Welcome to our Investor’s guide to cryptocurrency. In this seventh part, we will highlight the different available methods to help you decide what investment strategy suits you the best. Continue reading to find our way into cryptocurrency investing.
Now that we have covered the history of cryptocurrency, the fundamentals and the differences between various assets, it is time to start investing. Nowadays, there are many ways to invest in the crypto market, with its benefits and drawbacks. This chapter highlights the differences to help you decide what investment strategy suits you the best.
If you are new to cryptocurrency trading, a cryptocurrency broker might be an easy way to start investing. Simply create an account with a broker, verify your account, deposit your funds and you are ready to go.
Cryptocurrency brokers often provide a small selection of cryptocurrencies. These are limited to the well-known cryptocurrencies that have proven themselves over time such as Bitcoin and Ethereum. This helps you manage your risk of investing but also limits the rewards. The most important element of a broker is that you buy and sell cryptocurrencies at prices set by the broker. Brokers are suitable for individuals who want to invest small amounts into this emerging market.
A cryptocurrency exchange is suitable for the more advanced traders and users of cryptocurrency. These exchanges often offer various products besides market-buying and selling cryptocurrencies. Additional services include market orders, limit orders and leveraged trades.
A notable difference between a broker and a cryptocurrency exchange is that the exchange takes place directly between buyers and sellers within the platform provided by the exchange. These exchanges, however, are often managed by a single entity and therefore also known as Centralized Exchanges (CEX). This reproduces the initial issues with banks and does not support the ideology of decentralization. Therefore, there is a growing demand for an alternative.
A service that is becoming increasingly popular among traders is the use of Decentralized Exchanges (DEX). Popularity is rising as Decentralized Exchanges often offer a wider range of cryptocurrencies with a high-risk high-reward perspective. It suits the ideology of decentralization; however, it does require more knowledge to use a DEX.
A DEX is a decentralized environment where traders interact with smart contracts to make trades. In contrast to a Centralized Exchange, traders don’t require identification checks. You will only need a suitable cryptocurrency wallet and the funds for the transactions to trade. Besides being one of its benefits, decentralization is also one of its most significant drawbacks. Due to the lack of regulation, it is attractive to malicious entities. Beware: actively trading cryptocurrencies requires a certain degree of knowledge.
Another way to invest in cryptocurrency is through an investment fund. By participating in an investment fund, investors no longer need to actively manage their cryptocurrency investments. Participating in an investment fund is usually reserved for affluent investors due to its high minimum initial investment amount, which often ranges from 25K to 100K.
The most common cryptocurrency funds function as index funds. These funds limit their investments to the top 20 or top 50 cryptocurrencies. Index funds are passively managed as the distribution of the funds is based upon a formula that distributes the investment based on a cryptocurrency’s ranking. Limiting investments to the top 20 or top 50 coins minimizes risk but it also limits the upside potential as most of these projects have already surpassed their highest growth potential.
Actively managed cryptocurrency funds function as the opposite. In these funds, the asset managers thoroughly investigate cryptocurrencies to conclude which investments are most likely to achieve high returns with a decent risk-reward ratio.
They have years of experience in trading the cryptocurrency markets and know which sectors are experiencing a healthy development and which are experiencing a sudden hype. They know how to capitalize on these opportunities on behalf of their clients and do not limit themselves to a certain amount of cryptocurrencies based on market capitalization.
In this chapter, we explored the different methods when investing in cryptocurrency. Some are passive investment strategies while others remain actively managed. The level of involvement often is connected to the level of knowledge. As argued in previous posts, investing in cryptocurrencies requires time and expertise to research the different projects and methods carefully. The next article, The investor's guide to cryptocurrency [final part], will introduce Hodl's unique proven strategy as an investment fund.
Learn more about crypto investment with our comprehensive guide.