We’ve all read stories of cryptocurrency investors who have become overnight millionaires. While these stories are certainly interesting and the prospect of making a lot of money is exciting, there are some risks involved with investing in cryptocurrency.
If you want to maximize your chances of seeing a positive return and minimize your chances of total loss, you will need to be aware of these risks and figure out ways to mitigate them.
Risks of Investing in Crypto
These are some of the biggest risks associated with investing in cryptocurrency:
- Outright scams. There’s been a surge of interest in cryptocurrency, which has led to the development of multiple initial coin offerings (ICOs) and new coins being introduced to the world. Many of these new coins have been interesting and exciting, lending unique value to the cryptocurrency world. But some ICOs have been total scams, created almost exclusively to dupe people into buying in. If you’re a victim of this type of fraud, there may be little to no recourse for you.
- Lost wallets. There are some avenues for recovering a lost crypto wallet, such as offering a reward for its return. But if you keep your crypto currency in a cold wallet (i.e., in some form of offline storage), loss is always going to be a potential issue for you. Dropping your flash drive or losing your computer could deprive you of access two significant assets.
- Volatility. Even amateur crypto investors understand that cryptocurrency is volatile, especially compared to traditional assets like stocks and bonds. One day, your cryptocurrency of choice may double in value. The next day, it may plummet to levels below its starting point. Larger and more established cryptocurrencies are slightly more resilient to these wild swings, but they’re still subject to somewhat unpredictable fluctuations.
- Major crashes and panic selling. Panic selling is notoriously common in the crypto world. Just because a price of a given asset is falling doesn’t mean you have to bail out at all costs; in fact, it’s often better to weather the storm and retain your ownership of these assets. One impulsive sale could completely compromise your profitability.
- Regulation. Stricter cryptocurrency regulation could also be a threat. The United States and other developed countries are reconsidering the role that cryptocurrency plays indoor attempting to seize more control over it. If crypto is limited or if its role changes dramatically, it could have a huge effect on its utility and price.
- New emerging coins. Just because a coin is large, established, and popularly accepted doesn’t mean it’s going to remain relevant forever. The emergence of a new coin that is less expensive or more secure could threaten your holdings, causing turmoil in the crypto markets.
- Environmental concerns. Some investors are also concerned about the amount of electricity used to fuel cryptocurrency mining and exchanging. At scale, it could be environmentally catastrophic; in response, investors may deviate from investing in cryptocurrency altogether, or a new, more efficient alternative may rise up.
However, these are long-term risks that aren’t yet immediately relevant to the average investor.
Mitigating the Risks
Fortunately, there are many strategies that allow you to mitigate these risks and, in some cases, avoid them entirely.
- Do your due diligence. Always do your due diligence before investing in cryptocurrency. Don’t invest in crypto just because you heard good things about it or because it has a cool sounding name. Look up the nature of the project, figure out its trajectory for growth, review the leaders involved with this project, and decide whether the risks associated with this specific project align with your investment goals.
- Avoid emotional decision making. Too many people lose money in the cryptocurrency world simply because they made an emotional decision. That could include selling your currency in a panic when it begins to drop in value or impulse buying a new coin before you really understand how it works.
- Diversify your crypto holdings. Portfolio diversification is one of the most straightforward ways to minimize your risk. Bitcoin is arguably the dominant cryptocurrency today, but there’s no guarantee that it’s going to be around forever and there’s certainly no guarantee it’s going to have the best return among cryptocurrencies. Consider investing in many different cryptocurrencies to reduce your risk and increase the stability of your returns.
- Invest in more than just crypto. Similarly, it’s important to diversify your portfolio and invest in more than just cryptocurrency. Good portfolios have a balance of different assets, including things like different currencies, stocks, bonds, and real estate. This way, even if the entirety of your crypto portfolio it’s threatened, you’ll have other assets to fall back on.
Investing in cryptocurrency is inherently risky, to a degree. But like with any other investment, there are ways to control, analyze, and mitigate these risks. The more proactive you are in your research and due diligence, the less likely you’ll be to experience catastrophic losses.