Over the past decade the concept of cryptocurrency has moved from a fringe interest right into the heart of the financial world. Increasingly, major brokers are offering their clients the option of trading in Bitcoin, Ethereum, Litecoin, Zcash, Ripple, Monero and more – yet many traders remain uncertain what it’s all about. Is it safe to trade in these currencies? Can one really make good profits doing it or is it all hype? What are the risks and how do they balance out against the potential benefits?

What are cryptocurrencies?

At its most basic, a cryptocurrency is just like any other currency except for two things: it doesn’t have any physical representation (like a traditional metal coin or paper note) and it isn’t underwritten by a central bank. Instead of being based on a scarce material asset (e.g. the gold standard) its value is based on a scarce mathematical asset (which actually has more long-term value because it can’t be distorted by the sudden discovery of a new seam or access to an asteroid). Different cryptocurrencies use different formulae to do this. In order to ensure that the same token – or virtual ‘coins’ – are not used more than once, a record of each transaction is stored across every server in the cryptocurrency network. This is what is known as the blockchain.

Ease of trading

Because they’re not linked to a particular country or stock exchange, cryptocurrencies can be traded at any time. They’re easy to convert with a lot less lag because the exchange doesn’t need to be referred back to a bank. In fast-trading environments, this can give traders the edge. It also benefits from low transaction costs and there’s no need to worry about inflation or deflation caused by government actions.

Constantly changing rates

Cryptocurrencies are, to put it mildly, volatile. Not every trader likes this – it does, after all, make it possible to lose a lot of money – but it opens up the potential for very big profits and this gets others understandably excited. The key thing to keep in mind here is that despite the rapid growth in value of cryptocurrencies over certain periods, they won’t go up in value forever and rapidly growing bubbles can burst very fast. To profit from trading in cryptocurrencies you’ll need to identify movements over time and watch the markets closely as you would with any other asset type.

Trade from anywhere

Because they’re decentralised, cryptocurrencies can be traded from anywhere, which keeps things simple if you’re travelling and keeps people in less developed countries from being shut out. This changes the way the market behaves so that during periods when other assets are moving slowly or experiencing a downturn it can offer traders an alternative.

Environmental concerns

It may seem as if something that’s entirely virtual can have no negative effects on the real world but sadly that’s not true. As with gold, the easy crypto formulae to extract have been accessed already; what remains requires more and more effort to reach, and in this case that means computing power, which means electricity. Cryptocurrency trading does add to your carbon footprint so if this concerns you then you may want to avoid it or make additional investments in assets that can balance it out.

Security issues

Because cryptocurrencies have been designed from the outset to be as secure as possible, many traders consider them to be one of the safest options out there. On the flip side, everything that depends on software can theoretically be hacked, and although this has yet to happen on a major scale, experts fear that it’s only a matter of time. If it does happen, it could be very difficult for people whose cryptocurrency funds are stolen to prove it and access any form of compensation.

Trading considerations

When you’re trading cryptos there are two big things you need to take into account. The first is that although they’re very secure in themselves, because of the blockchain, that doesn’t necessarily apply to their derivatives so if you want to explore these secondary assets it’s vital to go through a trustworthy broker. The second is that, as an asset, they’re young. We can trace fluctuations in the stock market back over a century. We can track gold prices over several. Without that history, models cannot have the same predictive power. This means that trading in cryptocurrencies is inevitably less predictable – but smart traders might be able to take advantage of that.

A question of confidence

Ultimately, the fate of all currencies depends on the confidence that people have in them. If you’re concerned about the long-term future of cryptos, all you need to do is watch the way that other people are reacting to them – which, as a trader, is what you should be doing anyway.