The time when cryptocurrencies skulked in the shadows is long gone. Nowadays, news is rife with observations about cryptocurrencies (often simply referred to as “crypto”) and even cautious investors are considering whether they should dip their toes or plunge into what is now considered a multi-billion-dollar asset class.

Illustration of a coin with the Bitcoin logo in a cloud with a price tag pointing arrows down the globe. Around the globe (clockwise) are the Bitcoin cloud at the top, a generic person shape inside a cloud, a password field with 8 asterisks, a white key shape inside a blue shield that looks like a lock, a mobile phone showing 3 vertical rectangles in a wallet, another generic person shape inside a cloud. Background is a binary matrix with 1s and 0s.

The remarkable volatility of cryptocurrencies such as Bitcoin over the past decade is tempting for investors who see promising rewards but also see gut-wrenching risk. In 2021, the cryptocurrency market tumbled more than 50% between May and July, equivalent to $1 trillion in wealth.

While the topic of investing in and trading cryptocurrencies is gaining mainstream popularity, it's important to have an understanding of what they are and how they may (or may not) fit into your financial plan before jumping onto the trend.

What are cryptocurrencies?

Cryptocurrency is a form of digital money. Its value rises and falls based on the demand of the investors willing to buy into it. Unlike a stock, which generally reflects the perceived health of a company and its profits, a cryptocurrency isn’t usually tied to a company. Instead, its value may be linked to its efficiency and utility on the blockchain technology that underlies it.

At its core, cryptocurrency is a concept that presents an alternative to traditional government currencies, including what is called fiat money, which is backed by the government that issues it. The loonie you have jangling in your pocket? That’s fiat money.

How does it work?

Blockchain technology and the concept of a decentralized ledger is the foundation cryptocurrencies are built on. Basically, a blockchain is a list of transactions that theoretically anyone can view and verify. So, if you send or receive a cryptocurrency such as Bitcoin, there is a record of it. There is no need for a third-party such as a bank to authenticate the online transaction. Users send peer-to-peer on a network without an intermediary.

Computer power is used to verify the transactions on the blockchain to enable secure payments. It’s fast, too. Instead of waiting days for an intermediary to process funds, people using the system can send and receive funds using blockchain technology often within minutes.

The use of cryptocurrencies and blockchain technology in place of fiat money and banks has been demonstrated during the crisis in Ukraine, when Ukraine citizens needing funds quickly received cryptocurrency donations from around the world as their banking system with fiat money transactions was hobbled.

Why do people invest in cryptocurrency?

You may buy a cryptocurrency solely because you believe it will rise in value and stand the test of time as other cryptocurrencies jockey for attention and utility in the marketplace.

Like stocks, prices can be influenced by news stories, as well as government actions and announcements regarding potential regulations. Unlike a stock, you may also consider if the technology underlying the cryptocurrency and its potential future uses will increasingly gain traction (raising its value). Consider how the Internet grew in the 1990s with the adoption of browsers, when some people had dismissed it as a fad. Similarly, you may weigh whether network adoption will grow with blockchain and cryptocurrencies and, if so, how long that time horizon might be.

What are the risks and rewards of investing?

There are many other factors to consider, including your comfort and capabilities with using digital tools to buy, sell and hold crypto.

The emergence of cryptocurrency exchanges (digital platforms for making transactions) in Canada, the United States and globally, is providing increasingly easier access to crypto. However, there remains a considerable learning curve for many would-be investors.

If you intend to buy and sell cryptocurrencies, you need to be technologically adept online, whether using a mobile device or otherwise. Using an exchange platform, creating and maintaining a cryptocurrency wallet, understanding private and public keys and determining whether to use hot or cold storage, among other considerations, can pose barriers if you aren’t comfortable doing so.

Beyond the logistics of buying and holding crypto, you should also consider the emotions that can come along with investing in an asset with a volatile track record.

Top recognized cryptocurrencies

Bitcoin and Ethereum are the cryptocurrencies with the consistently largest market capitalizations, which is used to help determine their overall value. That doesn’t make them the surest investments, but it can figure into your assessment of them. While Bitcoin is essentially an alternative to government currencies, Ethereum is an operating system upon which developers can build programs including smart contracts. The advent of stablecoins and a plethora of altcoins, which are cryptocurrencies launched in the wake of Bitcoin, give investors an ever-widening field of possibilities from which to choose.

You can gain exposure to cryptocurrencies in the stock market in Canada by purchasing ETFs (exchange-traded funds) that track Bitcoin and Ethereum. Otherwise, there are cryptocurrency-related products in the stock market that reflect in various ways the growing world of decentralized finance and even the metaverse.

Even if you're familiar with digital tools and feel comfortable with your crypto knowledge, the best way forward when it comes to alternative investments is to consult a financial expert with our Servus Wealth Strategies and Credential Securities* team. They'll help you understand how cryptocurrencies may fit into your investment portfolio, based on factors such as your long-term goals, current life stage and risk tolerance.

*Servus Wealth Strategies Ltd. is a subsidiary of Servus Credit Union Ltd. offering financial planning, life insurance and investments. Mutual funds, other securities and securities related financial planning services are offered through Credential Securities, a division of Credential Qtrade Securities Inc. Credential Securities is a registered trade mark owned by Aviso Wealth Inc.

The information contained in this article was obtained from sources believed to be reliable; however, we cannot guarantee that it is accurate or complete. This article is provided as a general source of information and should not be considered personal investment advice or a solicitation to buy or sell any mutual funds and other securities.