The investment world is much bigger than your portfolio. It encompasses a wide variety of investments, and it evolves as new investments and marketplaces are created. Perhaps, the newest addition making the biggest splash is cryptocurrency.
What started simply as a digital form of money has become one of the most covered investments in the news. Single tokens of some cryptocurrencies have been valued at thousands of dollars, drawing the interest of many investors hoping to add them to their investment portfolios.
But what about investors who are not investing in hopes of striking it rich, but rather to achieve their long-term financial goals? As an individual investor primarily saving and investing for retirement, should cryptocurrency have a place in your portfolio?
Hopefully, answers to the following questions will help decode the mysteries and misconceptions about cryptocurrency, so that you have a better understanding of whether it makes sense for you.
What is cryptocurrency?
In technical speak, cryptocurrency is a peer-to-peer network and electronic cash system. What?!
Okay, in plain English: cryptocurrency is digital money. It exists only online and is exchanged without the need for a bank. Users can make transactions directly to each other. Those transactions are recorded on a ledger known as the blockchain.
By far, the most well-known cryptocurrency is Bitcoin. But there are upwards of 6,000 different cryptocurrencies out there. Most of them have a limited supply. That feature, along with potential as the future form of money, is what makes cryptocurrency so valuable and attractive to investors.
How do you invest in cryptocurrency?
First, you need to set up a digital “wallet,” which works like an online app that holds your digital money. This can be done through a cryptocurrency exchange.
Cryptocurrencies are typically bought and sold on cryptocurrency exchanges. Basically, you create an account on the exchange and then transfer real money to purchase the type of cryptocurrency you want. Exchanges often charge a percentage of the purchase price.
Since there are many cryptocurrency exchanges, do your due diligence to find one that is safe, well reviewed and that matches your needs.
A few online brokers also give customers a way to buy and sell cryptocurrency. As demand for cryptocurrency grows, it is likely more traditional brokers will make the option available to their customers, too.
What are some dangers and risks of cryptocurrency?
Investing in cryptocurrencies is no longer the cyber-Wild West environment it once was. But there are still dangers and risks involved in cryptocurrency, both as a digital object and as an investible asset.
- As with any online account, there is the danger for account breaches and hacks. Therefore, it is important to create strong passwords for your cryptocurrency account and/or digital wallet.
- If you choose to trade cryptocurrency online, use discretion about when and where you access your digital wallet. An insecure or public Wi-Fi network is dangerous, as it may make you more susceptible to attacks from hackers.
- Cryptocurrency investments are not insured by the Securities Investor Protection Corporation for exchange failures or theft, a protection that traditional stock brokerage accounts enjoy up to $500,000. Some exchanges offer private insurance, but it may not protect against individual online breaches like someone stealing your password.
- Like real currencies and other alternative investments (gold, oil, real estate, etc.), cryptocurrency prices are much more unstable and volatile than traditional investments, such as stocks, bonds and mutual funds.
Is cryptocurrency a good investment for retirement investors?
For anyone investing for long-term financial goals, such as retirement, the appropriate investments for you depend on personal factors. They include how much money you need for each goal and when you need it, your current level of wealth and your feelings toward risk.
Everything in your investment portfolio should then have a purpose. So, what would be the purpose of cryptocurrency?
As with other alternative investments, cryptocurrency may be an option for added return and diversification in your portfolio. But you’d have to tread carefully.
For one, you don’t want recency bias to sway your investing decisions. Essentially, that means choosing investments based on recent performance, which often leads to lower returns. With all the media exposure surrounding cryptocurrency prices, some investors may suffer from a “fear of missing out.”
However, you cannot expect cryptocurrency values to continue to rise. Again, cryptocurrencies have been extremely volatile since their creation. For example, bitcoin traded near $20,000 at the end of 2017, but then its value plummeted to around $3,200 the following year. As of December 2020, it was trading above $18,000.
Cryptocurrencies may go up in value, but prices move based on speculation. In other words, fear or greed. They do not provide a cash flow. You only profit if you sell for a price that is higher than you paid.
All of which isn’t to say cryptocurrency should be wholly avoided. But considering the risks and the fact it is still an experimental investment, those who have a strong interest in cryptocurrency may want to allocate only a small amount of money they wouldn’t care to lose.
The question to ask isn’t whether cryptocurrency can play a role in your portfolio, but rather, do you even need it.
Most retirement investors can achieve their goals with traditional investments. And if you are on track to your goals, then adding new investments is likely an unnecessary risk.
If you are unsure, a financial adviser can always help evaluate your portfolio. Then you can confidently ignore the siren calls of Wall Street’s latest offer.