What are Cryptocurrencies and How Do Cryptocurrencies Work?
From Elon Musk to your neighbour, everyone is discussing Bitcoin and investing in the crypto market that has stormed the financial ecosystem since 2020. Much of the interest in Crypto or digital currencies is down to the fact that they are largely unregulated and the chances of becoming rich are much faster than traditional investments such as the stock market. Ever since the global markets began to crash because of the COVID-19 virus, the Cryptocurrency market cap has boosted with many coins reaching an all-time high in prices.
Earlier in June 2021, Bitcoin gathered headlines as El Salvador became the first country to use cryptocurrency as a legal tender (in which people can trade it to buy any commodity or asset). Many experts see this as the beginning of a world where Cryptocurrencies are widely adopted by countries and thus the interest in crypto has skyrocketed! If you are one of the millions who wish to invest and build wealth from cryptocurrencies then this blog will help you understand everything from how the digital currency trend started and how cryptocurrencies work!
What is a Cryptocurrency?
There are many “guide to cryptocurrency” white papers and articles available on the internet, but none of them actually explain how cryptocurrencies work by showcasing a practical example or a use case. The reason everything about the cryptocurrency market seems mysterious is because of the whole “decentralized” blockchain technology that we will explain in this article later. If you are new to the crypto market and want to know what the hype is about, understand this – a cryptocurrency is a form of digital money that is very similar to traditional money spent via PayPal or debit and credit cards.
These digital currencies such as Bitcoin, Ethereum, Ripple, Dogecoin, etc can be bought and sold on the crypto market and also be exchanged online to buy commodities and assets. The entire ecosystem of Cryptocurrency is based on Blockchain that acts as a transparent public ledger as well as the technology driving the security. Whenever someone buys or sells any coins or tokens on the market, the transaction is recorded in the public ledger and fully secured by “cryptography”. The main advantage and the reason why people are hoping for a bright future for the cryptocurrency phenomenon is because of the fact that the ecosystem is controlled by the users and computer algorithms and not regulators such as banks and governments. To understand the world of cryptocurrency, we must first get fully acquainted with how Blockchain technology works.
What is Blockchain and how is it related to the Cryptocurrency market?
The easiest way of understanding Blockchain technology is looking at it as a decentralised bank. The ledger-keeping is completely transparent and thus is fully accessible to the users. Whenever there is a transaction on the market, the record of the same is sent to users that “mine” the coins by using software to solve the complex puzzles and get a newly mined crypto coin such as Bitcoin.
The security of this entire cycle of blockchain technology depends on cryptography, which stores them in codes that are very hard to tamper with. Currently, there are crypto miners around the world trying to solve these puzzles and get hold of coins that can only be awarded to the first person to successfully solve and submit the puzzle that others can verify and authenticate. Currently, there are thousands of coins available, but the ones valued more than others are popular coins such as Bitcoin, Ethereum because they have limited supply and the comparative demand is more.
How Do Cryptocurrencies Work?
Since there is no regulation over the market, the cryptocurrency market works in the Peer-to-Peer methodology transactions and is distributed via cryptocurrency exchanges that distribute the coins via Blockchain hosted on computers worldwide. Users can buy, sell, hold or transfer the cryptocurrencies to other users by paying in traditional fiat currencies such as USD, EUR, GBP, etc. The most prominent cryptocurrency in the market is Bitcoin while other coins such as Ethereum, Ripple, Matic, Litecoin, etc. are called “altcoins” meaning alternate coins.
How Does one Start Trading in Cryptocurrencies?
Buying, selling, holding and transferring cryptocurrency such as Bitcoin is similar to how the traditional stock market works. Just like how one can easily buy stock of Apple, Google, etc. businesses, people can buy coins and tokens on the crypto market using many exchanges such as Binance, WazirX, Bitbns, CoinDCX, etc. These exchanges and brokers enable users to add traditional money such as U.S. Dollar, British Pound, Euro, Yen, Indian Rupee, etc. to the wallet and use this to trade the cryptocurrency of their choice on the market.
Once you open an account and add money to the wallet on any of the exchanges available in the market, you can buy, sell, trade or execute a P2P cryptocurrency transfer of your choice by paying the LTP (last traded price). Just like any other asset traded on the stock market, users can either choose to go long, that is “buy” or go short, that is, “sell” coins from the available coins. Most brokers and exchanges charge a fee ranging between 0.3% to 1% of the entire transaction.
How Many Cryptocurrencies Are Available to Trade?
There are more than 4000 cryptocurrencies available for trade on the crypto market currently. Most of these currencies have very insignificant market capture as they are tokens created by a particular business. The most popular cryptocurrency is Bitcoin which is trading at $36,100 as of June 2021 holds a total market cap of more than $750 billion. The second-most valuable coin available on the market is Ethereum which is trading at $2250 as of June 2021 and has a market cap of more than $321 billion. The total market cap of the entire cryptocurrency ecosystem is close to $1.7 trillion and had reached a high of $2.2 trillion in May 2021.
Why is Trading In Cryptocurrency so Popular?
One of the biggest reasons for the popularity of cryptocurrency trading is because it is unregulated. Since there is no central authority controlling the price of the coins, the price change of assets such as Bitcoin, Ethereum etc. can change more than 100% in a single trading day as the price is determined by the interest of the user. If more users are going long by “buying” a certain cryptocurrency, the price can shoot up rapidly. On the other hand, if many people are shorting a particular coin by “selling” then the price can crash within hours. Some reasons why the cryptocurrency is considered a valuable asset are:
- Many believers in Crypto and Blockchain technology think that digital money can replace traditional currency in future.
- The decentralised nature of the market transfers the power of deciding the price into the hands of the users as opposed to central authorities such as banks of the government.
- The number of available coins such as Bitcoin and Ethereum is limited and thus holding a bitcoin today will have a much higher value a decade later when there will no longer be any new Bitcoins.
- The volatile nature of the market means that traders can earn much more if their prediction of price going up or down, comes correct. Many people who bought Bitcoin when it was just $100 in 2014 are millionaires today as the price of one Bitcoin is close to $36,000 today.