The rise of digital assets, such as cryptocurrencies and tokens, has attracted many investors seeking high returns in a new and innovative market. While digital assets can offer high rewards, they also come with significant risks that investors must be aware of before making any decisions.
Digital assets are known for having high volatility, with prices often fluctuating dramatically in short periods of time. For example, over the past 6 years, Bitcoin’s 30-day annualized volatility was usually between 50%-100%, with a couple of breakouts over 150%. By comparison, the S&P 500 was normally within a range of 20%-40% during the same period with a breakout only once over 60%.
While some investors have profited significantly from this volatility as prices soared, when prices fall, they can fall quickly and erode any gains or in the case of over-leverage, erode your entire investment. Since 2018, Bitcoin has had 4 occasions where it has risen and then lost over 50% of its value, the last of which was in 2022. Because of this, it is crucial to invest only what you can afford to lose and to develop a long-term investment strategy that takes volatility into account.
The regulatory environment for digital assets is still developing, which can create uncertainty for investors. In many jurisdictions, digital assets are not subject to the same level of regulation as traditional investments, such as stocks and bonds. This lack of regulation can make it easier for fraudsters to operate and can expose investors to significant risks.
FTX is a good example of how lack of regulations can affect investors. In 2022, SEC filed criminal charges against the founder if FTX for securities violation and they ended up filing for bankruptcy.
Digital assets are often stored in digital wallets, which are susceptible to hacking and other cyberattacks. If a digital wallet is compromised, investors can lose their entire investment. Cybersecurity risks are a significant concern in the digital asset market, as the value of assets is often stored online and can be accessed by hackers.
According to CBS almost $4bn was stolen by criminals in 2022 alone.
The digital asset market is relatively small and can be subject to market manipulation, such as pump-and-dump schemes. A pump-and-dump scheme involves artificially inflating the price of a digital asset by spreading false information about the asset, then selling the asset at a profit before the price falls. This type of market manipulation can result in significant losses for investors who are caught up in the hype.
For example, in 2018, the Securities and Exchange Commission (SEC) charged a group of individuals with conducting a pump-and-dump scheme involving several digital assets. The scheme involved creating false news articles to inflate the prices of the assets, then selling them at a profit. However, of the ~40,000 tokens launched in 2022, approximately 24% exhibit signs of pump and dump schemes according to Chain Analysis.
In conclusion, investing in digital assets can offer significant potential rewards, but it also comes with significant risks. These risks include (but not limited to) volatility, lack of regulation, cyber security risks and market manipulation. It is essential for investors to carefully research any digital asset before investing and to develop a long-term investment strategy that takes these risks into account.
It is also important to remember that investing in digital assets should only be done with money that you can afford to lose. Our founder talks about the perils of leverage when it comes to investing in her blog post. By being aware of these risks and taking appropriate precautions, investors can make informed investment decisions in the digital asset market.
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