Investing in cryptocurrencies: Is it for me?

Interest in cryptocurrencies has increased tremendously over the past few years.  A recent survey done in April 2022 on crypto investors by Independent Reserve, which is a regulated cryptocurrency exchange in Singapore, showed that whilst 87% of investors held Bitcoin, a growing proportion hold two or more, including Ether, Dogecoin and Solana.

What is interesting is that whilst the results suggested growing confidence in the future of crypto with many planning to increase their investments, it also revealed a lack of understanding among many as to what exactly is involved.

Driven by FOMO

Many are drawn to invest based on FOMO, or Fear Of Missing Out, even though they don’t fully understand what cryptocurrencies are, or whether the hype surrounding them is justified.

They bought because of influence from friends, family or even out of curiosity after hearing about it in the media, especially after watching Bitcoin’s rise to an all-time high above US$65,000, or after hearing that El Salvador has decided to accept Bitcoin as legal tender.

The crash of May 2022

However, in May 2022, the crypto world was rocked when TerraUSD, a stablecoin, which is a system that was supposed to perform like a conventional bank account but was backed only by a cryptocurrency called Luna, crashed by more than 97% in 24 hours.

In June, the selling pressure on cryptos continued, with its most well-known player Bitcoin, crashing below US$20,000 compared to its high of US$68,000 last November.

The trigger for the selling was said to be interest rate hikes by several central banks whose aim is to combat rising inflation. Higher interest rates make risky assets less attractive.

In July, Celsius Network (CEL) announced that it filed for bankruptcy.  According to Forbes Advisor, “Celsius was intended to operate somewhat like a traditional bank, albeit for crypto rather than fiat currency. It was once considered among the most successful parts of the decentralized finance (DeFi) movement.”  Just couple of months ago, “Celsius claimed that it had 1.7 million users and assets under management (AUM) of $11.7 billion.”

Retail investors should stay away from cryptos: Government

Meanwhile, the Singapore Government has said that whilst the technology behind cryptos holds promise and should be explored further, retail investors especially should steer clear of investing in the sector.

The Monetary Authority of Singapore has consistently warned the public against trading in cryptocurrencies and took steps to limit promotion of cryptocurrencies to the general public earlier this year.

What you need to know

The collapse in May and June served as a stark reminder of the risks of investing in cryptos – they tend to have very high volatility. So, if you are thinking of taking the plunge in this new asset class, here are a few red flags you be fully aware of: 

1.    Don't Invest In What You Don't Understand

Paul Krugman, who won the Nobel Prize in economics, in a column published in May said many people do not fully understand what exactly are cryptos and that saying they are “digital assets’’ isn’t good enough.

“What is distinctive about cryptos is how ownership is established. I own the money in my bank account because the law says I do, and the bank enforces that legal claim by requiring, one way or another, that I prove that I am in fact, me.

“Ownership of a crypto asset is established through what is known as blockchain, an encrypted digital record of all previous transfers of ownership that supposedly obviates the need for an external party, such as a bank, to validate a claim’’ wrote Mr Krugman.

Basically, if you don’t understand any investment, it’s best to steer clear.

2.  Cryptocurrency Is NOT Accepted Globally As Currency (at least not for awhile)

According to Forbes Advisor: “A cryptocurrency is a medium of exchange that is digital, encrypted and decentralized. Unlike the U.S. Dollar or the Euro, there is no central authority that manages and maintains the value of a cryptocurrency. Instead, these tasks are broadly distributed among a cryptocurrency’s users via the internet’’.

The problem is that there are more than 19,000 cryptos available so it’s difficult to know which ones will eventually gain widespread acceptance as mediums of exchange – or if any will ever replace traditional currencies.

Some might say that it’s only a matter of time but note that Bitcoin was launched in 2009 so the most popular crypto has already been around for 13 years. Also note that El Salvador’s experiment with cryptos has not been successful, at least not yet.

3.   If You Really Want, Invest With Money You Can Afford to Lose

According to most experts, investing in cryptos is not for everyone because of the large risk and high volatility they bring. However, this doesn’t mean you shouldn’t invest – but if you do decide to go in, then make sure you understand the dangers, know what cryptos are all about and be prepared to only use money that you can afford to lose (for example, 5-10% of your funds available for investment).

To summarise, retail investors who dabble in cryptos do so at their own risk – but they should make sure they are fully aware of all aspects related to crypto trading.

Disclaimer:

The information presented here is to provide general awareness and educational purposes and does not constitute specific financial advice. Any mention of private or public organisations, reference to products or numbers used, are for the purpose of providing illustrations to help in understanding concepts being presented.

You are always encouraged to consult a licensed financial advisor, relevant government agencies and/or your family before making any major financial decisions.

Credit Counselling Singapore

Published 12 August 2022.