The most important thing to say about investing in cryptocurrencies is that the Financial Conduct Authority (FCA) – the organisation responsible for regulating the UK financial services industry has stated that “if you invest in cryptoassets, you should be prepared to lose all your money”.
With that risk warning in mind, how to invest in cryptocurrency may not be the most popular of subjects to cover but there are in fact several ways of investing in cryptocurrencies.
How to invest in cryptocurrency
There are a number of ways you can invest in cryptocurrencies:
- You can buy and sell actual cryptocurrency, like Bitcoin, via a cryptocurrency exchange such as Coinbase
- You can speculate on cryptocurrency prices without buying the actual cryptoasset by trading cryptocurrencies through spread betting or contracts for differences (CFDs)
- You can also invest in Initial Coin Offerings (ICOs) which you can learn more about here.
The focus of this article will be on the process of opening a cryptocurrency account, choosing a trading platform to buy and sell cryptocurrency and understanding the difference between spread betting and CFDs
Buying and selling cryptocurrency
If you decide you would like to buy and sell cryptocurrencies, the first step is to select your preferred cryptocurrency exchange. This is an online platform for buying and selling cryptocurrencies. There are many to choose from so it is worth reading up on independent reviews such as the one written by Blockgeeks here.
While security is the most important factor, other considerations include geographical location of the exchange, trading volume, and fee structure. You will also need a digital wallet to store your cryptocurrency.
Once you are happy with your choice, you will need to open an account. To do so, you will need to establish your identity, and often this involves multi-tier verification procedures and sometimes face-to-face conversations, especially if you are planning high–value transactions.
There are a few things to bear in mind when opting for this route:
- For the most part, cryptocurrency exchanges are unregulated. In some countries such as China, they are illegal
- Deposit and withdrawal fees can be high, especially when dealing in relatively small amounts and depositing or withdrawing fiat currencies (money backed by governments or central banks)
- Some cryptocurrencies can only be bought with other cryptocurrencies. For instance, you might need to buy Bitcoin before exchanging it for an alternative cryptocurrency such as Ethereum for example.
Trading cryptocurrencies
Trading cryptocurrencies offers an alternative way of investing by speculating on their price rather than purchasing them outright.
We will look at some of the benefits of cryptocurrency CFD trading, and for those who wish to learn more, we will tell you how to get started.
Why trade cryptocurrencies?
When you trade cryptocurrencies, you are speculating whether the market will rise or fall without needing to own the actual cryptoasset. Some of the benefits of trading are:
- High volatility of the cryptocurrency market. Bitcoin and various other cryptocurrencies are highly volatile. Rapid price movements provide traders with opportunities to go long or short (see below) and make money whichever way the market moves
- Cryptocurrency exchanges are open all hours. You can trade cryptocurrencies 24 hours a day, 7 days a week
- Cryptocurrency markets are liquid. Trades can be executed very quickly
- Tax-efficient, as spread betting profits are tax-free (although losses cannot be offset against capital gaisn elsewhere)
- You can leverage your capital, meaning you can use borrowing to open a trading position for a fraction of the value of the trade using margin (a percentage deposit of the value of the trade).
How to trade cryptocurrencies
Trading cryptocurrencies is analogous to foreign currency (Forex) trading. You can trade cryptocurrencies using either spread bets or CFDs.
You should also note that trading cryptocurrencies is not for the faint-hearted. It is more suitable for investors with considerable experience trading other assets.
Trading cryptocurrencies with spread bets
With spread betting, you can go long or short, in other words betting on whether the price will increase (long) or decrease (short). You can use leverage, meaning you can get full market exposure for a small fraction of the trade value, the margin.
You need to fund the initial margin, and if you have an open position that is losing more than your initial margin, you will need to top up the funds when you get a margin call.
The spread in spread betting is the difference between buy and sell prices, known respectively as the offer and bid. You bet an amount per unit of price movement.
If the price moves in your favour, you win your bet multiplied by the number of units the price has moved. If you lose, then lose the amount of your bet multiplied by the number of units the price has moved against you.
Bets last for a stated duration, but you are free to close them at any time trading is open.
One advantage of spread betting over CFDs is that any profits generated are not taxed.
Trading cryptocurrencies using CFDs
CFDs are contracts where you agree to exchange the difference in price between when you open a position to when you close it. If you open a long position and the price increases, you make a profit, and if it falls, you make a loss. The opposite is true for a short position.
Rather than paying the full price of the asset, you need to pay upfront for just a small portion of your position, in other words, the margin. By leveraging, you can get much higher exposure.
The downside of leveraging is that should you make the wrong decision, your losses would be magnified as you would need to pay your losses on the full size of the position.
Large open markets carry substantial risk, so traders tend to close their position quickly once they make their target gain or hit their maximum loss.
An essential difference between spread bets and CFDs is that with the former, the bet has a specified duration, but a CFD remains open until you close it by making a trade in the opposite direction.
With CFDs, you do have to pay capital gains tax on profits and losses can be offset against capital gains elsewhere.
Risk warning: Investing in cryptocurrencies
Given the risk warning issued by the FCA, we can safely conclude that investing in cryptocurrencies is a very high-risk activity.
In addition to that, investing in unregulated cryptoassets such as Bitcoin, Litecoin etc means that retail investors are not covered by the Financial Services Compensation Scheme (FSCS) nor do they have access to the Financial Ombudsman Service should things go wrong.
To learn more about which type of cryptoassets are regulated by the FCA, please click here or to understand the risks of investing in cryptocurrencies, please click here.
