How does cryptocurrency work? Is the technology behind it realistic or just another smokescreen aimed at luring people to invest their money before they lose it? What should you know before spending a single cent on cryptocurrency? Welcome to today’s post in which I will help you get the answers to the above questions. Read on to find out more.
What is cryptocurrency?
Cryptocurrency is best defined as a peer-to-peer system that enables people to send and receive money, without relying on banks to verify the transactions as they occur. It is a viable replacement for the physical money system which most people are used to. Cryptocurrency payments eliminate the need to walk around with paper currency, by enabling an environment in which digital entries to online databases are made in a bid to describe transactions. Whenever a transfer of cryptocurrency funds occurs, the transactions are usually recorded in a public ledger that anyone can access and view.
Cryptocurrency, also referred to as crypto, in short, is usually stored in digital wallets. Its name is to a great extent tied to the encryption technology used in the verification of transactions. The term points to the advanced coding technology that is used in the transmission and storage of cryptocurrency data between the crypto users’ wallets and to the public ledgers. Encryption provides safety and security.
The first cryptocurrency to ever be created was Bitcoin. After its creation in 2009, this crypto went on to become the best known and most widely used crypto on a global scope. Like other common currencies, cryptocurrency can be used to make money for those who own them. Some people try to profit from cryptocurrencies by trading in them like stocks, while others (speculators), hold on to them ( this is known as hodling in the crypto industry) as they await significant price increases over the medium to long-term horizon.
How does cryptocurrency work?
Cryptocurrency runs on a distributed public ledger that is referred to as a blockchain. This public ledger is simply a record of all the transactions that are usually updated and held by cryptocurrency holders.
Units of cryptocurrencies are usually created through a process known as mining, in which powerful computers solve very complex mathematical problems in a bid to generate coins. One can also purchase cryptocurrencies from brokers, and store them in cryptographic wallets so that they can spend them later.
The one thing you should know is that if you own cryptocurrency, you do not own anything tangible- you only get to own a key that enables you to move a unit of money to another person, without the need for verification/authorization by a third-party financial institution such as a bank.
As much as most people who are introduced to cryptocurrency are mainly introduced to Bitcoin, other cryptocurrencies, as well as the application of blockchain technology, are still rapidly emerging and being adopted on a large scale. It has become apparent that assets such as bonds, stocks, and many other financial assets can be traded using blockchain technology.
Is cryptocurrency safe?
This is one common question that’s asked by those who are not sure whether they should get started with the use of cryptocurrency. Cryptocurrencies are created to be used safely, but the owners of the cryptocurrency must ensure that their cryptographic wallet private keys do not fall into the wrong hands, otherwise, they could end up losing all their cryptos.
As we have already seen, cryptocurrency runs on blockchain technology, on which transactions are usually recorded into blocks, and are usually time stamped. This process is quite technical, but the end result is a well-structured digital ledger that is safe from hackers.
Beyond that, most transactions use the 2-factor authentication process. Users may, for instance, be required to enter usernames or passwords to initiate certain transactions. One may also have to enter the authentication code sent to their smartphone.
The fact that the blockchain is secure does not mean it is entirely hacker-proof. We have already seen cases of successful cryptocurrency heists, in which the hackers stole millions of dollars worth of cryptocurrency. To solve this problem, crypto service providers have come up with offline storage wallets (cold storage), that are hackers cannot access (unless they steal them forcefully).
Note that, unlike government-based money, the value of cryptos is usually driven by the forces of supply and demand, and this results in very wild swings. Such swings are responsible for massive gains for investors, or significant losses as well.
Finding your way into the world of cryptocurrencies
Cryptocurrencies are no longer very new to the world. We have already had an entire decade’s worth of information about them, as a result of the use of Bitcoin and other newly-created cryptos. If you are getting started with cryptos, you need to get started on the right foot, and this calls for you to:
Research the cryptocurrency exchanges
Before investing your money in cryptocurrencies, you should learn about the existing cryptocurrency exchanges ( they work like stock exchange platforms, by enabling you to buy and sell cryptos). There are currently more than 500 crypto exchanges in the present day, and you should research, read customer reviews, or consult with experienced experts before getting started.
Know how you will store your cryptocurrencies
Another common concern is how to store one’s cryptos. You have the option to keep the cryptos in an exchange, or to store them in a digital wallet. There are currently many types of wallets, and each has its unique pros and cons, that you ought to know before signing up.
Diversify your portfolio
Diversification is a proven investment strategy, that lets you put your money into different assets to shield yourself from losing all your money if a single investment sinks. This strategy also applies to cryptos, where you diversify within this asset class, by putting some money into Bitcoin, some of it into Ethereum, and some other portions of it into any other crypto that you find promising.
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OR maybe you are interested in another alternative asset:
Thank you for making it to the end of this post in which we have addressed the question, “How does cryptocurrency work?” I hope that you found it helpful and that you now know a thing or two about cryptos, that can help you take the right steps as you get started with investing in them as a beginner. Let me know if you have any questions about today’s topic, or if you need any help getting started with crypto investments.
I wish you well,
Eric, Investor and Team Member at Gold Retired!