A Preview to Cryptocurrency as an Investment

A Preview to Cryptocurrency as an Investment

Cryptocurrency or crypto as usually abbreviated is the latest fiat currency in circulation. Instead of paper, or any physical representation of this currency, it is a purely digital currency. This means it is online — up in the clouds.

You could read here a summary of the evolution of money in this tweet storm.

A little background check…

The cryptocurrency was outlined in a white paper in 2008 by Satoshi Nakamoto. It was then released to the public in early 2009 as Bitcoin. It was to serve as a peer-to-peer means of exchange.

“Cryptocurrencies, or virtual currencies, are digital means of exchange created and used by private individuals or groups. Because most cryptocurrencies aren’t regulated by national governments, they’re considered alternative currencies — mediums of financial exchange that exist outside the bounds of state monetary policy.

Bitcoin is the preeminent cryptocurrency and first to be used widely. However, hundreds of cryptocurrencies exist, and more spring into being every month.”

While a lot of people are pessimistic about cryptocurrency, there is one thing that is sure

IT IS THE FUTURE

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Why should you consider crypto

Crypto is a new asset relative to other asset classes such as stocks and bonds. Due to popular demand, it has risen to be an alternative to investments with regulatory bodies and government control.

Aggressive investors — Investors after high-risk high-return have seen crypto as a competitive ground for high volatilities, unmatched by even emerging markets.

Investors that are not aggressive could also benefit from the returns of this asset class by having a little percent of their portfolio in crypto.

As a thumb rule, never put money you can’t afford to lose.

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A graph showing returns of a traditional portfolio and other portfolios with different allocation for bitcoin from 2014 to 2018
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A table showing total return, monthly volatility, and maximum drop down of portfolios over the same period

Having seen the potential returns possible for 1,5 and 10%, the next question is how much should you allocate?

Past success does not guarantee future performance :)

It depends, just like for every investment you want to undertake, you already know your risk appetite. The more you allocate to bitcoin, the more risk you take. For an investor with a low-risk appetite, the amount you expose yourself is low and consequently, so are your returns.

Crypto as an investment

As early written here, cryptocurrency is also a vehicle of investment though most conservative investors consider it to be more on speculation.

When bitcoin really went viral, many investors and institutions called it a bubble. I guess every market is a bubble until it bursts. Markets move in circles, from that pessimism and undervalued to optimism and overvalue.

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Bubbles and Burst Graph

Speculation is the purchase of an asset with the hope that it will become more valuable in the near future — without concrete or complete information or analysis and usually accompanied with high risk and a laser focus on the fluctuation of prices.

Crypto is traded based on its price and not any underlying value, just like gold. Its volatility is what makes it very attractive to aggressive investors. It’s not unusual to see a 5–12% loss in 24hrs but then see 10–20% gains in the following couple of days.

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Volatility is how fast or slow the price of an asset changes. Crypto are known for their very high volatility.

The changes in price are predominantly caused by:

  • Demand and Supply: There is a finite amount of crypto in circulation and there is only a certain amount that can be produced. Whenever a resource is finite, the forces of the market — demand and supply act.
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Image from David Perell

  • Narratives and Sentiments: Since there is no way to measure or any analysis to do to check whether crypto is performing or not — lack of fundamentals, we rely on narratives and sentiments. The stories we tell ourselves influences whether we buy or not. The market sentiments also affect our purchasing decisions. When we feel that the market is good and positive, the asset goes bullish.

Bullish is when prices of an asset are rising, everything is rosy.

At the very end, everything comes down to demand and supply.