You’ve stuck your toe in the water and have your very first crypto in your wallet, but you want more. What’s the point in just holding crypto? There has to be a way to make your crypto work for you…
November 22nd, 2021| Mike Humphrey
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How to Invest in Cryptocurrency
Crypto investing can be as simple as buying a coin and watching it grow, or it can involve multi-tiered investment techniques that include leveraging your crypto to increase your rewards. Below are some ways to get your cryptocurrency working for you. Lets take the red pill and see how deep the rabbit hole goes.
Buy and Hold Crypto
Buying and holding is one of the most basic techniques for making money on your crypto. It is a pretty passive strategy and involves selecting a coin or token that you believe will succeed in the long run. Holding cryptocurrency for the appreciation can have huge returns. For example Bitcoin’s 10 year compounded annual return is 200%, that outperforms the average annual return of the stock market (10%) by 20x. If you are more comfortable with risk, you can consider altcoins (coins other then Bitcoin). SHIB for example has grown 7.7 million % since it’s inception. If you are good a picking winners, buy and hold can be a great hands off strategy. With big returns though, comes big risk. Altcoins are similar to penny stocks, winners can win big, but there are lots that don’t win, especially in cryptocurrency where the barrier to entry for new coins is quite low.
Buy and Hold Strategies
Dollar Cost Averaging (DCA)
Dollar cost averaging is a technique where you purchase an asset at consistent intervals. Many cryptocurrency platforms will set up automatic purchasing for you, making this a very easy hands off strategy to follow. Dollar cost averaging levels out your purchase price. Over the long-run this allows you to take advantage of gains without being impacted by price fluctuations. This is especially important with volatile assets like cryptocurrency where prices can fluctuate by +/- 20% a day(or more…).
Buying the winners involves identifying the top assets that have increased the most within a given time frame. The idea, is that these assets have momentum, that you expect to continue. By purchasing the winners you are looking to continue to ride the wave. This strategy can be combined with dollar cost averaging.
To purchase losers, you identify the lowest performing assets in a given time frame. The idea behind this strategy is to purchase an asset at a low price, with a large potential upside. You may be lucky enough to find a diamond in the rough.
There are many more possible strategies. We recommend if you are going to buy and hold, that you use dollar cost averaging with all of these.
One step up in complexity from the buy and hold strategy is trading crypto. With this strategy your goal is to buy low and sell high, or sell high and buy low. Investors experienced with day trading in the stock market will be familiar with this investment technique. To better take advantage of the market, you can consider looking at short selling and options trading. Being a very volatile market, trading can offer opportunities for investors who use strategies that depend on price fluctuations. There are significant opportunities in cryptocurrency for experienced traders.
All of the above strategies can be performed on exchanges. These exchanges are usually a combination of Fiat/crypto where you use fiat to purchase and sell cryptocurrency. The strategies below involve smart contracts, where you allocate your assets to a protocol, and in exchange earn a return. Read our article about DeFi to learn more.
In terms of complexity, staking is the first level in DeFi. Proof of stake blockchains (Ethereum and Cardano) offer opportunities for investors to earn rewards for putting up their cryptocurrency to be used to verify the block chain. This involves loaning your cryptocurrency to the blockchain for a set period of time. Your assets are locked into the proof of stake protocol and used to verify transactions on the blockchain.
The world of DeFi is a very dynamic place, with new protocols being developed every day. The main premise behind DeFi is lending and borrowing assets to provide liquidity to protocols. In return investors earn a return on their liquidity.
Lending & Borrowing Platforms
lending & borrowing applications are central platforms for the DeFi space. You deposit your assets into the protocol and earn an interest on your deposit. You can then borrow against these assets, either in the same currency or in another currency offered by the platform. You are required to pay interest on your borrowed asset which is secured by your deposit. If the loaned asset reaches a threshold value versus your deposit, either due to interest accumulation or price fluctuation, then your position will be liquidated.
Liquidity Pool Swap Fees
Liquidity pools provide coins for swap protocols. In order to exchange from one coin to another you must find someone to trade with. Traditionally in centralized finance you would do this at a bank. In DeFi, swap protocols have pools of coins that have been provided by third party users. When you wish to exchange, the swap protocol takes your coins and gives you a different coin from the pool and charges a small fee for the service. Investors who have added coins to the pool receive a portion of those fees as a reward. Liquidity pools can be highly lucrative, but due to their nature are subject to impermanent loss.
Native Token Rewards
Protocols offer native tokens that provide additional return for users who have added liquidity. The goal of the protocol is to increase liquidity to a point where the platform can become large enough that it is ubiquitous. As rewards are distributed it decreases the value of the native token, meaning the rewards are deflationary and not sustainable in the long-run. Often native tokens can be staked in the protocol to give the owner governance rights. Native tokens are often used in yield farming strategies and then exchanged for stable coins or Eth/BTC.
Protocols create non-governance tokens that can be staked to receive a portion of the platform revenue. The tokens can be purchased or received as rewards, and are then staked back in the protocol. This provides the protocol with additional funds and in return the investor gets a share of the revenues.
Liquidity pools depend on arbitrage. Token prices in a pool are regulated by users exploiting price differences between the pool and actual market rates. By their very design, they present investors with the opportunity to capitalize on price differences. There are a few protocols that allow investors to automate and take advantage of arbitrage opportunities.
Options protocols function the same as options do in a centralized market. Put or call options can be purchased based on the expected future value of an underlying asset usually Bitcoin or Ethereum. Two protocols that offer option trading in DeFi are listed below.
Insurance protocols offer users the ability to insure their funds against unforeseen circumstances. They can be used to insure specific tokens, or even tokens in specific protocols. Insurance providers require liquidity to cover insurance claims and users who provide liquidity earn a portion of the fees paid by insurers.
Cryptocurrency is an exciting place, the speed of the changes happening, especially in DeFi is astounding. Cryptocurrency is so much more than just an asset to hold or trade for a profit. For those interested in taking the time to learn, and become comfortable, there are great returns to be had. Be forewarned, DeFi is still the wild west. With new advancements comes risk. Be sure to do your own research before investing in any project!
How are you investing in crypto? Let us know in the comments.
Hi I’m Mike, an active crypto investor DeFi enthusiast and crypto miner. I have been involved in crypto since March of 2021 and in DeFi since May 2021.
I’m also an avid outdoor adventurer!