Several hundred million people use cryptocurrencies. Learn here how they work and why they are more of a gamble than a solid investment!

What exactly is crypto investing?

Cryptocurrency – the term already sounds futuristic! But those thinking about entering the world of digital assets now face not only the choice of thousands of different cryptocurrencies worldwide. The first challenge is to understand what kind of speculative asset we are dealing with.

Let’s start from the beginning.

The word cryptocurrency, or crypto for short, comes from the ancient Greek word meaning “to hide,” “to conceal,” “to protect.” This suggests that cryptocurrencies are encrypted across all their components through the users’ computer network. They exist solely in digital form and are recorded in a decentralized database, usually a so-called blockchain. Their value is measured, like any other currency, by their purchasing power – for example, the goods you can buy with them.

As a typical speculative asset, cryptocurrencies are not recognized as official currencies by most governments. One exception: El Salvador. However, as of June 2022, the small Central American country had lost over 60 percent of its Bitcoin investment.

Still, hundreds of millions of people around the world already use cryptocurrencies. There are passive participants who have exchanged traditional money for cryptocurrencies, and active participants who generate crypto money. These so-called “miners” use specially networked computers to solve the complex mathematical problems behind crypto transactions. As a reward for their computing power, they receive new cryptocurrencies – the miners have “mined” them.

Some cryptocurrencies can be mined indefinitely. Others, like Bitcoin, are limited to a specific total number. The most well-known cryptocurrencies are Ethereum, Ripple, and Bitcoin. That covers the basics.

Are cryptocurrencies secure?

As mentioned, crypto data is not managed or issued by a central authority but is constantly verified by all participants in the crypto system (the blocks of the blockchain). Through this decentralized and interdependent cryptography—that is, the encryption of information within the system—the data is virtually unassailable. It cannot be changed afterward or without agreement at a single point. Hackers would have to manipulate all parts of the blockchain network simultaneously and in real-time to achieve any effect. And: even government agencies have no access. This makes cryptocurrencies fundamentally very secure.

On the other hand, critics argue that for these very reasons, money laundering and terrorism financing could be facilitated. There’s also debate over whether the value of cryptocurrencies is being artificially inflated. This could lead to a bubble that might eventually burst. Which would be the opposite of what many investors are hoping for: quite a few are looking for alternative investments out of fear of currency devaluation on the global market—ones where no “greedy bankers” are at the helm.

“Hot” and “cold” crypto wallets

Coins and tokens, the units of cryptocurrencies, are stored in so-called wallets—digital wallets. There are “hot wallets” in the form of apps on internet-connected devices. These are protected by a long password, but due to their internet connection, they can theoretically be hacked. In contrast, cold wallets involve transferring the coins or their shares to an external data carrier.

In both cases, one rule applies: don’t lose the password for your crypto account—it can’t be recovered, just like a broken USB stick!

How to invest in cryptocurrencies

With this knowledge, you can enter the trading platforms: various crypto exchanges, as well as DEXs (decentralized exchanges), offer trading or direct purchase of cryptocurrencies. One of the best-known is Coinbase. Through such platforms, you can buy or sell coins and tokens—either directly or through a contract with other individuals. The price of a token or coin is determined by the basic principle of supply and demand. A small tip: anyone who wants to consistently apply the idea behind cryptocurrency should transfer their cryptos into their own wallet after purchasing—not leave them with the broker.

Alternatively, you can speculate on the price development of one or more cryptocurrencies. This is often done through CFDs, which stands for “contracts for difference.” These highly speculative derivatives, typically offered by brokers as well, allow you to invest in the price movements of the crypto market with relatively little capital—meaning you can even speculate on a possible downward trend.

Those looking for more long-term options can invest in crypto securities. Advantage: earnings are then not subject to income tax, but to the lower capital gains tax.

A few general tips for crypto investments:

• As with all asset types, it’s recommended to diversify across different investments to minimize the risk of total loss.
• Compare different providers. Transaction fees, for example, can vary greatly—depending on time of day and transaction volume.
• Due to the high volatility of cryptocurrencies, i.e., the strong price fluctuations, it’s best to stay emotionless: buy outside of hype phases and test various options with small amounts.
• If you transfer cryptocurrencies from a broker to your wallet or vice versa, make sure to use the correct address. A simple typo—and your coins or tokens are gone forever.
• Cryptocurrencies held for at least one year are tax-free—before that, profits are subject to income tax.

Also interesting: there are countless projects running on websites or mobile apps aimed at promoting the acceptance and spread of cryptocurrencies. Participants can collect free coins. Lending Bitcoins for interest is also becoming increasingly popular.

Is investing in cryptocurrencies a good idea?

Even though blockchain technology makes transactions exceptionally secure, like all currencies and means of payment, cryptocurrencies are based on little more than a system of trust. Just like a 20-euro bill is only worth 20 euros because a large part of the population accepts it as such. You understand?

After the big hype and the enormous price gains, most cryptocurrencies have also entered a downward trend again. And because of these high fluctuations alone, many economists consider Bitcoin and the like to be a crackpot idea: in a currency that can be worth ten percent more today than it was yesterday, one hardly sees a reliable means of payment. The (main) reason for the fluctuations: the aforementioned speculation with cryptos and a certain casino mentality that has spread around the topic of cryptocurrencies.

Last but not least, there is also criticism of blockchain technology itself. It has an immense energy consumption. Mining cryptos in Germany, for example, makes little sense due to the high electricity costs alone. Sorry. And a “sustainable investment” also looks quite different. Right?

Let’s sum up: to understand cryptocurrencies so comprehensively that you can truly invest strategically instead of (realistically speaking) just hoping to get lucky – that takes a very long time. On the other hand, we hope we’ve still given you an initial overview of the technology, how it works, and the investment possibilities. Because that’s exactly what this article was meant to do.

And one more tip: if you’re looking for a form of investment that’s easier to grasp:

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