- It's a good idea to cover other financial bases before you buy your first crypto.
- Cryptocurrency investing can offer high rewards, but it can also be risky. Make sure you're comfortable with the risk before you jump in.
Here are some steps to take before you buy any crypto.
Over 15% of Americans have bought, traded, or used cryptocurrency in some way or another, according to Pew Research. And many more people plan to buy crypto in 2022. If you're one of them, you may not be sure where to start. After all, cryptocurrency investing can feel overwhelming at first, and there's a lot of information to take in.
Here are six moves to make before you buy your first crypto.
1. Top up your emergency fund
Cryptocurrencies are high-risk investments. Not only can they be extremely volatile, but it's also a relatively new and untested market, so there are a lot of unknowns. For example, we don't know how heavily governments around the world might regulate the crypto industry -- or what impact increased regulation might have. Cryptocurrency prices have dropped by 50% or more at several points in its short history. While prices do usually trend upward again, you don't want to be in the position where you have to sell your investments at a loss if you're suddenly faced with an unexpected bill.
One good way to cushion yourself is to build up a solid emergency fund before you buy any cryptocurrency. It's wise to have three to six month's worth of living expenses tucked away in an easily accessible savings account. That way, if you have to deal with a financial crisis -- such as a job loss or sudden home repair -- you won't have to dip into your crypto investments to do so.
2. Make sure you're good on other financial goals
The golden rule of cryptocurrency investment is that you should never invest money you can't afford to lose. That means not taking on debt in order to buy crypto, and not using money you need to pay your rent or mortgage. But there's more to it than that. You also need to make sure you're on track with your broader goals.
For example, perhaps you're saving to put a down payment on a house, want to contribute a certain amount toward your retirement each month, or are trying to get out of debt. This is also money you can't afford to lose. High-risk investments like cryptocurrency should never come at the expense of other financial needs.
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3. Understand how crypto fits into your portfolio
Take some time to think about why you are buying crypto and how it fits in with the rest of your investments. Some investors have a much lower risk tolerance than others. Assuming you're comfortable with risk, try to ensure that higher-risk investments only make up a small portion of your overall portfolio.
Before you buy crypto, it's a good idea to be clear on your rationale for doing so. Maybe you want to take a chance on the price of Bitcoin (BTC) increasing in the long term. Or perhaps you believe blockchain technology has huge potential, or want to earn a passive income via the burgeoning decentralized finance industry. Knowing the why is a good way to avoid panic selling during market crashes, and it also helps you make informed investment decisions.
4. Research the cryptocurrencies you want to buy
There are over 17,000 cryptocurrencies on the market right now. Some are solid businesses with reputable teams and well-thought-out business plans. Others are less reputable with a number of red flags. As a new crypto investor, it's wise to stick to more established cryptos like Bitcoin and Ethereum (ETH) until you have a stronger sense of how the market works.
If you want to branch out into smaller coins, always do your own research. Look into things like the management team, what problems the crypto project plans to solve, how many tokens it has issued (or will issue), and how those tokens or coins are distributed. The more research you do, the less likely you are to fall victim to a crypto scam.
5. Decide on a cryptocurrency exchange
Choosing the right crypto exchange is about balancing things like ease of use against fees and other factors. There have been several high-profile crypto exchange hacks over the years, so security should be a priority when you compare exchanges. Some crypto exchanges have third-party insurance that gives an extra layer of protection. Check out our list of top cryptocurrency apps and exchanges to find out more.
One thing to bear in mind is that crypto exchanges don't yet have to follow the same rules as banks or traditional stock brokers. On the one hand, this can mean you're able to access products and services you might not otherwise be able to. But on the other, it means you may not have the same levels of investor protection you're used to.
6. Understand crypto taxes
Cryptocurrency is currently classified as a property by the IRS, and you need to pay taxes when you trade, sell, spend, or otherwise realize a gain. While cryptocurrency taxes may change in the coming years, it's important to understand your obligations and to track all transactions. That way, you can avoid any nasty headaches when you complete your tax return.
Cryptocurrency investing can be an exciting and rewarding experience, but it's important to understand and manage the risks involved. Don't buy crypto simply because everybody else is doing it or because you're scared of missing out. Instead, work out how much you can afford to invest and how crypto fits with your overall investment strategy. This will help you get the most out of this new asset class.
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We're firm believers in the Golden Rule, which is why editorial opinions are ours alone and have not been previously reviewed, approved, or endorsed by included advertisers. The Ascent does not cover all offers on the market. Editorial content from The Ascent is separate from The Motley Fool editorial content and is created by a different analyst team.
Emma Newbery owns Bitcoin and Ethereum.
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