless you live in a cave — you will hear about it in 2018.
The past twelve months have been an unremitting bull-run for crypto-enthusiasts. Over the last year the world of cryptocurrency has ballooned to 14 times its size from the start of 2017, growing from a market-cap of 17.5 billion in January to as much as 648 billion in December. Alone, the value of a single Bitcoin has soared well over 1,000 percent this year, falling just shy of the $20,000 milestone in mid-December. As a search term, Bitcoin has surpassed Donald Trump in Google queries worldwide.
But Bitcoin has not been alone. Other cryptocurrencies have surged as well — several of which outperformed Bitcoin, what many outsiders consider the gold standard in cryptocurrency, in terms of the distance they have traveled over the past year. Both Ripple (XRP) and Verge (XVG) have had a ridiculous year, growing nearly 4,000 percent and 860,000 percent, respectively (yes, you read correctly). There have been many more high-growth opportunities among the 1,300+ cryptocurrencies listed on CoinMarketCap.com.
But what does all the growth mean?
Well, it signals the beginning of an emergence for cryptocurrency from a reputation as a dodgy environment for the unscrupulous toward a sense of mainstream legitimacy. More people than ever before are signing up to exchanges to buy coins. Wall Street has increasingly positioned itself to capitalize off the rampant growth in a promising, even if speculative, market. Mainstream media too has pivoted nominally to a more fair and balanced representation of crypto-styled investments.
With all signs directed at massive potential in 2018, there is no better time than now for prospective investors to get educated about cryptocurrencies. So here’s the scoop for the newcomers.
WHAT IS CRYPTOCURRENCY?
The simplest answer is that cryptocurrencies are digital assets designed to act as decentralized mediums of exchange. Though the properties of most cryptocurrencies are meant to model certain aspects of fiat currencies, some, like Bitcoin, are used as stores of value too. What’s the difference? In crude terms, think of how differently a dollar is used to how a bar of gold might be used. A dollar is a medium of exchange used for daily purchases like clothes, food, etc., but gold is bought as an asset to be kept while it appreciates in value and is sold later for higher than its purchase price.
Cryptocurrencies distinguish themselves from fiat currencies because they are bankless, meaning none are stored in a location protected by a central authority. Instead, they use cryptography to secure and verify transactions along a distributed network called a ledger. This is particularly relevant since to realize any system of digital currency a payment network must solve the double spending problem: the prevention of one entity from spending the same money multiple times. Centralized systems solve this problem by keeping tab of all completed and pending translations on one server.
But, as Block Geeks point out, “In a decentralized network, you don‘t have this server. So you need every single entity of the network to do this job. Every peer in the network needs to have a list with all transactions to check if future transactions are valid or an attempt to double spend… If the peers of the network disagree about only one single, minor balance, everything is broken. They need an absolute consensus… Nobody believed it was even possible. Satoshi [Nakamoto, the creator of Bitcoin] proved it was. His major innovation was to achieve consensus without a central authority.”
Cryptocurrencies differ from fiat currencies in other ways too. For instance, access to funds are granted through a system of public and private keys which holders use to protect and send currency. Think of it as a highly evolved version of a pin-code. But once funds are sent to another party the transaction cannot be reversed. In addition, cryptocurrencies can be sent anywhere in the world in a matter of hours, or minutes, with minimal to zero fees because they bypass the intermediary steps of national fiat currencies.
HOW DO CRYPTOCURRENCIES WORK?
Cryptocurrencies are built on blockchain technology. Blockchain is an algorithmic data structure for managing the transparent, safe, and secure transfer of digital goods without a centralized administrator. The removal of central power over transactions is achieved through a system of distributed transparency and accountability called a distributed ledger. Put simply, think of a silo storing the world’s grain with nobody watching it versus the same silo where everybody can check and verify withdrawals.
See also Cryptocurrencies in 60 Seconds.
WHERE CAN I BUY CRYPTOCURRENCY?
The most common place for people to buy and trade cryptocurrency is on an exchange. Exchanges vary widely in their user interfaces, how they function, their fee structures, liquidity, and purchase and withdrawal limits. Traders should research and experiment with different exchanges to see which best suits their individual needs (comparisons can be found at Coin Central). Of them, Coinbase remains an industry leader with its $10 in free Bitcoin referral program. It is an easy entry point for beginners, has excellent security, and offers free transfers to GDAX, its more advanced sister exchange.
As you get comfortable trading Bitcoin you may become interested in trading what are called “altcoins.” This simply refers to any coin which is not Bitcoin, but it also generally refers to coins which are inaccessible when using exchanges like Coinbase or GDAX. For example, neither Ripple (XRP) nor Verge (XVG) are available for purchase there. To obtain altcoins a trader must create an account with another exchange such as Binance, which offers a wider array of cryptocurrencies. Then they must transfer funds from one exchange to another (How-To video here). ProTip: Ethereum (ETH) and Litecoin (LTC) have much cheaper transfer fees than Bitcoin (BTC).
In all exchanges participants will be asked to provide some personal information, but the level of disclosure will depend on the exchange and its compliance with regional regulations. It will also depend on an investor’s intended trade volume. Larger dollar amounts require more advanced disclosure. When signing up remember, the sooner an investor submits verification documents the sooner they will be able to trade. And with the number of accounts being created increasing with cryptocurrencies’ popularity, verification times can range. Last, but certainly not least, ALWAYS enable 2-step authentication for the best security.
A full list of cryptocurrencies, their values, trading volumes, and the markets where they are traded can be found at CoinMarketCap.com.
HOW DO I STORE MY CRYPTOCURRENCY?
Since cryptocurrencies are bankless, access and storage are unorthodox. Many coins develop their own electronic wallets, but this can be tedious since having a different wallet for every coin can be overwhelming for traders with multiple currencies in their portfolio. Thankfully, developers have created desktop wallets, online wallets, mobile wallets, and hardware wallets to handle the challenge of storage. Before we discuss their differences, let’s review how cryptocurrency wallets work in the video below.
Now that you understand how an electronic wallet works, here is a list of the types of wallets, provided again by Block Geeks.
Desktop. Wallets are downloaded and installed on a PC or laptop. They are only accessible from the single computer in which they are downloaded. Desktop wallets offer one of the highest levels of security, however, if your computer is hacked or gets a virus there is the possibility that you may lose all your funds.
Online. Wallets run on the cloud and are accessible from any computing device in any location. While they are more convenient to access, online wallets store your private keys online and are controlled by a third party which makes them more vulnerable to hacking attacks and theft.
Mobile. Wallets run on an app on your phone and are useful because they can be used anywhere including retail stores. Mobile wallets are usually much smaller and simpler than desktop wallets because of the limited space available on a mobile.
Hardware. Wallets differ from software wallets in that they store a user’s private keys on a hardware device like a USB. Although hardware wallets make transactions online, they are stored offline which delivers increased security. Hardware wallets can be compatible with several web interfaces and can support different currencies… Hardware wallets make it possible to easily transact while also keeping your money offline and away from danger.
Paper. Wallets are easy to use and provide a very high level of security… Transferring Bitcoin or any other currency to your paper wallet is accomplished by the transfer of funds from your software wallet to the public address shown on your paper wallet. Alternatively, if you want to withdraw or spend currency, all you need to do is transfer funds from your paper wallet to your software wallet. This process, often referred to as ‘sweeping.”
See also Top 5 Best Cryptocurrency Wallets.
HOW DO I KNOW IF I SHOULD INVEST IN A COIN?
One of the first steps in trading is learning to evaluate risk and reward. No trader can make this assessment for another unless one is a professional broker. It is important to remember that as the new kid on the block cryptocurrencies are largely unregulated and are highly volatile assets. As a general rule in trading goes, investors should spend only what they are willing or able to lose. That said, the best decisions are informed and educated decisions, so here are some questions to be mindful of when conducting research on potential cryptocurrency investments:
Whitepaper. Has the company taken the time to create a whitepaper? This is a document which outlines everything the company is, what problem it aims to solve, how it will solve it, and is generally the source for deep technical details about a project. Take time to read it.
Product. Does the company already have a working product? If not, how strong and thought-through is the concept? Many, if not most, cryptocurrencies on the market today do not have a working product, so completing one is a major milestone.
Team. How large is the team? How experienced are they in their respective fields? Are their LinkedIn profiles accessible? What have they accomplished individually and collectively? Remember, any project is only as strong as the people driving it toward success.
Marketing. What impression does the marketing leave? Is the website’s explanation of the product or concept easy to understand? Could you explain it to somebody else? Does the project have positive and reputable media exposure outside of its website?
Roadmap. Does the project have a roadmap for success? If so, historically, has the team been able to meet their scheduled deadlines? What developments or partnerships are planned for the next quarter and the next year? How might they impact the value of your investment?
Community. How big is the community backing the project? How much interaction does the project have with its community? What is the project’s social media footprint? How fast is its social media presence growing? What kind of volume is the community trading regularly?
Timing. Does the project demonstrate a history of growth? Does the size of its market indicate there is more room to grow? Is the value of the project at an all time high, or is it in a buying opportunity?
DO TAXES APPLY TO TRADING CRYPTOCURRENCIES?
The answer to this question will vary from country to country. For specifics, traders will need to consult a Certified Public Accountant, or the equivalent thereof, near their place of residence. For U.S. citizens, the Internal Revenue Service (IRS) has released documentation detailing how income earned through cryptocurrency transactions will be treated here.
REALTALK, SHOULD I INVEST IN CRYPTOCURRENCY?
Growing up on a farm I did a lot of manual labor and it taught me a pretty valuable lesson: Work smarter, not harder. This doesn’t mean there is anything wrong with manual labor — there isn’t. It just means that whenever it is possible to use leverage to lift, use it. Wherever it is possible to streamline the energy needed to build something, anything, streamline it. Essentially, that is what investments are all about, putting money to work for you instead of the other way around. But whether or not cryptocurrencies are a tool to build towards financial independence in your life is a decision every individual will have to make for themselves.
Whatever you decide, as of now the future of cryptocurrency seems strong. If you want to stay updated on the world of crypto, my personal favorite YouTube channel is AltCoin Buzz. Check them out. Happy trading!
This article was created in the spirit of peer-to-peer information sharing and is not and should not be considered financial advice.
Frank Castro is an independent journalist, radical educator, and crypto-enthusiast. He is not paid for his writing, but if you would like to support his work you can use his Coinbase or Binance referral codes.