How Does Crypto Trading Work?
How does crypto trading work? Before we get on to the mechanics, let's ensure we understand what cryptocurrency is.
Cryptocurrency, or crypto, is any digital or virtual currency that uses cryptography to secure transactions. These are free of central issuing or regulating authority and rely on a decentralised system to record transactions.
Cryptocurrencies are slowly but steadily taking over the world, and the market has grown enormously in recent years. Since the launch and introduction of Bitcoin, its rapid growth, and its value surpassing that of gold, ensured a surge in consumer interest.
Cryptocurrency payments exist solely as digital records to an online database describing specific transactions rather than as physical money carried around and exchanged in the real world.
Crypto makes use of encryption to verify transactions. Encryption aims to ensure security and safety. Transactions involving cryptocurrency funds are stored in a public ledger. Advanced coding is required to store and transmit cryptocurrency data between wallets and public ledgers.
How does crypto trading work?
The act of speculating on digital coins' price and value fluctuations is known as crypto trading. One crypto trading method uses a digital wallet to buy and sell cryptocurrencies on an exchange, where current market rates determine their value. Similarly to the stock market, you can profit if you buy a cryptocurrency and sell it for a higher price than you paid.
Another popular method of crypto trading is CFDs (contracts for difference). It is a much more sophisticated trading strategy employed mainly by experienced investors. You do not own the underlying asset if you trade cryptos as CFDs.
Instead, a contract is formed between the buyer and seller where they agree to exchange the difference in value between the contract's opening and closing dates.
How to trade cryptocurrency?
As we continue to answer the question 'how does crypto trading work', let's take a look at the six steps to crypto trading.
Step 1: Open an account with a crypto brokerage.
To open an account, you must provide your crypto brokerage with personal identification information, just as you would with a stock brokerage. When creating an account, you must provide details such as your address, social security number, email address, and date of birth.
Step 2: Add money to your account.
After registering with a cryptocurrency brokerage, you'll need to attach your bank account. Most crypto brokerages accept bank funding via debit cards and wire transfers. ACH deposit (linked bank account transfer) is usually the cheapest way to fund your account because it is free on most platforms.
Step 3: Select a crypto coin in which to invest.
Most active cryptocurrency traders put a handsome amount of money into Bitcoin and Ethereum because these cryptos are more predictable than smaller altcoins.
Many crypto traders invest a portion of their funds in smaller altcoins. Although small and mid-cap cryptos are riskier than large-cap cryptos, they have more significant upside potential. Many small altcoins have increased by more than 1,000% in months, making them appealing investments for risk-averse investors.
Step 4: Pick a plan of action.
Many different trading indicators are available, and most traders consider several other factors when buying and selling cryptocurrencies. If you're new to investing, consider investing in a cryptocurrency trading course.
If you're an experienced trader, you can use a stock trading strategy. The same stock trading techniques are frequently applied to cryptocurrencies. Elliott Wave Theory is a popular trading method that many traders employ. Elliott Wave Theory is especially effective for speculative assets like cryptocurrencies because it focuses on the psychology underlying market sentiment.
Step 5: Consider automated crypto trading.
You may consider automated crypto trading when looking for a crypto trading strategy. Trading bots implement a strategy designed to produce the best results possible, given your investment objectives. You can make money quickly, hold coins, or diversify your portfolio because automated trading provides a conservative, neutral, or aggressive method.
Consider trading cryptocurrency actively on some platforms while using automated trading on others.
Step 6: Store your cryptocurrency
You must store your money on the exchange to have access to it if you're actively trading cryptocurrencies. Get a cryptocurrency wallet if you plan to hold your cryptocurrency for the medium to long term.
Digital wallets and hardware wallets are both options for cryptocurrency wallets. Both are safe, but because hardware wallets store your cryptocurrency on a physical, offline device, they provide the highest level of security.
Many investors rely on the Ledger Nano S hardware wallet to store their crypto assets. It has an OLED display for clear viewing and two buttons for confirming or rejecting transactions. This highly secure hardware can support more than 1,100 crypto coins and other digital assets.
MetaMask Wallet is a widely regarded software wallet available to cryptocurrency traders. Because it is an open-source wallet, there is no signup fee for creating your wallet. MetaMask best suits the Ethereum blockchain and can handle ERC-20 and Ethereum tokens. It is also a beginner-friendly wallet because managing coins is simple with this wallet. Furthermore, if you use a Ledger hardware wallet, you can easily integrate MetaMask with them.
How do you choose which cryptocurrency to trade?
Although there isn't a single best cryptocurrency, there might be one that is best for a particular use case. For instance, Bitcoin is seen as the best crypto to use as a store of value assets due to its high adoption and limited 21 million coin supply.
Most cryptocurrencies with small market caps either have dubious use cases or have fallen short of their promises. Cryptocurrencies with smaller market caps tend to be riskier than those with larger ones, like Bitcoin and Ethereum.
Investing in cryptocurrencies with a strong team behind them is critical. It is best to read the whitepaper of a cryptocurrency to learn more about it. This will explain how the cryptocurrency works and what it is intended for.
Metaverse cryptocurrencies have been a popular asset class since the beginning of 2022. Tokens such as MANA and SAND are in-game currencies for the blockchain-based metaverses Decentraland and The Sandbox.
Furthermore, conducting your research before investing in any crypto is always advised. The cryptocurrency market is highly volatile and can offer you rapid growth or sudden fall, for example, the Terra Luna collapse.
What are the risks involved with crypto trading?
Before investing in cryptocurrency, you should be aware of its volatile nature, potential market and technology risks, and cybersecurity threats. The following sections will cover the potential risks of crypto trading.
One of the factors moving the crypto market is volatility. If you're unfamiliar with the term volatility, it refers to rapid shifts in market states that can result in significant and volatile price movements.
Volatility isn't just a concern for the cryptocurrency market. There are several reasons for the asset class's high volatility, including its nascent schematics compared to other investment forms. They can be seen in other financial spaces, but the intensity and spread are more significant in cryptocurrency.
Crypto assets are vulnerable to market volatility. There are two kinds of risks in cryptocurrency trading: systematic and unsystematic. Because crypto is inherently risky, the systematic risk exists in all cryptocurrencies. Unsystematic risk is specific to a single crypto asset.
The blockchain technology that underpins cryptocurrency is built with numerous security measures, such as decentralisation, cryptography, and consensus mechanisms, to ensure that transactions are legitimate. However, no blockchain is invulnerable to all threats.
Backing up and storing your crypto wallet regularly helps protect you against computer failure, device theft, and mistakes, such as unintentionally uninstalling your digital crypto wallet. However, it is more difficult to protect against threats such as software bugs, data errors, and attacks (in which a group of crypto miners seizes control of more than half of a network's computing power).
While cryptocurrency may herald the dawn of a new era, it also has a less-publicised counterpart: cybercrime. Since cryptocurrencies are fully decentralised, the crypto holders' cyber hygiene and safeguards are the number #1 priority.
"Unusual disappearances" and ransomware attacks are both complex and fast-moving threats, and newcomers to the ecosystem are frequent targets. As a result, before entering the crypto world, it is critical to be aware of these risks. How to manage the risks involved with crypto trading?
Conduct Your Research
Remember the first investment rule: 'Conduct in-depth research and invest what you can afford to lose'. This rule applies to all investments, not just cryptocurrencies. Investing without conducting research or jumping into the investment pool without consulting with an investment professional is not advised.
Understand the Reward/Risk Ratio
Invest what you are willing to lose. The reward-to-risk ratio shows how much you stand to make for each unit of currency risk. A 1:1.5 ratio is thought to be reasonable.
Diversify your holdings.
Investing in a variety of cryptocurrencies may aid in risk reduction. The investment is spread across several coins in a well-diversified portfolio, reducing the impact of volatility.
If you've ever wondered 'how does crypto trading work', hopefully this article has given you some answers.
Cryptocurrency trading is rapidly growing. It involves both rewards and risks. It is always advised to conduct in-depth research before entering the crypto space and only invest the funds you are ready to lose.
Author: Priya Kumari
Priya is a passionate content writer and the co-founder of Finendorse. She is an enthusiastic crypto investor and has a huge interest in the upcoming digitisation age.