An Investor’s Guide to Cryptocurrency; Part 2: Risk Associated with trading cryptocurrencies

It has been a week already since we discussed the how cryptocurrencies work. Its mechanics is quite interesting however, you will find that it has reasonable similarities to the orthodox currencies like the USD, GBP, GHC and even the NGN. Trading in currencies generally is categorized as high risk. Why? It is characterized by a high volatility rate.

It is a fundamental fact in finance that the higher the risk of an investment, the higher the return. There is a significant level of risk every crypto investor must be aware of before and while investing. The security level of your investment is marginally below the standard of the non-digitalized currencies that are backed by national economies and are closely regulated.

Regardless, the blockchain technology provides a more secure transaction in terms of privacy of transactions. Hence, in its early days it was mostly associated with crime and the dark web.  However, where it compensates for privacy, it loses in the following areas:

1. Trading Platforms Risk

Over the years, the crypto industry has recorded several hacks.

According to Su (2019), Hackers had stolen approximately $4.26 billion within the first six months of 2019 which shows an upward trend in comparison to the $1.7 billion stolen for the entire 2018. For as long as the industry remains unregulated, this upward trend may continue.  

According to Nelson (2020), “CipherTrace, blockchain analytics firm said fraudsters, malicious hackers and thieves have amassed $1.36 billion in ill-gotten crypto through the first five months of 2020. CipherTrace published the findings in its June 2020 crypto anti-money laundering and crime report. That hefty haul puts 2020 on track to become the second-costliest year in the history of crypto, behind 2019’s record $4.5 billion but likely ahead of 2018’s $1.7 billion, the firm estimates.”

Quite unfortunately, over the years, the crypto industries have responded in a somewhat reactive rather than proactive manner.

When considering investing in the crypto market, be sure to meticulously do your findings on the reputation of the trading platform before committing to it. The trading platforms serve as a huge vulnerability to the industry as they serve as a gateway for hackers to rob investors and traders.

2. Access Risk

In the cryptocurrency market, investors or traders use keys (private keys and public keys) to access their crypto wallets. Cryptocurrencies largely depend on the concept of cryptography as a measure of its security. The cryptography system generates a unique identification number per transaction.  On the flip side, the price to pay for privacy is that once this key has been lost, the investor has lost all investments accessible by the key.

3. Legal Risk

The acceptability of digital currencies is now more widespread than ever and is still on the trajectory of earning a permanent place as a valid means of exchange in global economy. However, investors and traders continue to bear a legal risk as no economy or sovereign state is responsible for the currency.  Although slim, the possibility of digital currencies losing value based on its legality still exists.

The value and major driving force of cryptocurrency remains dangerously tied to its demand. While this is not totally inherently bad, it means an investor runs the risk of losing billions within seconds when the demand changes even by the slightest margin. This, we consider, the greatest risk to digital currencies. Will it always be an acceptable means of payment? Only time will tell.

The privacy offered using digital currencies makes it appealing to so many players within the world of crime hence, the initial negative sentiment attached to it up until recent times. Will this privacy appeal prove sufficient in sustaining digital currencies? Only time will tell.

We hope this article has been able to help you identify some risks associated with cryptocurrencies in a bid to enable you take well informed cryptocurrency investment decisions according to your pre-determined risk appetite.

Stay tuned for the last part of this series!

Check out our previous post on cryptocurrency

Rise of cryptocurrency The mechanics of cryptocurrency

REFERENCES

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