Introduction to cryptocurrencies (Part 3/4)
Investing in cryptocurrencies
In recent years investing in cryptocurrencies has become progressively easier, but it remains a minefield for the average person. This post will explain:
- How to buy and sell
- How to store safely
- How to send digital currencies
- How to invest in Initial Coin Offerings
This post will not cover what you should invest in, and one of the golden rules is that you should should always do your own research when investing. There is a wealth of information available, and a future post will look at the range of resources I use when making investment decisions.
How to buy and sell
Depending on your needs, you have several options when it comes to buying.
Some exchanges allow you to deposit fiat directly with them and then use that to buy digital assets. An example of this is Kraken or Gemini, who both accept USD and EUR amongst others. Bank transfers normally take 3-5 days and usually incur charges, so please check these with your bank.
There are also exchanges such as Poloniex on which you can buy digital assets, but you must use digital assets you already own to do so – they do not accept bank deposits.
Exchanges will usually require you to verify your ID, normally through providing your name, address and proof of ID, before you can withdraw your assets and often before they let you buy. They can take extended periods of time to process these, likely owing to the explosion of users, although this seems to have subsided since the rush in June/July.
Exchanges offer various pairs for trading. Poloniex for example offers a wide range of digital currencies, while Kraken is more limited. Both offer Bitcoin and Ethereum. Newer exchanges such as Binance have become more reactive to adding new crypto pairs. In Part 4 of this series I will provide a full list of exchanges.
Third party services
Companies such as Coinbase and localbitcoins allow you to buy digital currencies quickly and easily, with varying verification. Coinbase is a website/app that utilises the GDAX exchange but does so in a more user friendly manner (downside is the fees are higher at 4% of each transaction). You verify your ID and then you buy either Bitcoin, Ethereum or Litecoin the same way you would any other good. For a casual user just wanting to buy small amounts it is a good option. You will have a limit on the amount you can buy, at least to begin with, but this quickly rises as you make more purchases.
Localbitcoins is a means to buy Bitcoin very quickly. You choose a buyer, you transfer them the money (read their rules on how to keep safe carefully – in short, choose sellers with high rep and high volume) and they send you the Bitcoins to your localbitcoins account. From there you can send the bitcoins to your wallet or to an exchange. Localbitcoins is fast and convenient, but you need to be careful when using it as you buy off other people - not a central organisation - and the prices can vary wildly, particularly in volatile times. LocalEthereum has also recently launched providing the same experience but for Ethereum.
Services like Shapeshift.io and Changelly can be used to exchange your cryptocurrency for another cryptocurrency, with dozens of pairs available, including some that are hard to find on exchanges (particularly if you only want to sign up at one or two exchanges). It is a very quick service to use, but again, just follow the instructions carefully. You send Currency A from your Wallet, and then specify an address for the wallet of another currency to receive Currency B in. I will explain more about wallets later, but while all Ethereum based projects can use the same wallet (for example MyEtherWallet), other currencies (e.g. Bitcoin) need to use a different wallet.
If you try and receive a non-valid currency into your wallet, then it will be rejected. As crypto currency transactions are irreversible, be careful not to do this. Shapeshift does try and refund the original currency, but if you sent from an exchange from example it might not accept the refund (as a side note, when doing these sorts of transactions, you should always make sure you are sending/receiving into a private wallet – not a wallet on an exchange).
The downside is that you effectively pay market rates - which means if you are trying to buy a lot of an illiquid currency you may end up paying significantly over the odds.
How to store safely
There are several ways to store your currencies, but essentially you can store them online or offline:
- Software/mobile wallets: installed on your laptop/computer/phone. An app or program that stores your currencies. If someone gets access to your device, your currency is at risk
- Web wallets: Web based wallets that can be accessed from anywhere and thus more convenient
- Paper wallets: When generating a paper wallet, you can print off the codes for your wallet (usually a combination of email/username+password+2 factor authentication+’seed’ words that can be used to recover a lost account. Pros – A form of cold storage, as it is not connected to the internet and thus reduces risk of hacking; Cons – more of a hassle if you are using the currency regularly/trading a lot, need to make sure you don’t lose the paper!
- Offline/hardware storage: Hardware wallets such as the Trezor or Ledger Nano series are intended to provide an additional layer of security to cold storage such as paper wallets. With a paper wallet, your funds are secure until you use a computer – but if your computer you then use is compromised, you could then find your accounts hacked. Hardware wallets have a secure chip in them (or equivalent) that means when you connect them to a computer to send your currency you never need to input your private key on the computer itself. You simply input the input on the piece of hardware, meaning that trading on a compromised computer is more safe. If the hardware breaks/is lost then you can restore it on a new device from the seed words you get with it.
No method is ever truly 100% safe, but cold/offline storage is certainly safer than software/web wallets.
I can’t go into every currency and the wallet to use for each but myetherwallet is an example of a web based Ethereum wallet. I personally use a Ledger Nano S with myetherwallet and the default Ledger Bitcoin wallet. For non supported currencies (e.g. Waves) I store them on paper wallets. A bigger risk than being hacked is simply not backing up your wallet and thus losing it. Always keep backups of your details in a safe (and preferably multiple) place(s). If your wallet has ‘seed’ words, then make sure you never lose them.
Do not be tempted to just leave your coins on the exchange or service you bought them off. These exchanges represent big targets:
This is Poloniex’s Ethereum account, currently storing 177,000 Ether (it’s not as simple as it being just 1 wallet with that much in it but it highlights the amount of ETH these exchanges have).
There have been numerous examples of exchanges getting hacked and their investors paying the price. This even includes those who didn’t even hold the assets that got stolen, with investors holding $/£ on the exchange also taking losses as the exchange enforced a haircut across the entire community. Only leave on there what you need to trade. While a hassle to send back and forth to exchanges, it is too dangerous to do otherwise. Many/most of the exchanges operating remain unknown propositions with little to no customer services. The most famous collapse was the Mt Gox failure, but there have been numerous others (and will be more).
How to send and receive crypto currencies
This varies by exchange/wallet/currency. You will use your wallet/exchange to send the currency of your device to the address that you are provided with.
A typical use case might look like:
- You buy 1ETH on coinbase
- You want to send to Poloniex for trading
- You go to an exchange like Poloniex and find out what your Ethereum address is
- You open the coinbase app and go to Ethereum wallet
- You input your Poloniex account Ethereum address in the ‘send field’
- You send 1ETH (and pay small transaction fee, so might end up with just under 1 ETH in Poloniex account)
- Your ETH arrives in your Poloniex account
- You trade ETH for GNT (Golem) on Poloniex
I would always recommend trying to send a tiny amount to being with e.g. 0.05 ETH to make sure you have done it correctly until you are familiar with it. The key thing to remember is that you must always use the right wallet for the currency you are trying to receive and triple check you are using the right address. Be as diligent as you would if you were sending money out of your bank account.
How to invest in Initial Coin Offerings
Put simply, a lot of these are going to fail. At present hundreds of ICO’s are launching for what can be at best described as unrealistic targets. The intention of ICO’s is to both raise the funds needed to develop the firm further and to distribute tokens for use by a future community.
These ICO's are by and large unregulated (although this is changing), and any funds lost to fraudulent companies won’t be recoverable. Do research carefully on these.
On the plus side, if you invest in the right ICO and hold for a worthwhile period then the returns can be very high. Ethereum’s crowdsale sold the tokens at under $1 for example (as of today it sits at c. $300). The current environment means that many of these ICO’s sell out very quickly (i.e. in under 15 minutes) and can be rather chaotic. Essentially however, all you need to do is send the currency the ICO accepts (usually BTC/ETH) to them from your wallet. The tokens will then be sent to your wallet at the end of the ICO/after a predetermined period or you will be given instructions on how to redeem.
- Blockchain technology remains in a nascent state and crypto currencies are highly volatile, with huge losses possible
- The entire industry is still in its infancy and there is little to no government regulation. Deal with every company as if they will provide zero customer support in the case of any issues
- Do your own research. There is a lot of hype and disinformation from people with vested interests in seeing X rise or Y fall
- Be as safe as you can when storing your assets. I cannot stress this enough, as there are thousands of cautionary tales at this point. Do not be tempted to take shortcuts. Look to see where you are vulnerable (e.g. through your email account or phone). Store offline as much as possible in cold storage.