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Ask Yourself These 3 Questions Before Investing in Cryptocurrency

By Maurie Backman – May 7, 2021 at 5:36AM

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Is cryptocurrency a smart choice for you? Here's how to decide.

Earlier in the year, meme stocks were all the rage. And now, it seems like the new trendy investment being talked about all over the internet is none other than cryptocurrency. From Bitcoin (BTC -2.75%) to Dogecoin (DOGE -3.38%), many investors have been eager to get a piece of the cryptocurrency action.

But is it the right choice for you? Ask yourself these questions to find out.

1. Do I understand it?

A good rule of thumb when investing in stocks is to never buy shares of a company whose business model you don't understand. To put it another way, don't invest in a company if you're not sure how it makes or manages its money. The same idea holds true for cryptocurrency.

On a basic level, cryptocurrency is a digital currency that can be used to pay for different goods and services -- though it's worth noting that it's not yet widely accepted. Cryptocurrencies work using a technology known as blockchain, which keeps tabs on digital transactions. There are thousands of cryptocurrencies that trade today, though some are far more well known than others, like Bitcoin and Dogecoin.

Man staring at computer screen as if concentrating deeply

Image source: Getty Images.

Though cryptocurrency has the potential to increase in value, the opposite could hold true, as well. Granted, the same applies to regular stocks, but stocks have been around for a long time, whereas cryptocurrency is a newer concept and far more speculative. As such, make sure you truly understand its ins and outs before adding it to your portfolio.

2. Does it align with my strategy?

If you're an investor, it's important to have a well-thought-out strategy for building a portfolio that will allow you to grow long-term wealth. Investing in cryptocurrency may very well align with your strategy, especially if yours involves building a diverse portfolio. But if you're looking at cryptocurrency more so because you keep hearing about it and less so because you think it's a smart investment for you, then you may want to stay away.

3. Do I know how to buy it cost-effectively?

You can buy cryptocurrency on a number of different exchanges, like Coinbase. But those exchanges charge different fees, which can be calculated as a percentage of the price of the cryptocurrency you buy. Those fees can add up, so be sure to do your research and make sure it's a cost-effective investment option.

If you're the type of investor who's not all that risk-averse and you're looking for a way to branch out from stocks, then you may find that cryptocurrency is a good bet. But if you're going to invest in it, make sure you're doing so for the right reasons and under the right circumstances.

It may be tempting to get in on the hype you keep reading about and add cryptocurrency to your portfolio, but make sure that's really the right call. The last thing you want to do is make a rash decision, sink a whole bunch of money into cryptocurrency, and miss out on the opportunity to make a more suitable investment.

Maurie Backman has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Bitcoin. The Motley Fool has a disclosure policy.

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