Cryptocurrency - the risks of crypto

George Blew

 · 07/20/2021  · 07/20/2021

This is the sixth article in a series on the basics of crypto. You can find the first article on ‘What is crypto and what does it mean for me?’ here, and the previous article about the basics of buying crypto here.

Well done! You’ve made it to the final, and arguably the most important, post in our series on crypto basics. We’ve covered everything from what crypto is and how the blockchain works, to altcoins, withdrawals and the theory behind buying crypto. So why is this one so important? Because before you invest your money in anything, especially something as volatile as crypto, it’s important to understand the risks involved.

If you’ve read the other posts in this series – if you haven’t we’d recommend you do – you’ll have seen a paragraph like this: Remember when buying and selling crypto, your capital is at risk. Prices can go down as well as up. While we believe in crypto accessibility for all, we also know that it might not be appropriate for everyone. Please consider your personal circumstances when buying or selling crypto as the price can be very volatile. Past performance is not an indicator of future performance. Also remember that cryptocurrencies are not regulated. Sound familiar?

We want to make sure that you understand why these warnings are important and what the risks actually are. So let’s break it down in more detail.

What goes up could go down

The first and most important thing to be aware of when buying crypto is that you should never put in more than you can afford to lose. If you’ve ever invested in stocks, you’ve probably seen something similar before. That’s because this rule applies to any investment where the price can go down as well as up – so you could lose everything you invest – but it’s arguably even more important for crypto.

Why? Because cryptocurrencies are considered to be very volatile compared to more traditional forms of investment. This means that crypto prices can move up and down very fast, and this can happen regularly. Being a new and unregulated form of currency, it’s much more common to see crypto sharply rise or fall. Take DOGE, for example. Once the internet decided they loved that furry face, the price skyrocketed. Or Bitcoin, where one tweet from a certain space-bound billionaire sent the price tumbling faster than a Tesla with no brakes.

Research, research, research

While the content of this post should never be taken as investment advice, doing your own research is considered the best way to alleviate some of the risks that come with crypto. Before buying any crypto, it’s a good idea to find out why that crypto was created in the first place and what it’s designed to achieve. There are thousands of tokens out there, many of which are trying to solve different problems and some of which are just for fun (remember SHIBA?). You can read more on the different types in our post on altcoins, here.

As well as doing plenty of research before buying crypto, you might want to think about your investment principles. People will always disagree on the best strategy for investing, so, after you’ve done your own research, decide on what you think is best and come up with a plan of your own. With some of the meteoric rises we’ve seen in crypto, it can be tempting to buy tokens based on a ‘feeling’. Especially when you see others profiting. Don’t fall into the FOMO trap and stick to your principles.

Remember, gut-based trading often quickly leads to an upset stomach. While it’s true you could get lucky through sheer chance, it’s much more likely that, if you just wing it, you’ll eventually be left with a sour taste in your mouth (and a large hole in your crypto wallet). Believe in your plan – and don’t be afraid to finetune it along the way.

Other crypto risks

A key thing to bear in mind when considering crypto is that it is not regulated by the FCA or any other regulator, other than for anti-money laundering purposes. Unlike many other investments, if you invest in crypto, you are unlikely to have access to customer protections like the FSCS (Financial Services Compensation Scheme) or FOS (Financial Ombudsman Service). Sure it’s new and exciting, but you could also find yourself seriously out of pocket.

Many people think that, because crypto is decentralised and unregulated, any money you make from it won’t be taxed. In the UK, that’s not the case, and it’s something to be aware of. HMRC put tokens into four main categories: exchange tokens, security tokens, stablecoins and utility tokens. Any profit you make from any of these types of token is liable for capital gains tax. Similar to the tax you pay on any investment, you’ll need to pay a percentage of the profits you make. That said, you only have to pay tax on overall gains over the annual exemption limit, but it’s still something to be aware of. If you’re unsure about how you’re going to be taxed, it’s best to seek financial advice.

We know there’s a lot to take in here, but the fact is the future of crypto is still largely unknown, which makes it all the more important to be aware of the risks. The same things that make crypto such an exciting prospect for many, also make it an unknown. If you’re ever in doubt, it’s always best to err on the side of caution. Do your research, stick to your plan and, most of all, enjoy the process.