Despite people saying cryptocurrency's a bubble about to burst, Bitcoin ( BTC -12.11% ), Ethereum ( ETH -10.37% ), Dogecoin ( DOGE -19.45% ), and many other altcoins are drawing in new investors all the time. Like any investment, there's a risk of loss when you invest in cryptocurrency. But betting on the wrong one isn't the only way it could all go wrong. Here's a look at four ways investing in cryptocurrency could cost you, and how you can reduce that risk.
1. Investing in the wrong cryptocurrency
OK, so when it comes to investing in anything, there aren't really clear-cut rights and wrongs. People have made fortunes betting on penny stocks and shiny new cryptos that don't end up going anywhere in the long run. They were just lucky enough to get in and out at the right times. But most people aren't that fortunate.
It's difficult to predict which cryptocurrencies, if any, are going to stand the test of time and which will fall by the wayside. But you'll have better chances of picking a winner if you research each coin you're interested in. Try to understand what distinguishes it from Bitcoin and what applications it could be used for.
Don't just jump onto the bandwagon and buy whatever's on a hot streak right now, or whichever coin has the best memes. That's a dangerous way to choose your investments because when the social media hype moves on to something else, you could lose a lot of money.
2. Cryptocurrency scams
Just recently, the Federal Trade Commission (FTC) announced that more than 7,000 investors lost over $80 million in cryptocurrency scams from October 2020 to March 2021. With so many people interested in cryptocurrency right now, it's easy for scammers to blend in with the crowd.
Some promise to offer insider investing tips. Others pretend to be a government agent or a celebrity, like Elon Musk, offering to give you money if you send cryptocurrency. There's a variety of tactics, but they all end the same way: Your cryptocurrency's gone and you get nothing in return.
Be suspicious of anyone who tells you they can make you a fortune if you give them your cryptocurrency to invest, and stay away from companies that insist on being paid in cryptocurrency.
If you do come across a scam, submit a complaint to the FTC, the Commodities Futures Trading Commission, the Securities and Exchange Commission, and the cryptocurrency exchange you used if you sent money to a scammer.
Because cryptocurrencies are stored in digital wallets and all transactions occur online, hackers are sometimes able to get hold of other people's cryptocurrency, despite the security measures in place to prevent this.
Back in 2014, a Tokyo-based cryptocurrency exchange named Mt. Gox had to file for bankruptcy after hackers stole the equivalent of $460 million in U.S. dollars. And that's not the only time this sort of thing has happened.
You have to be proactive if you want to keep your cryptocurrency safe. That means avoiding scams and only working with legitimate cryptocurrency exchanges. Research the exchange's security to see how it protects your money and make sure you're comfortable with this. Compare it with other popular exchanges before you decide which one you want to invest with.
You could also consider storing your cryptocurrency in an offline (or "cold") wallet, although you open yourself up to the possibility of physical theft if you leave it lying around.
4. Password loss
If you lose the password to your cold wallet, you could lose access to your cryptocurrency permanently, even if you've got the wallet right in front of you. If you have a hot wallet -- one that's connected to the internet -- then you might have to worry about other people holding on to their passwords.
One particularly devastating case happened in 2019 when Gerald Cotten, founder of Canadian-based cryptocurrency exchange Quadriga, unexpectedly died. He was the only person who knew the exchange's crucial passwords, and without that information, his clients were unable to access the combined $250 million in their accounts. This understandably led to an uproar, causing some to go as far as to demand Cotten's body be exhumed to prove he was actually dead and not scamming them. As it turned out, the exchange was later determined to be a Ponzi scheme as well.
It's up to you to decide where you feel more comfortable storing your cryptocurrency, but understand the pros and cons to each approach. If you use a cold wallet, memorize or keep your list of passwords somewhere secure, along with your wallet, where others won't find it.
You'll never be able to take all the risk out of cryptocurrency, but by following the tips above, you can reduce your odds of loss somewhat. And if you don't feel comfortable investing in cryptocurrency given all the ways you could lose money, you could try investing in cryptocurrency stocks instead. These are stocks of companies that stand to benefit from increased cryptocurrency adoption. But they can still be strong companies in their own right, so if the crypto bubble does burst, you won't lose everything.