Hackers stole a record $4 billion in cryptocurrency last year. This isn’t meant to scare you but just to make you more informed and aware. Are cryptocurrency risks worth it, especially when compared to traditional markets like stocks?
This digital revolution has captivated the attention of investors, technologists, and financial experts alike. As Bitcoin and Ethereum lead the way, this innovation doesn’t come without its set of risks.
When you know what to look out for when comparing cryptocurrency vs. stocks, you’ll be that much better off as an investor. In this guide, we’ll unlock some of these risks and inform you of what you can do about them. Read on to get the inside scoop.
Cryptocurrency Risks
The cryptocurrency market is a relatively new and emerging one. It attracts both investors and scammers alike. For this reason, you’ll want to be aware of the many cryptocurrency risks involved.
Volatility and Price Swings
Cryptocurrencies are a newer market than stocks and, for this reason alone, may experience massive volatility and price swings. Unlike stocks, cryptocurrencies operate 24/7 globally. Crypto investors and enthusiasts do their research around the clock to gain a competitive edge in the market.
Investors find volatility attractive since they can capitalize on substantial. Of course, the flip side of this is that price swings expose investors to substantial losses.
There is a lot of hype with many cryptocurrencies, and a lot of them will “moon” and quickly die off.
Many longstanding cryptocurrencies like Bitcoin will see their share of volatility too. For example, in November 2021, we saw Bitcoin reach ~$65,000 before plummeting to just over $20,000 a year and a half later.
While you can’t always predict the crypto market, it is recommended to always do your research.
Let’s now take a look at some of the top contributing factors to volatility.
Market Sentiment and Speculation
Market sentiment and speculation play a large role in cryptocurrency prices. When there is positive news surrounding a particular crypto, exchange, blockchain, or project, it can trigger bullish runs. Things like negative news or regulatory concerns can lead to sharp declines.
Lack of Regulation and Oversight
The cryptocurrency market is still in its infancy stages. The lack of comprehensive regulation can result in sudden price swings. This is largely driven by rumors, misinformation, or even market manipulation.
Limited Liquidity
When you buy cryptocurrency, liquidity refers to how easy it is without causing significant price changes. Bitcoin and Ethereum have higher liquidity, whereas lesser-known altcoins may have lower liquidity. This makes those altcoins more susceptible to rapid fluctuations.
Market Fragmentation
Cryptocurrencies are traded on various central and decentralized exchanges. Between these exchanges, prices can vary.
This is due to things like:
- Regional demand
- Trading volume
- Exchange-specific factors
This fragmentation can lead to disparities in prices across different platforms. Many crypto investors will take advantage of this arbitrage.
Technological Developments
The cryptocurrency space is highly innovative. New technological advancements can lead to rapid shifts in market dynamics.
This is due to the introduction of:
- New coins
- Upgrades to existing blockchains
- Changes in consensus algorithms
All of these factors can significantly influence prices.
Regulatory Uncertainty
Regulatory uncertainty continues to cause issues for investors, enthusiasts, and governments alike. The landscape is complex due to the lack of inconsistent globally standardized regulations.
This has a ripple effect on:
- Adoption
- Trading
- The overall perception of cryptocurrencies
Let’s take a closer look at the intricacies of regulatory uncertainty and its implications.
Security Vulnerabilities
Those invested in crypto need to be mindful of the ever-changing security vulnerabilities as well. Blockchain does offer more enhanced security features than traditional finance, but you have to know what you’re doing and keep yourself educated.
For example, you’ll want to be mindful of cyber threats surrounding exchanges, wallets, and smart contracts. Let’s take a closer look at some of these below.
Exchange Hacks
There is a mantra in the crypto space: “Not your keys, not your coins“. This refers to your private keys since anyone who has access to them has access to your crypto. For this reason, you’ll never want to leave crypto on an exchange.
Hackers exploit vulnerabilities in exchange systems to gain unauthorized access to user funds.
Wallet Vulnerabilities
Cryptocurrency wallets offer a way to store your private keys and access digital assets. There are both hot and cold wallets.
Hot wallets are those connected to the internet and can be accessed via a smartphone or computer. While they offer more convenience to the user, they’re also more vulnerable to hacking attempts.
Cold wallets are stored offline. These offer a safer solution just as long as you properly store your private keys out of harm’s way.
Phishing Attacks
Cybercriminals often use phishing attacks to deceive users into revealing their private keys or login credentials. These attacks can occur through fake websites, emails, or social media profiles that mimic legitimate platforms.
Smart Contract Exploits
Smart contracts, self-executing contracts with the terms directly written into code, can have vulnerabilities that are exploited by attackers. Bugs or flaws in the code can lead to unexpected outcomes, including the loss of funds.
Liquidity Challenges
Things like market fragmentation and asset diversity affect the crypto liquidity landscape. To combat these difficulties some things can be done, such as choosing reputable exchanges, limiting orders, and trading during high volume.
Choose Reputable Exchanges
Do your research to find well-established and reputable cryptocurrency exchanges. Major exchanges often have more trading pairs and greater trading volume. This means higher levels of liquidity for you.
Limit Orders
When trading, consider using limit orders instead of market orders. Limit orders allow you to set the maximum or minimum price you’re willing to buy or sell at. This reduces the likelihood of unfavorable price slippage.
Trade During High Volume
Trading during periods of high trading volume can enhance liquidity and reduce the impact of slippage. Major news events or market developments can drive increased trading activity.
Decentralized Exchanges
Decentralized exchanges (DEXs) aim to eliminate intermediaries and enhance liquidity. These platforms allow users to trade directly from their wallets. They use automated market-making algorithms to facilitate trades.
Market-Making Strategies
Some market participants, known as market makers, specialize in providing liquidity to the market. They do so by placing buy and sell orders to narrow bid-ask spreads.
Market Manipulation
Crypto enthusiasts and investors need to be leery of market manipulation. You first need to understand the types of manipulation and know how to identify them.
Pump-and-Dump Schemes
This is one of the most common forms of manipulation. In a pump-and-dump scheme, a group of individuals artificially inflates the price of a cryptocurrency through coordinated buying, creating a sense of FOMO (fear of missing out) among investors. Once the price reaches a peak, the group sells its holdings, causing the price to plummet and leaving other investors with losses.
Wash Trading
Wash trading involves a trader simultaneously buying and selling the same cryptocurrency to create a false impression of high trading volume. This can make the cryptocurrency appear more popular than it is.
Spoofing and Layering
Spoofing involves placing large buy or sell orders to cancel them before they’re executed. This can create false signals of market demand or supply. Layering involves placing multiple orders at different price levels to manipulate the perceived market depth.
Stock Risks
Now let’s take a look at some of the risks in the stock market. While it has been around for much longer than crypto, there are still some things you’ll want to be on the lookout for.
Market Volatility
Just like cryptocurrency, there is market volatility with stocks. One way to combat this is through diversification in your investment portfolio.
Company Specific Risks
Stocks of individual companies can be affected by factors specific to that company. This includes things like poor financial performance, management issues, product recalls, or legal troubles.
Systemic Risk
Systemic risks are broader market risks that affect all stocks. Economic recessions, interest rate changes, and geopolitical events can lead to widespread declines in stock prices.
Liquidity Risk
Liquidity risk in stocks is the possibility that you might not be able to quickly buy or sell shares without significantly impacting the price. Stocks with low trading volumes can be particularly prone to liquidity challenges.
Regulatory and Political Risks
Changes in regulations or government policies can impact industries and companies, affecting their stock prices. Political instability and trade tensions can also lead to market volatility.
Avoid These Risks at All Costs
The comparison between the risks of cryptocurrencies and stocks serves as a crucial guide for investors seeking to chart their course through uncharted territories. When you’re aware of the cryptocurrency risks involved, you’ll know what to look out for in more traditional markets like stocks.
Refer to this guide if you need a refresher. A balanced approach is key when weighing the risks and rewards. The more involved you are, the better off you’ll be.
For investing advice, you’ll want to stick around. While you could go at it alone, we wouldn’t recommend it. Why not schedule a consultation today?
