Antonio Del Rio, a student at the International School of Luxembourg, explores cryptocurrencies and whether investors should be wary.
Bitcoin, Ethereum, Litecoin, Ripple, Peercoin, Stablecoin and other digital / virtual currencies have been taking the world by storm. They are new and revolutionary, they only exist in a digital space. Investors can use this electronic cash just like traditional currencies (to purchase goods and services over the Internet), trade this encrypted digital money just like stocks or exchange cryptocurrencies for traditional currencies. Since cryptocurrencies are digital, they cannot be counterfeited. The cryptocurrency market is open to everyone who has access to the Internet or a mobile phone.
Cryptocurrencies are becoming a popular alternative to standard currencies and investing in cryptocurrencies may seem quite lucrative. However, there are various and real dangers to investors in cryptocurrencies. The question often is – should potential investors be afraid? Here are some points to consider.
Cryptocurrencies could be characterised by great price volatility. With cryptocurrencies not backed or secured by any government, central authority or any central bank, they have arbitrary values determined by marketplace participants through their transactions. Such values could change rapidly and unexpectedly – with sharp drops in the value potentially wiping out the investment. The answer could be to take a long-term approach, instead of reacting to momentary fluctuations in the crypto market.
Potential Scams and Fraud
Although great volatility of cryptocurrencies may give investors unprecedented chances to make very high returns on their investments in short periods of time, it also makes the cryptocurrencies space a great attraction for scammers. Scammers would often prey on new investors’ lack of knowledge. Another danger is that an exchange through which buyers and sellers would trade cryptocurrencies online could turn out to be fake, with money deposited by investors to buy cryptocurrencies getting stolen and the investors being left with no real recourse. Common sense and gut feeling should be the key. If something sounds too good to be true, it probably is. Getting assurances that the investment is 100% guaranteed to succeed or promises of earning fixed returns when investing in cryptocurrencies should be red flags.
Even legitimate exchanges may not provide adequate security. Cybersecurity risks, such as ransomware attacks and online hacking, have become a real issue, with malware and phishing specifically designed for peculiarities of the cryptocurrency market. To keep cryptocurrencies secure, they are encrypted with the coding specific to the particular cryptocurrency, but not to its owner. The cryptocurrency belongs to the one who holds its encryption code. If cryptocurrency is stolen, it is next to impossible to get it back.
There are, however, exchanges which have invested in technologies to protect their systems and minimise the risks of hacking. Some exchanges store only small amounts of cryptocurrencies online at any given time, with the rest being held in offline storages out of reach of potential hackers. In addition, investors in cryptocurrencies could use hardware / physical wallets – USB thumb drives. If the exchange is hacked, cryptocurrencies stored in such physical wallets would be protected.
Loss of Cryptocurrency
A cryptocurrency wallet can be used through a special application loaded on a smartphone. Although using smartphone cryptocurrency wallets might be safer than wallets located at an exchange (with smartphones generally harder to hack), it is still possible that cryptocurrency could be lost if the app is not backed up and the phone is lost. In addition, the wallet could become unusable if the “key” (the password for the account) is lost or accidentally deleted. To minimise such risks, the wallet should be backed up on a separate device (a hard drive or a hardware wallet).
ICOs (initial coin offerings) take place when start-up cryptocurrency companies offer cryptocurrency tokens to raise funds for their projects. Potential investors should be careful and do research on the company involved, the ICO’s potential and the credibility and the background of the company executives, as well as understand that the company is not providing investments into its business (in contrast to IPOs). Also, great care should be taken to verify the corresponding project website address, as such address could be replaced by hackers with their own, with the resulting loss of the investment.
Lack of Regulation
At this time, cryptocurrencies are, for the most part, unregulated and are not subject to government control. However, if the approach is taken that cryptocurrencies present a real danger and the cryptocurrencies market mostly creates a platform for fraudulent and criminal activities, such over-reaction and resulting over-stringent regulation would diminish the values of cryptocurrencies, keep the cryptocurrencies market volatile and potentially negatively affect innovation in this area. This would in turn have negative impact on users of and investors in cryptocurrencies, instead of protecting them.
A balanced approach is needed to protect investors and to regulate the crypto markets. This would allow cryptocurrencies to utilise their enormous potential and to secure a permanent and legitimate place in the world finance industry.
So, should potential investors in cryptocurrencies be afraid?
No! There are risks with all investments. One should not invest in the stuff they do not understand, and one should not invest money that they cannot afford to lose. It is also important not to get carried away by promises of investments that could bring instant wealth and to not make investment decisions based on a current hype.
Investing and trading in cryptocurrencies may indeed be more risky and uncertain than traditional investments, as it is a new and evolving market with technology that is new, complex and largely unproven. At the same time, cryptocurrencies market is exciting, challenging and full of potential. It presents great opportunities for innovation, development and advances. Get informed, do your research, take precautions, weigh the risks versus rewards, use reputable exchanges, check the credibility of the developers, diversify your investments. Be patient and arm yourself with knowledge before investing. This would significantly reduce your risks and would allow you to invest in cryptocurrencies with potentially great returns.
Antonio Del Rio is a student at the International School of Luxembourg and the leader of the Cryptocurrency Club of the International School of Luxembourg.