If there’s one thing you should know about investing in cryptocurrency, it’s that you’re in for a roller coaster ride. Values fluctuate by the minute — sometimes drastically — driven by speculation, hype, and even the whims of Elon Musk.
But what if you’re one of those “boring” investors whose main interest is building slow and steady wealth for a retirement that’s years away? Because it’s built on a promising technology called blockchain, crypto’s short-term risks might be worth its long-term potential rewards, according to some financial experts — as long as it isn’t holding you back from meeting other basic financial responsibilities.
Still, it would be good to clarify your goals and expectations before you buy any crypto.
Let’s start with some cryptocurrency basics:
• There are thousands of different cryptocurrencies. Bitcoin, the first and most established cryptocurrency, has shown itself to be a better fit for holding and increasing in value than others, which remain much more speculative and unpredictable.
• Most financial advisors and other money experts still view cryptocurrencies with a healthy dose of skepticism. Some consider it more like gambling or buying a lottery ticket than investing.
• Cryptocurrencies operate on a principal known as decentralized finance, or DeFi — meaning they are beyond the scope and reach of any central government or authority. This lack of governmental oversight appeals to many, but comes with risks others find unacceptable.
Cryptocurrency Ground Rules
We learned a lot in 2020. Every new story about unemployed Americans clarified the importance and priority of having your financial bases covered.
Since cryptocurrency is riskier than conventional investments, this focus is fresh in our minds when we think about how and where it fits into a conventional retirement investment plan. We’ve talked with more than 20 personal finance experts recently about cryptocurrency — and what people should know and have in place before they buy any crypto. Some common themes have emerged.
Some of this is good advice to follow before you start putting lots of money into conventional retirement investments. It’s even more critical to consider before buying cryptocurrency, since it’s still so unpredictable and volatile.
You Should Have an Emergency Fund First
To state it simply: Don’t buy cryptocurrency if you don’t have a solid emergency fund in place.
“You need to have your emergency fund, clearly,” says Danial.
How much to save for an emergency fund — liquid cash in an accessible savings account — is open to debate, but saving enough to cover at least 3 months of expenses is a good starting point. “Have at least 3 to 6 months of expenses in your bank account,” says Matt Elliott, a financial advisor with Pulse Financial Planning in Rochester, Minnesota. “If you are in an employment situation that is not stable, this number should be 9 to 12 months.”
Other Financial Bases to Cover
Along with an emergency fund, experts say you should have a conventional retirement savings strategy in place and should carry no high-interest debt before you start buying and investing in cryptocurrency. “Only when these fundamentals are in place should a person consider investing in a speculative asset such as cryptocurrency,” says Jason Dall’Acqua, a financial advisor with Crest Wealth Advisors in Annapolis, Maryland.
These fundamentals include things like:
• If you have an employer-sponsored 401(k) or other retirement plan, make sure you are maxing out any employer match.
• Make a plan to pay for student loans if you have them.
• Pay off high-interest debt. Elliott says you should prioritize any loans or credit card debts that have an interest rate of 5% or higher.
• Max out contributions to a Roth or traditional IRA.
• Have a budget that comfortably accommodates your mortgage or rent and other fixed monthly expenses, leaving enough room for flexible spending and core retirement saving/investing.
If you decide you are in a position to invest in cryptocurrency, experts suggest investing only what you’d be OK losing. “Don’t risk more than you can afford to lose on something so volatile, and be cautious of all the media hype,” Dall’Acqua says.
Here are four questions financial experts say you should ask yourself before buying cryptocurrency:
1. Why Do You Want to Buy Crypto?
As with any big personal financial decision, start by evaluating your situation and what you aim to accomplish. Are you looking to buy Bitcoin or other cryptos as a way to get rich quick? You don’t have to look very hard to find experts who will tell you how bad and risky an idea that is.
Crypto as an Investment
If you’re still early in your career and years away from when you plan to retire, cryptocurrency should be considered an aggressive, higher-risk investment, Danial says. If you’ve decided to allocate 20% of your portfolio to more aggressive investments, for instance, you should consider cryptocurrency within this slice of your retirement-planning pie.
Unlike the stock market and its long record of increasing in value over time, “cryptocurrencies are a little bit risky at this point because it’s so unknown,” Danial says. Still, as crypto’s track record grows, and continues to show growth and gains, it makes sense that investors want to make sure they aren’t missing out on something that could deliver real long-term value.
Those who see long-term value in cryptocurrency point to the underlying blockchain technology, and its potential to drive innovation in conventional finance and other industries. “The real jewel is blockchain,” says Chris Chen, a financial advisor with Insight Financial Strategists in Newton, Massachusetts. “Blockchain will continue to change the way that we do things.”
Whether it’s the prospect of a profitable investment or the technological component that excites you, think of it with a long view in mind and don’t go in looking for quick easy money.
Crypto as a Currency
The word “currency” is right there in the name, but don’t leave your analog wallet at home just yet.
The idea of a decentralized currency might be a founding principle of crypto, but the reality is their value is just too volatile for buying and selling things. Limited institutional adoption is another major barrier to more widespread use of cryptocurrency in place of cash.
The acceptance of crypto as an alternative to established, national currencies will depend on the scale of adoption by businesses and people alike, says Lule Demmissie, president of Ally Invest. Another big unknown is what effect there might be if the U.S. or other countries started regulating — or even outright banning — cryptocurrency.
2. What Is Your Risk Tolerance?
You should have a high risk tolerance to buy or invest in cryptocurrency. With such a young market (compared to the stock market, at least), the value of various cryptocurrencies can rise and fall — sometimes drastically — by the hour. And there’s no guarantee they won’t collapse completely. Again, it’s worth considering how you’d feel if everything you put into crypto became worthless overnight.
“Cryptocurrency isn’t investing, it’s speculating,” says Trent Porter, a financial advisor with Priority Financial Partners in Denver, Colorado. “Invest in a stock, you get the dividend. Invest in real estate, you get the rent. The only thing you’re buying with cryptocurrency is the hope that someone else will pay more for that hope than you did.”
For every story of someone getting rich with cryptocurrency, there are just as many — if not more — highlighting those who’ve lost it all.
3. Where — and How — Do You Plan to Buy Cryptocurrency?
You can’t exactly walk into the bank or call up your retirement plan administrator to buy cryptocurrency. This may seem trivial, but if you’ve decided to buy some crypto, do some research on where and how to actually buy it.
Crypto exchanges are largely unregulated, which means investors lack some of the oversight and protections they get with banks and conventional mainstream investment platforms. The burden is on the user to evaluate and assess different levels of security and insurance offered by different exchanges.
Coinbase recently made history by being the first cryptocurrency exchange to go public, and is perhaps the most well known crypto marketplace. Coinbase pools its users’ balances into accounts held in U.S. dollars, so its customers are protected by FDIC insurance similar to their checking or savings accounts. On the other hand, Kraken is another crypto exchange offering no insurance protection. For Danial, the extra security and insurance that comes with Coinbase justifies the relatively high fees it charges to buy and sell crypto.
Some brokers, like Robinhood, allow investors to buy and sell crypto but lack a key feature: the ability to move crypto onto a digital, but offline, wallet — essentially a special USB drive for securely holding cryptocurrency. Not being able to transfer holdings to an offline wallet reduces an investor’s control over their crypto, Danial says.
“That is not actually owning cryptocurrencies,” Danial says. “It is not your position, you’re just … putting a bet on the price. So I wouldn’t recommend that.”
While many people who own cryptocurrency are comfortable keeping smaller amounts in the cloud-based digital wallets offered by the exchanges they buy from, others opt for the extra security of transferring their cryptocurrency to their own physical device that can be kept securely at home, or perhaps in a safe deposit box. Of course, keeping your crypto on a small device like this also comes with the risk of losing it — along with all your crypto.
4. Which Cryptocurrencies Would You Buy?
There are thousands of different cryptocurrencies, so at some point it makes sense to decide what you want to buy before you put any money down. Bitcoin was the first cryptocurrency and remains the biggest and most popular, so many investors are betting on Bitcoin maintaining and increasing its value, says Demmissie.
If you’re interested in cryptocurrency primarily as a long-term investment, Bitcoin has the longest track record of increasing value over time. Multiple financial advisors have told us their advice to clients who are interested in cryptocurrency is to buy some Bitcoin, but pass on the more volatile, lesser-known altcoins (anything that’s not Bitcoin).
On the other hand, if you’ve done a lot of research and feel passionately about the specific innovation being driven by a lesser-known cryptocurrency, then investing in an altcoin might be as much about personal belief as return on investment.
Similar to how you might invest in a small technology startup doing something you feel passionate and optimistic about, you might want to put your money toward cryptocurrencies based on other aspects of the related technology or mission (often spelled out in cryptocurrency white papers).
And then there’s Dogecoin: A reminder that anyone can start their own cryptocurrency, for any reason they like.
Dogecoin has seen a big rise in value and popularity in recent weeks, but people might not realize it “was literally started as a joke,” Chen says. “Think about that!”
“When you have 4,000 blockchain-based currencies out there, which is more currencies than we have in the paper world, you know that there are way too many of them,” Chen says. “And you know that at some point many of them will disappear, because there is no use for them.”