How the price of cryptocurrencies is formed: the main factors and patterns
Out of all the thousands of different cryptocurrencies, bitcoin is the largest and best known:
As the above suggests, the economic law of scarcity and demand applies here, with the price of bitcoin being supported by the fact that it is a finite resource whose supply is strictly controlled.
With more people wanting to own bitcoin, but a limited amount available, the price they are willing to pay can rise dramatically.
In 2010, soon after the currency was launched, the price of a single bitcoin was 5p, but in March 2022, it was worth about £36,000. But the crypto market is highly volatile and by July 2022 the bitcoin price was about £17,500.
Is cryptocurrency really money?
Cryptocurrencies aren’t yet very “money like” because they are not widely accepted. Not many high-street shops, for example, will let you use them to pay for goods.
However, the number of payment processors and online retailers taking bitcoin has increased over recent years – particularly if you are buying higher-end items such as watches and electronics – and big brands such as PayPal and credit cards giants Visa and Mastercard are getting on board.
You used to be able to use bitcoin to pay for your Tesla electric car in the US. This decision was reversed on May 12, 2021 after Tesla founder Elon Musk raised concerns about the impact of bitcoin mining on the environment. This news caused the price of bitcoin to fall 10%.
How do you make money from cryptocurrency?
Investor sentiment largely causes the rises and falls in the cryptocurrency market, as their value isn’t based on anything tangible. Unlike stocks and shares, there are no earnings reports, profits or revenues that can be used as measures of fundamental value.
Patience and investing for the long term is usually the key to earning money from crypto. People hold onto bitcoin, for example, in the hope that someone else will come along and pay more for it in the future.
If you had bought 100 bitcoin for $100 in April 2011 and held on to it for ten years, your stake in November 2021 when bitcoin hit a record high would have been worth $6,904,400.
Currently, that same 100 bitcoin would be worth around $2,300,000 – still not a bad investment but highlighting the volatile nature of the digital currency.
But if a country bans bitcoin ownership or trading, it can dent the confidence of traders and investors in the currency’s prospects.
Can you really make money with cryptocurrency?
As the figures above show, it is certainly possible to make money but also lose money. The sharp fluctuations in a market based largely on investor sentiment bring pitfalls.
People who bought bitcoin very early on and held onto it for a decade or more made massive fortunes. But not everyone has been so fortunate.
All investments carry a varying degree of risk, particularly cryptocurrency, and it’s important you understand the nature of these.
It’s also important not to invest unless you’re prepared to lose all your money. Cryptocurrency is an extremely high risk and complex investment and you are unlikely to be protected if something goes wrong. You should only invest what you can afford to lose.
Bear in mind that we have provided this content for educational reasons only and not to help you decide whether or not to invest in cryptocurrency.
If you are considering investing in cryptocurrency or any investment, you should consider obtaining appropriate financial advice.
How do I buy things with cryptocurrency?
To spend cryptocurrency, you need your private key to unlock the right for you as owner to do the transaction. While private keys are secret, they are paired with public keys that can be shared with others so that you can receive your virtual currency.
For example, say you were a charity accepting donations in cryptocurrencies – you could put your public key on your website so people could send you money; but to unlock and gain access to those donated funds, you would need a private key.
This system allows transfers to be done easily between two parties, and cutting out the middleman such as a bank means lower transaction fees.
The way your spending is recorded also differs to the main banks:
Is cryptocurrency a good investment?
Remember: the value of investments can go down as well as up and it’s possible that you might not recover all the money you invest. All investments carry a varying degree of risk, especially cryptocurrency, and it’s important you understand the nature of these.
So don’t invest unless you’re prepared to lose all the money you invest. Cryptocurrency is an extremely high risk investment and you are unlikely to be protected if something goes wrong.
Whether you believe cryptocurrency is a passing fad or the future of money, it is a fascinating sector. If you want to be involved in trading crypto, remember:
We can help you weigh up the pros and cons: should I invest in bitcoin?
Times Money Mentor has provided this content for educational reasons only.
Should you decide to invest in cryptocurrency or in any other investment, you should consider obtaining appropriate financial advice.
How to invest in cryptocurrency?
In order to buy and sell cryptocurrencies, usually you set up an account with a cryptocurrency exchange or broker and fund it with real money – then you can trade whichever cryptocurrencies that exchange offers.
You can buy less than one crypto coin; for example, you would currently pay about tens of thousands of pounds for a single bitcoin, but you could buy a fraction of one if you only had a small amount to invest.