By Dustin Giannangelo
CEO Fusion Wealth Management
Are you curious to know what has caused the frenzy about cryptocurrency? Would you have become a millionaire overnight investing in Bitcoin?
Bitcoin has created quite a stir because it has experienced a spectacular increase in its value. Investors, entrepreneurs, and even financial experts are now talking about this cryptocurrency. Many believe that cryptocurrency is the future of money.
However, the real problem is that some people believe that Bitcoin and cryptocurrency, in general, will help them get rich quick and retire early. They do not evaluate whether investing in Bitcoin will fit into their financial goals and do not understand the risks associated with their investments. Jumping into Bitcoin without a well thought out strategy and proper research could create significant monetary problems, which could prolong your wealth accumulation for
many years.
Let us take a look at the six risks related to Bitcoin and cryptocurrency, and four action steps to consider before investing.
6 Risks Related to Bitcoin and Cryptocurrency
1. Understanding the Volatility
If you are about to invest in Bitcoin, you need to consider the price volatility. What is important to understand is that the price of this cryptocurrency can change rapidly in a short amount of time.
For example, in January 2018, the value of Bitcoin dropped by 40%. This significant decline brought many investors back to reality. Before the start of the year, the price of Bitcoin was roughly $15,000, but when the value dropped, it was selling for approximately $8,500 per Bitcoin. It is essential to put market corrections like this into perspective.
Volatility, when investing in Bitcoin or other cryptocurrency does not seem to be slowing down any time soon. Therefore, if investing in Bitcoin, you must be mentally prepared for wild fluctuations that will occur. Taking a passive approach would not be the best plan of attack when owning Bitcoin.
2. Interpreting the Hard Fork Splits
Hard fork splits may also occur when you invest in Bitcoin. The reason is that the value of the cryptocurrency strongly depends upon the support and the strength of the community that makes use of the cryptocurrency. In the technology world, we know support for a new technology can be strong one day then gone within a matter of months.
Alternative technologies may emerge within the near future, and they may even be able to supersede existing technologies. If the stakeholders end up disagreeing, then this can eventually lead to a network split to support new forms of cryptocurrencies.
As of right now, there are over 1,000 cryptocurrencies in existence, and new ones created regularly. There are quite a few major players that make up the market right now, but that does not mean these cryptocurrencies will be the key players even a year from now. Only time will tell which cryptocurrencies will come out on top in the long run.
3. The Hacking Nightmare
Hacking is yet another massive risk associated with Bitcoin investments. Coincheck, a Japanese cryptocurrency exchange, became a victim of hacking in January 2018. The exchange had to compensate the customers who owned about 523 million units of cryptocurrency by the name of Nem that hackers stole.
Also, hackers have bought Google ads on popular keyword searches related to cryptocurrency. People would click these ads to malicious cryptocurrency wallet websites that mirrored real company pages. Once there, people would enter their personal information, and this allowed the hackers to gain access to their wallets and steal their digital currency.
Remember that Bitcoin and other cryptocurrencies are unregulated and therefore carry a higher risk level than most common investment vehicles. Make sure you are dealing with reputable exchanges if you invest, and do your research on the security of those exchanges.
4. Bitcoin is Not Currently a Currency or Commodity
When we talk about Bitcoin, one thing is quite evident in that we do not have any reliable information about the origin of Bitcoin. It is not a tangible asset as a currency and is not the same as gold or silver. As much as people would like to make the comparison to commodities, cryptocurrency is not an equal asset right now.
The U.S. Dollar is fiat money, as are the Yen, the Euro, and many other major world currencies, which are backed by the government issuing them. When we look at cryptocurrency, we realize the fact that no tangible asset backs it and sheer demand rules it. Without a real asset backing, Bitcoin has a heightened risk when investing in it. It is essential to understand the truths about investing in a volatile asset like cryptocurrency.
Many individuals out there will make their case about the viability of cryptocurrency and its future potential. However, what is occurring with Bitcoin and the rest of the cryptocurrency is pure speculation right now, and nothing else.
Cryptocurrency might be a viable currency in the future, but right now it does not carry the same weight as a currency that is backed by a government.
5. The Issue of Not Being Legal Tender
What you need to remember is that if you must deal with legality issues within your investments, then it may not be the perfect fit. Same is the case with Bitcoin. Many countries do not recognize Bitcoin or other cryptocurrencies as legal tender.
One thing to point out is just because cryptocurrency is not legal tender, does not mean it is illegal as a form of payment. However, there are no protections for either the consumer or the merchant in the transaction. Whether you are the buyer or seller in the arrangement, you should understand the inherent risk associated when dealing in cryptocurrency.
With the lack of protection that exists in business dealings for both the buyer and seller, it would be wise to deal with credible parties when transacting in cryptocurrency.
6. The Fear of Ponzi Schemes
Whenever there is a lack of clarity, people try their utmost to cash in on it and Bitcoin is no different. We cannot deny that there is a lot of misinformation related to Bitcoin. Therefore, many Ponzi schemes have been launched to cash in on the ignorance of people who do not have sufficient knowledge about cryptocurrency investments.
The rumors of significant cryptocurrency holders going into private chat rooms and formulating strategies to drive up the price of cryptocurrencies artificially to sell high are very unnerving. Pump and dump schemes like this are highly illegal in the regular investment world and are very hard to prove in the cryptocurrency universe.
Some more notable social media sites saw this as a big concern and have banned advertisements of cryptocurrency. However, this only cuts off a few ways these unscrupulous individuals have been taking advantage of people, so buyer beware.
4 Actions Steps to Take Before Investing in Bitcoin and Cryptocurrency
1. Define your Goals
Before investing in Bitcoin or another cryptocurrency, it is vital to come up with realistic and specific goals. If you think that an investment in Bitcoin will help you get rich quick, then this is not an accurate or realistic goal. Looking at both sides of the picture is essential. You should examine the positive side, but it is equally crucial to look at the risks.
Once you have identified your goals, make sure they are written down and in great detail. They need to be comprehensive and concise when defined. Taking the time to write out your plans in the most explicit way possible will drastically improve your decision making.
Also, it is an excellent practice to layout your goals in specific time frames. You should segment them into three different categories, such as short-term, intermediate, and long-term goals.
2. Layout Your Short-Term, Intermediate, and Long-Term Goals
The short-term will address your goals in the 1-3 year time frame. For example, you may want to pay off student loan debt, start saving for retirement, purchase a home, or save for a vacation. These are your most pressing goals, and there should be steps laid out on how to accomplish them. Typically, people have a more extensive number of shorter duration goals than they do intermediate and long-term.
Your intermediate goals, which fall into that 4-9-year period might be to start a new business, save for your kid’s college education, begin to build a passive income or get a promotion. These should be in alignment with your short-term goals.
Finally, you have the long-term goals that are a 10+ year time frame. Your defined goals may be to pay off your mortgage, purchase a second home, or retire comfortably. Some of these goals may feel like they are a lifetime away, but it is essential to have them written down.
What is important to understand is that your short-term, intermediate, and long-term goals need to be cohesively working together. Forgetting about your goals and attempting to take a shortcut by trying to get rich quick will only lead to regret.
3. Define How Bitcoin Could Fit into Your Goals
You need to identify whether an investment in Bitcoin will fit into your goals and objectives. Where does it fit? Why are you investing in it? What is your strategy if you do? How will this help you accomplish at least one of your goals? Are you investing to take a shortcut to build significant wealth?
Not only is it essential to write out your goals, but you need to define how an investment will fit into your goals. When people invest, they want to make money, but there should be reasoning behind the amount of risk you are taking to ascertain a goal.
Do not make the mistake of jumping into any investment blindly or based on what you are reading on the internet. Make sure you are pragmatic with your reasoning and not just being manipulated by the hype.
4. Introduce a Risk Management Strategy in Your Financial Goals
A risk management strategy will help you define an authentic approach to manage the risks related to cryptocurrency investments. The procedure should define some critical criteria for the investments.
First, the moment you invest in Bitcoin you should have an exit strategy in mind. With the help of an exit strategy, you will be able to plan out your trades ahead of time and sell based on a rational approach. Everyone has a plan on how to buy an investment, but very few people have an idea of how and when to sell.
Second, remember that when trading cryptocurrency it is done on cryptocurrency exchanges. These exchanges are not regulated, which creates another level of risk associated with the investment.
Third, you need to design a strategy that addresses the risks associated with trading on the exchanges. You should distribute your coins over several locations. When you are not actively trading, it is not a good idea to leave the coins in the exchange.
How to Tie it All Together
You should remember that Bitcoin and other cryptocurrencies are still in their developing stages. There will continue to be innovation and change in the digital currency world, and it has yet to exist in its refined form. Therefore, if you do decide to invest moving forward, you need to be as educated as possible on what you are buying.
You will find that many online communities will offer you adequate information about cryptocurrencies, so you should explore these communities as well. However, make sure that these online groups are educational resources and not attempting to sell you on how-to guides or get rich quick schemes via cryptocurrency.
What most financial experts suggest is that a person who is keen to invest a substantial amount into cryptocurrency should only use monies they deem acceptable to lose. If people are going to invest in cryptocurrency, they should make sure it is only with funds above and beyond their rainy-day fund. That way if someone loses all their money investing in Bitcoin, it will not create financial ruin.
When entertaining Bitcoin and cryptocurrencies as a possible investment, do not depend on it to make you wealthy overnight. Instead, plan on building wealth over many years and figure out how cryptocurrencies can fit into that strategy.
The opinions expressed in this commentary are those of the author and may not necessarily reflect those held by Kestra IS or Kestra AS. The material is for informational purposes only. It represents an assessment of the market environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results. It is not guaranteed by Kestra IS or Kestra AS for accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security.
Securities offered through Kestra Investment Services, LLC (Kestra IS), member FINRA/SIPC. Investment advisory services offered through Kestra Advisory Services, LLC (Kestra AS), an affiliate of Kestra IS. Fusion Wealth Management is not affiliated with Kestra IS or Kestra AS.
