Cryptocurrency has become a buzzword in the investment world, with its total value reaching around $1.7 trillion. Bitcoin, the most popular cryptocurrency, alone is worth more than $800 billion.
This digital gold rush has attracted many investors, but with little knowledge about the market.
Despite cryptocurrency’s rapid appreciation, there are significant differences between stocks and cryptocurrencies. Stocks represent ownership in a business, backed by the company’s assets and cash flow, while most cryptocurrencies are not backed by anything at all.
Therefore, it is crucial for investors to understand what they are purchasing and how it compares to traditional investments such as stocks, which have a solid long-term track record.
Should You Invest in Cryptocurrency or Stocks?
Investing in cryptocurrency or stocks can be a challenging decision for any investor. Both investments come with their own set of risks and rewards, and it’s essential to understand what drives their success before making any investment decisions.
Stocks
Stocks are fractional ownership interests in a business, which means that investors who own stocks have a claim on the assets and cash flow of the business. A stock’s price moves as investors assess the future success of the company.
While investors may become overly optimistic about the stock in the short term, the stock price ultimately depends on the company’s ability to grow its profits over the long term. That is, a stock rises in the long term due to the success of the underlying company.
To invest successfully in stocks, an investor must analyze the underlying company’s financials, management, and competitive landscape. A well-performing company with a sound business model and a competitive advantage can provide excellent returns for investors in the long run.
Cryptocurrency
Cryptocurrency is a digital or virtual currency that uses cryptography for security. It allows you to perform certain functions, such as sending money to another person or using smart contracts that automatically execute after specific conditions are met.
However, unlike stocks, cryptocurrency is not backed by assets or cash flow. The only thing moving crypto prices is speculation driven by sentiment. As sentiment changes, prices shift — sometimes drastically. So cryptocurrency is driven only by the hope that someone will buy it for more in the future — what’s called the “greater fool theory of investing.”
To invest successfully in cryptocurrency, an investor must analyze the underlying technology, market demand, and regulatory environment. A well-performing cryptocurrency with a solid technology foundation and a large adoption rate can provide excellent returns for investors in the long run.
Conclusion
Investing in either stocks or cryptocurrency requires careful analysis and a clear understanding of the underlying assets’ risks and rewards. While stocks provide a sound ownership stake in a business, cryptocurrency provides a unique opportunity to invest in the future of technology.
Ultimately, the decision to invest in either stocks or cryptocurrency depends on an investor’s risk tolerance, investment goals, and overall investment strategy.
Pros and Cons of Investing in Cryptocurrency vs. Stocks
Pros of Investing in Cryptocurrency
- Possible hedge against fiat currency: Cryptocurrency’s decentralized nature is one of its biggest appeals to some investors. It is not controlled by central banks or governments who like to print money and generate inflation in fiat currencies such as the U.S. dollar or the euro. Cryptocurrency has been called “digital gold” by some investors who hold it because they think it will protect them from inflation.
- Potential for outsized gains: Buying cryptocurrencies creates the potential for large gains on an investment. Several cryptocurrencies have seen their prices skyrocket since first being introduced. These gains are the main reason people are attracted to cryptocurrencies, but the potential for price appreciation comes with significant risk.
- Growing number of coins: In the early days of cryptocurrencies, there were just a few coins that could be invested in, but the speculative interest has changed that. New coins are introduced regularly, and there are now thousands to choose from.
- Wide interest in digital currencies: There seems to be a growing interest in cryptocurrencies from investors, companies, and governments. This could be positive for investors as increasing acceptance of digital currencies could lead to more opportunities.
Cons of Investing in Cryptocurrency
- Extreme volatility: Cryptocurrencies have been extremely volatile in their relatively young existence. They aren’t backed by anything, so the price they trade at is determined by the whims of traders. Fortunes can be made and lost quickly, and there’s no telling where a coin might trade next.
- Cybersecurity risks: Despite cryptocurrency enthusiasts touting the security benefits of digital coins, there have been notable hacks involving cryptocurrencies. It is often difficult to recover stolen funds.
- No intrinsic value: Cryptocurrencies have no intrinsic value, which means they aren’t backed by underlying assets or earnings the way that stocks are. Stocks have value because of their future earnings power and what they will return for their owners, while cryptocurrencies offer nothing of the sort.
- Regulatory risks: While some governments have embraced cryptocurrencies, many are much more skeptical about them. China has banned them altogether, other countries could follow, and the U.S. is regulating them. Regulatory risks could lead to a decrease in demand for cryptocurrencies.
Pros of Investing in Stocks
- Long history of solid returns: Stocks have a long track record of producing solid investment returns, with the S&P 500 stock index returning about 10 percent over the long-term. Though stocks can be volatile in the short term, they have generally been safe to hold over long periods of time.
- Have intrinsic value: A stock represents an ownership interest in a company, and its value over time depends on the success of the underlying company. Companies own assets that produce earnings and cash flow for investors, creating what’s known as intrinsic value.
- Accessible: It is easier than ever to invest in stocks these days, with many online brokers cutting trading fees to zero. You can invest in individual stocks or choose to purchase a diversified basket of stocks through an index fund. Index funds help keep costs low, and you can build a diversified portfolio even if you don’t have much money to start with.
- Stronger regulation: Stock exchanges, brokers, and companies are all heavily regulated through various government agencies. Companies are required to provide certain information to investors through the Securities and Exchange Commission. No regulatory body is perfect, but stocks have been around for a long time, and there are certain important investor protections in place.
Cons of Investing in Stocks
- Volatile: When you hold a broad basket of stocks through index funds, stocks are less volatile than cryptocurrencies. Individual stocks can be more volatile, but typically less so than cryptocurrencies. Because of this volatility, stocks are best held as part of a long-term investment plan, so you have time to recover from any short-term losses.
- Lower potential for extreme gains: Broad stock indexes such as the S&P 500 likely have less potential for the extreme gains that can sometimes be found among cryptocurrencies. Stocks have returned about 10 percent per year over the long term, whereas it’s not uncommon for cryptocurrencies to move 10 percent in a single day.
Other Considerations When Investing in Stocks vs. Crypto
Time Horizon
The time horizon is a critical factor to consider when investing in stocks or cryptocurrency. Investors with a shorter timeline should opt for safer assets that are less volatile. Experts suggest that investors in risky assets such as stocks need at least three years to ride out volatility.
Stocks
Stocks are often volatile, but they tend to be less volatile than crypto. Individual stocks are more volatile than a portfolio of stocks, which tends to benefit from diversification. Stocks are better suited to investors who can leave their money alone and don’t need to access it.
The longer investors can leave their money invested, the better. However, some stocks can be more volatile than others. For example, growth stocks tend to fluctuate much more than value stocks or dividend stocks. As investors approach retirement, they may shift from more aggressive stocks (growth stocks) to safer ones (dividend stocks).
Cryptocurrency
While stocks are volatile, cryptocurrency is even more volatile. For example, during 2021, Bitcoin lost more than half its value in a few months and later gained 100 percent.
Such volatility makes crypto unsuitable for short-term investors. Crypto is better suited to traders who can leave their money tied up and wait for it to recover. Investors should think in terms of years rather than weeks.
Portfolio Management
Investors don’t have to choose between investing in cryptocurrency and stocks. It’s all about weighting the portfolio in a way that fits the risk and time horizon.
Cryptocurrency
Given its inherent risks, cryptocurrency works better with a small allocation in the overall portfolio. Investors should think of allocating 5 percent or less to cryptocurrency. Even a small allocation could do wonders for the portfolio if cryptocurrency takes off.
Limiting the allocation to a small percentage protects investors against a complete loss if crypto goes to zero. If cryptocurrency grows to be a significant portion of the portfolio, investors can re-allocate more of their money to stocks to lower the overall risk.
Stocks
A diversified collection of stocks should make up the majority of the portfolio, especially if investors have decades until they need to tap it. If investors are investing in individual stocks, they need to research their stocks carefully to achieve good returns.
If they are investing in funds, they can buy a broadly diversified fund such as an S&P 500 index fund without significant research and enjoy the potential for high returns.
Which is Safer, Stocks or Crypto?
Both stocks and cryptocurrencies present their own set of risks when it comes to safety. Stocks have a proven track record of delivering solid returns, backed by the assets and cash flow of a company. They are regulated by government bodies and have investor protections in place. However, market volatility, business decisions, and international events can impact stock investments.
Cryptocurrencies, on the other hand, lack the backing of tangible assets and are highly volatile. They offer the potential for substantial gains but pose risks such as cybersecurity threats and regulatory uncertainties. Therefore, the safety of these investments largely depends on personal risk tolerance and financial goals.
A broadly diversified stock portfolio generally presents a safer option than cryptocurrencies due to their intrinsic value and history of delivering solid long-term returns. Although cryptocurrencies may hold greater potential for outsized gains, they come with significant risk. Ultimately, the choice between stocks and cryptocurrencies depends on the individual’s risk tolerance and investment goals.
Bottom Line
Investing in cryptocurrency can be a lucrative opportunity, but it is important to understand the risks involved. Investors should conduct their own research and consider their risk tolerance and financial needs before investing in any cryptocurrency. It is not advisable to invest in cryptocurrency solely based on FOMO (fear of missing out) or because other traders are doing so.
While some cryptocurrencies have seen significant price increases, it is important to note that past performance is not a guarantee of future price appreciation. Some investors, including experienced professionals like Warren Buffett, choose to avoid cryptocurrency altogether.
In conclusion, investors should carefully evaluate their investment options and consider all factors before investing in cryptocurrency. It is always wise to seek professional advice and conduct thorough research before making any investment decisions.