Whether you are looking for a way to diversify your portfolio or an alternative to traditional investments, cryptocurrency trading can hold great promise. Early adopters in Bitcoin and other digital currencies have already booked enormous profits, and every time cryptocurrency prices spike, a whole new wave of investors rushes in.

 

But before you jump into the deep end of the cryptocurrency pool, there are some key things you need to consider. The cryptocurrency arena is not for the timid, and the price swings of Bitcoin and its ilk make the ups and downs of the stock market roller coaster look like a kiddie ride. Here are four things all potential cryptocurrency traders need to think about.

 

#1 Security

Security has been a challenge for cryptocurrency traders from the very beginning, and the situation has not improved much in the intervening years. Users of cryptocurrency, both traders and long-term holders, face some serious security issues when purchasing, using, and eventually selling their digital coins.

 

Many cryptocurrency experts recommend keeping digital coins in so-called cold storage, basically an online vault that is not susceptible to hackers and other cybercriminals. And while that may be a smart thing to do, cold storage can make trading extremely difficult, especially when prices are rising and falling minute to minute.  

 

#2 Tax Implications

After years of hands-off treatment, the IRS has discovered cryptocurrency in a big way. The tax agency has already scoured the records of large cryptocurrency exchanges, seeking out taxpayers who may owe them money for their past trades.

 

It certainly seems like the days of cryptocurrency traders flying under the radar are officially over. If you plan to trade in this brave new world, you need to be prepared for the tax implications.

 

You also need to keep scrupulous records, not only of purchases and sales but of all transactions as well. The IRS has said that every use of cryptocurrency, from buying a pizza to selling virtual coins, is a taxable event. If you fail to keep proper records, you are relying on the IRS to tell you what you owe, and that be a dangerous and expensive gamble.

 

#3 Alternatives to Bitcoin

The cryptocurrency market has been growing by leaps and bounds, and that presents both challenges and opportunities for active traders. On the upside, the thousands of altcoins now available creates a wide universe for traders, along with the opportunity for increased diversification. On the other hand, having so many choices makes picking the one with the best upside risk a real challenge, and possibly an impossible one.

 

New traders may want to decide if they want to focus on an established cryptocurrency like Bitcoin, or take a flyer on a newly established one. Either way, those traders need to do their homework, since adoption rates, security, and availability of various cryptocurrencies can vary widely.

 

#4  Downside Risk

When you buy a stock or invest in a bond, you have both upside and downside potential. The downside, of course, is that the company behind the asset will go out of business, and while that risk is real, it is also uncommon and unlikely.

 

The same downside risk is present in the cryptocurrency market, but the threat there could be far more extreme. With so many new cryptocurrencies now flooding the market, inevitably, some of them will not survive. If you are caught holding the bag on those digital coins, you could end up losing all your money.

 

Even established cryptocurrencies like Bitcoin, Litecoin and Ethereum have seen their ups and downs, often falling as much as 70%, 80% or even 90% before recovering. If you are not prepared for these wild price swings, you could end up panicking out at the bottom of the market, much like the unwary stock market investors who sold during the depths of the Great Recession.

 

Investing in the cryptocurrency market can be profitable, and it is certainly exciting. The daily (and sometimes minute by minute) price swings will keep you on the edge of your seat, and if you are successful, you might need help counting your profits. But before you jump into this strange new world, you need to do your homework. There is enormous potential in the world of cryptocurrency and the blockchain technology that makes it possible, but there is also nearly unlimited risk. Knowing what to consider, and what to watch out for, can help you be prepared for the inevitable ups and downs of the cryptocurrency trading game.