Cryptocurrency Market Guide

What is cryptocurrency?

Cryptocurrency is a form of payment that can be exchanged online for goods and services. Many companies have issued their own currencies, often called tokens, and these can be traded specifically for the good or service that the company provides. Think of them as you would arcade tokens or casino chips. You’ll need to exchange real currency for the cryptocurrency to access the good or service.

Cryptocurrencies work using a technology called blockchain. Blockchain is a decentralized technology spread across many computers that manages and records transactions. Part of the appeal of this technology is its security.

What is blockchain?

A blockchain is a public digital ledger of transactions maintained by a network of computers in a way that makes it difficult to hack or alter. The technology offers a secure way for individuals to deal directly with each other, without an intermediary like a government, bank or other third party.

The growing list of records, called blocks, is linked together using cryptography. Each transaction is independently verified by peer-to-peer computer networks, time-stamped and added to a growing chain of data. Once recorded, the data cannot be altered.

While popularized with the growing use of bitcoin, ethereum and other cryptocurrencies, blockchain technology has promising applications for legal contracts, property sales, medical records and any other industry that needs to authorize and record a series of actions or transactions.

NOTED: Blockchain technology might be one of the most-hyped innovations of the 21st century. Developed to support bitcoin, blockchains now power thousands of cryptocurrencies, and developers are working on integrating the technology into businesses, including medicine, art and finance.

In order to understand the growing interest, it can be helpful to understand how blockchain works, why it has value and what makes it different from other internet technologies.

How does blockchain work?

Using the bitcoin system as an example, here’s how blockchain — also known as distributed ledger technology — works:

The purchase and sale of bitcoin is entered and transmitted to a network of powerful computers, known as nodes.
This network of thousands of nodes around the world vie to confirm the transaction using computer algorithms. This is known as bitcoin mining. The miner who first successfully completes a new block is rewarded with bitcoin for their work. These rewards are paid with a combination of newly minted bitcoin and network fees, which are passed on to the buyer and seller. The fees can rise or fall depending on the volume of transactions.
After the purchase is cryptographically confirmed, the sale is added to a block on the distributed ledger. The majority of the network must then confirm the sale.
The block is permanently chained to all previous blocks of bitcoin transactions, using a cryptographic fingerprint known as a hash, and the sale is processed.

The concept of blockchain technology first appeared in academic papers dating back to 1982, in a dissertation discussing “the design of a distributed computer system that can be established, maintained, and trusted by mutually suspicious groups.” But it was a 2008 paper by the pseudonymous Satoshi Nakamoto titled “Bitcoin: A Peer-to-Peer Electronic Cash System” that brought an academic theory into real-world use.

Blockchain technology: Pros and cons

Using bitcoin as an example, here are some of the pros and cons of how blockchain technology works when applied to cryptocurrencies:

Pros

Decentralization

While the U.S. dollar is issued by the Federal Reserve, no government agency issues or controls bitcoin and other cryptocurrencies. This also means that the ability of any one government or agency to determine the fate of a public blockchain is eliminated. The lack of intermediaries reduces cost, as the fees associated with third-party transactions also are eliminated. Another byproduct of how blockchain works is time efficiency — the blockchain is open for business 24 hours a day, 365 days a year, unlike banks and other intermediaries.

Transparency plus anonymity

All transactions on the Bitcoin blockchain are recorded on computers across the network. Transactions are completely transparent because the address and transaction history of bitcoin wallets, which hold the cryptocurrency, are publicly viewable, but the owners of each wallet connected to those public addresses are anonymous and not recorded.

Accuracy and security

Because the transaction involves little human interaction, there is a lower risk of error. Each transaction must be confirmed and recorded by a majority of the network nodes, which makes it vanishingly difficult to manipulate or alter information. This also prevents anyone from spending a bitcoin more than once.

Blockchain applications beyond cryptocurrencies

Blockchain technology creates efficiencies that potentially extend far beyond digital currencies. While cryptocurrencies like bitcoin are on a public blockchain, many applications for business can be created on private blockchain networks:

Blockchain supply chain: Companies like IBM Blockchain are already providing private network solutions using blockchain technology to more accurately track product supply chains. For example, companies can use the technology quickly find out where recalled food products have been shipped and sold.
Health care records: Deloitte Consulting has suggested that a nationwide blockchain network for electronic medical records “may improve efficiencies and support better health outcomes for patients.”
Smart contracts: With blockchain technology, contract terms can automatically be changed or updated based on hitting a predetermined set of conditions.
Digital elections: Some developers are working on blockchain technology to be applied to elections.
Property transactions: Proponents say blockchain technology can be applied to a wide range of asset sales, be it real estate, autos or investment portfolios.

Opportunities for the underbanked

In countries and regions with poor or corrupt financial institutions, cryptocurrencies based on blockchain protocol allow the transfer and holding of cash that bypasses unscrupulous third parties.

Cons

Criminals like crypto

Like a lot of new technologies, some of the first adopters have been criminal enterprises. They use cryptocurrencies like bitcoin both as payment because of the privacy it provides and to target holders of bitcoin for scams. For example, bitcoin was used by consumers of Silk Road, a black market online shopping network for illegal drugs and other illicit services that was shut down by the FBI in 2013. In the recent ransomware attack on Colonial Pipeline, the company paid $4.4 million in cryptocurrency to unlock its computer systems.

Meanwhile, bitcoin investment scams have skyrocketed in tandem with its recent historic rise. The Federal Trade Commission reported nearly 7,000 people lost $80 million from October 2020 through March 2021 in schemes touting quick returns, a nearly 1,000% rise in reported losses year-on-year.

Blockchain cryptocurrencies are highly volatile

The popularity of cryptocurrency exploded in 2021, as bitcoin hit a record spot price of nearly $65,000 in April. But owing to its inherent volatility, the price of bitcoin dropped nearly 50% by early June — then began to climb again. Bitcoin recorded a previous record high of nearly $20,000 in December 2017, but by December 2018, it was trading below $3,500.

Crypto use is still niche

Many more exchanges, brokerages and payment apps now sell bitcoin, and many companies such as PayPal and Microsoft accept bitcoin for payment. Still, purchases with blockchain currencies like bitcoin remain the exception, not the rule. Also, the sale of bitcoin for purchases on cash apps such as PayPal requires users to pay capital gains taxes on the bitcoin sold, beyond whatever state and local taxes are paid on the product or service.

Environmental impact of bitcoin

The process of bitcoin mining uses a network of high-speed computers that consume a lot of energy. If the Bitcoin system were a country, it would be the 34th biggest consumer of electricity, behind the Netherlands and ahead of the Philippines, according to the University of Cambridge Electricity Consumption Index. Tesla CEO Elon Musk announced in May that the carmaker would no longer accept bitcoin until the cryptocurrency can find ways to reduce its carbon footprint. Developers of other blockchains have come up with less energy-intensive options.

Bitcoin blockchain is slow

The Bitcoin blockchain can process about seven new transactions a second. By comparison, credit card giant Visa says it can process 24,000 transactions per second, according to the company. That presents the Bitcoin system with a scalability problem. Other forms of blockchain-based cryptocurrency are working on this problem. An eagerly anticipated upgrade of the Ethereum system, known as Ethereum 2.0, is expected to be capable of handling 10,000 transactions per second, up from its current rate of 30 per second.

The future of blockchain technology

While the Bitcoin system is the best-known application of blockchain technology, there are thousands of cryptocurrencies that are built on the back of this emerging technology. While it remains to be seen if Bitcoin will succeed in supplanting other forms of traditional payment methods, the applications of blockchain technology are growing fast, and proponents say they may lead to dramatic changes across industries.

How many cryptocurrencies are there? What are they worth?

More than 13,000 different cryptocurrencies are traded publicly, according to CoinMarketCap.com, a market research website. And cryptocurrencies continue to proliferate, raising money through initial coin offerings, or ICOs. The total value of all cryptocurrencies on Oct. 22, 2021, was more than $2.5 trillion, having fallen off an all-time high above $2.6 trillion days earlier. The total value of all bitcoins, the most popular digital currency, was pegged at about $1.2 trillion.

Best cryptocurrencies by market capitalization

These are the 10 largest trading cryptocurrencies by market capitalization as tracked by CoinMarketCap, a cryptocurrency data and analytics provider.

Cryptocurrency

Market Capitalization

Bitcoin

Ethereum

Binance Coin

Tether

Solana

Cardano

XRP

Polkadot

USD Coin

Dogecoin

$548.4 billion

$1.2 trillion

$103.8 billion

$73.9 billion

$69.4 billion

$67.9 billion

$55.8 billion

$45.3 billion

$34.4 billion

$33.8 billion

Why are cryptocurrencies so popular?

Cryptocurrencies appeal to their supporters for a variety of reasons. Here are some of the most popular:

Supporters see cryptocurrencies such as bitcoin as the currency of the future and are racing to buy them now, presumably before they become more valuable
Some supporters like the fact that cryptocurrency removes central banks from managing the money supply, since over time these banks tend to reduce the value of money via inflation
Other supporters like the technology behind cryptocurrencies, the blockchain, because it’s a decentralized processing and recording system and can be more secure than traditional payment systems
Some speculators like cryptocurrencies because they’re going up in value and have no interest in the currencies’ long-term acceptance as a way to move money

Are cryptocurrencies a good investment?

Cryptocurrencies may go up in value, but many investors see them as mere speculations, not real investments. The reason? Just like real currencies, cryptocurrencies generate no cash flow, so for you to profit, someone has to pay more for the currency than you did.

That’s what’s called “the greater fool” theory of investment. Contrast that to a well-managed business, which increases its value over time by growing the profitability and cash flow of the operation.

For those who see cryptocurrencies such as bitcoin as the currency of the future, it should be noted that a currency needs stability.”

Some notable voices in the investment community have advised would-be investors to steer clear of them. Of particular note, legendary investor Warren Buffett compared bitcoin to paper checks: “It's a very effective way of transmitting money and you can do it anonymously and all that. A check is a way of transmitting money too. Are checks worth a whole lot of money? Just because they can transmit money?"

For those who see cryptocurrencies such as bitcoin as the currency of the future, it should be noted that a currency needs stability so that merchants and consumers can determine what a fair price is for goods. Bitcoin and other cryptocurrencies have been anything but stable through much of their history. For example, while bitcoin traded at close to $20,000 in December 2017, its value then dropped to as low as about $3,200 a year later. By December 2020, it was trading at record levels again.

This price volatility creates a conundrum. If bitcoins might be worth a lot more in the future, people are less likely to spend and circulate them today, making them less viable as a currency. Why spend a bitcoin when it could be worth three times the value next year?

How do I buy cryptocurrency?

While some cryptocurrencies, including bitcoin, are available for purchase with U.S. dollars, others require that you pay with bitcoins or another cryptocurrency.

To buy cryptocurrencies, you’ll need a “wallet,” an online app that can hold your currency. Generally, you create an account on an exchange, and then you can transfer real money to buy cryptocurrencies such as bitcoin or Ethereum. Here's more on how to invest in bitcoin.

Coinbase is one popular cryptocurrency trading exchange where you can create both a wallet and buy and sell bitcoin and other cryptocurrencies. Also, a growing number of online brokers offer cryptocurrencies, such as eToro, Tradestation and Sofi Active Investing. Robinhood offers free cryptocurrency trades (Robinhood Crypto is available in most, but not all, U.S. states).

Are cryptocurrencies legal?

There’s no question that they’re legal in the United States, though China has essentially banned their use, and ultimately whether they’re legal depends on each individual country. Also be sure to consider how to protect yourself from fraudsters who see cryptocurrencies as an opportunity to bilk investors. As always, buyer beware.

How do I protect myself?

If you’re looking to buy a cryptocurrency in an ICO, read the fine print in the company’s prospectus for this information:

Who owns the company? An identifiable and well-known owner is a positive sign.
Are there other major investors who are investing in it? It’s a good sign if other well-known investors want a piece of the currency.
Will you own a stake in the company or just currency or tokens? This distinction is important. Owning a stake means you get to participate in its earnings (you’re an owner), while buying tokens simply means you're entitled to use them, like chips in a casino.
Is the currency already developed, or is the company looking to raise money to develop it? The further along the product, the less risky it is.

It can take a lot of work to comb through a prospectus; the more detail it has, the better your chances it’s legitimate. But even legitimacy doesn’t mean the currency will succeed. That’s an entirely separate question, and that requires a lot of market savvy.

But beyond those concerns, just having cryptocurrency exposes you to the risk of theft, as hackers try to penetrate the computer networks that maintain your assets. One high-profile exchange declared bankruptcy in 2014 after hackers stole hundreds of millions of dollars in bitcoins. Those aren’t typical risks for investing in stocks and funds on major U.S. exchanges.

Should you buy cryptocurrency?

Cryptocurrency is an incredibly speculative and volatile buy. Stock trading of established companies is generally less risky than investing in cryptocurrencies such as bitcoin.