What is cryptocurrency?

Publish Date 06 Jun 2022
Blockchain / 6 Min Read
Alex Lielacher / Last Update 06 Jun 2022

Cryptocurrencies are a new form of digital currency that is changing the way we look at money.

Key points:

  • Cryptocurrency is powered by blockchain technology
  • The new form of digital currency is decentralised, meaning it's not issued by central banks and free from government control
  • The volatility of cryptocurrency has made it a popular product in the world of trading, with an exciting new digital asset class to speculate on

Cryptocurrency uses cryptography to control the creation and transfer of money in a decentralised system.

This means that it does not rely on any third party to oversee or manage transactions. Instead, all aspects of the blockchain protocol are managed by a distributed network of users.

As its popularity continues to grow, now is the perfect time to learn more about cryptocurrency, crypto terminology and its unique features. To take your knowledge to the edge, sign up for our FREE online trading course about cryptocurrency.

Table of contents

What is cryptocurrency?

Cryptocurrencies are a new form of money powered by decentralised peer-to-peer networks called blockchains.

As opposed to the traditional form of money issued by central banks, cryptocurrencies are free from any form of government control and don’t require a financial intermediary to operate. Instead, crypto networks are managed by network participants who verify and confirm transactions.

Before now, attempts to create digital currencies suffered from the double-spend problem where a participant could game the system and spend the same money twice. However, the innovative approach employed in cryptocurrencies ensures that no one party can cheat the system or double spend. At the core of cryptocurrencies is the underlying blockchain technology that records the movement of transactions. 

Cryptocurrency transactions are typically bundled into blocks that are cryptographically linked to each other. The transactions in each block must be independently validated by nodes in the network through a consensus mechanism before they are approved, making it essentially impossible to cheat the system.

After a transaction is confirmed, it's impossible to revoke it or rewrite the blockchain history. Hence, cryptocurrency transactions are considered immutable. Another interesting feature of cryptocurrencies is their transparent nature as their complete transaction history can be reviewed and audited by anyone.

While cryptocurrency networks are transparent, the identity of users behind each transaction is protected as each network participant uses alphanumeric wallet addresses to send and receive funds.

Why have cryptocurrencies become so popular in recent years?

Cryptocurrencies have become increasingly popular as investors are looking to earn higher potential returns than in the stock and bond markets. The volatile price action in the crypto markets has made it enticing for traders who are looking to speculate on this exciting new digital asset class.

Moreover, people living under repressive governments are using cryptocurrencies as a means to access a fairer monetary system, free from any political control.

Additionally, cryptocurrencies are providing basic financial services for un(der)banked individuals in emerging market nations.

Deflationary cryptocurrencies have become increasingly popularly and used as a store of value, especially in countries that have very high inflation rates. Bitcoin, for example, is popular for its use as a store of value, considering it has outperformed almost every other asset and every currency in the past decade in price appreciation.

Types of cryptocurrencies

There are thousands of cryptocurrencies addressing different use cases. Since Bitcoin there have been many new altcoins creating more utility in the space, the most common types include payment cryptocurrencies, meme coins, stablecoins, and utility tokens.

Payment cryptocurrencies

These are cryptocurrencies that are majorly used for remittances and payments. The framework of most cryptocurrency networks enable these transactions to be completed in a very short time for a very low cost. Some of the popular payment cryptocurrencies include Bitcoin, Litecoin, and Bitcoin Cash.

Meme Coins

These are cryptocurrencies that are inspired by popular internet memes. They have no major underlying utility or fundamentals that drive their value. Instead, their value is driven majorly by the sentiments and speculations of influencers or communities, hence, their high volatility rate. Reflection tokens have become one of the newer crypto mechanics introduced by meme coins in 2021.

Dogecoin, for example, has seen several price swings in the past due to tweets from Tesla CEO Elon Musk. Other popular meme coins are Shiba Inu, Safemoon, and Floki Inu.

Stablecoins

Stablecoins are cryptocurrencies that track the price of other assets like dollars or euros to stabilise their price movements. This type of cryptocurrency enables users to escape the volatility of cryptocurrencies without leaving the crypto market entirely.

Issuers of stablecoins typically collateralise them with an underlying asset usually held in a bank reserve to maintain price stability. Some other stablecoins are collateralised by other cryptocurrencies to maintain their value. The most used stablecoins include Tether, USD Coin and Binance USD.

Utility tokens

Utility tokens help users access a particular utility within a blockchain ecosystem. They are used as a form of access to services provided by a particular cryptocurrency network.

For example, Filecoin grants holders access to use its decentralised storage network. Game developers can issue tokens to enable users to purchase in-game accessories. Utility tokens are often the type issued out on a third-party blockchain through token sales. Some popular examples are Binance Coin, Ether, and Cardano.

Cryptocurrency coins and tokens

Who invented the first cryptocurrency?

Bitcoin, the first cryptocurrency, was invented by a person or group of people with the pseudonym 'Satoshi Nakamoto'. The Bitcoin whitepaper was released in 2008, amid the global financial crisis, before the Bitcoin network went live in 2009. 

Satoshi Nakamoto was actively developing Bitcoin, releasing updates and contributions before disappearing in 2011. Fast forward to 13 years later, the success of Bitcoin has birthed several crypto innovations, including DeFi, NFTs, and the Metaverse.

How do cryptocurrency networks validate transactions?

As opposed to banks balancing accounting records in a central system, cryptocurrency transactions are validated by a network of peer-to-peer nodes on a blockchain. These nodes employ the use of Byzantine fault-tolerant consensus mechanisms in reaching an agreement concerning the valid state of the said cryptocurrency network. The two most popular consensus mechanisms employed in cryptocurrency networks are Proof-of-Work and Proof-of-Stake.

Proof-of-work involves nodes using computing power to solve complex cryptographic problems to validate transactions. This concept is also referred to as cryptocurrency mining

In Bitcoin, for example, the first miner to successfully validate a block and solve the cryptographic puzzle receives newly minted units of bitcoin as a reward. This method of reaching consensus is often criticized by many due to the intensive energy consumption it requires to keep cryptocurrency networks secure.

Proof-of-stake, on the other hand, uses cryptocurrencies to allow nodes to reach consensus internally instead of computing power. Validators typically lock up or “stake” their tokens in exchange for the rights to validate transactions. The network rewards validators that honestly verify a block of transactions with new tokens. Conversely, the network punishes malicious actors by slashing a portion of their staked tokens.

Where can I view cryptocurrency transactions?

The transparency of public blockchain networks enables anyone to publicly verify and audit the entire history of all cryptocurrency transactions.

Traders can view all past transactions and those occurring in real-time in cryptocurrency networks using a block explorer. While it’s possible to view the complete history of cryptocurrency transactions, the identity of users behind each transaction is secured through cryptographic properties.

Cryptocurrency trading guide

Cryptocurrencies are one of the most traded asset classes in the world today as their volatility makes them attractive to traders who leverage on their short price movements through speculation.

Let’s take a look at the necessary steps traders need to trade cryptocurrencies - from making the desired purchase to active trading and securely storing them in a wallet.

How to trade cryptocurrencies

Cryptocurrency trading is one of the most exciting ways to take part in the crypto markets. The increasing number of tokens in the market means traders can have access to a wide range of cryptocurrencies to choose from.

Cryptocurrencies can be traded on cryptocurrency exchanges or on online brokerages like Axi through crypto CFDs that enable traders to speculate on both rising and falling price movements.

Below are a few steps to get started:

  • Research cryptocurrencies, looking at fundamentals, price movements, etc.
  • Choose the cryptocurrency that aligns with the investment purposes.
  • Create a trading strategy that aligns with risk tolerance.
  • Choose an exchange or brokerage where the chosen cryptocurrency trades.
  • Deposit money.
  • Start trading with the strategy in place.

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How to invest in cryptocurrencies

Investors can easily invest in cryptocurrencies by browsing through different investment options in the market. Some crypto exchanges offer a wide variety of services, including spot trading, derivatives trading, staking, and more.

Alternatively, investors can decide to purchase cryptocurrencies from exchanges and store them in digital wallets for long-term holdings.

How to buy cryptocurrencies

To buy cryptocurrencies, an account with a cryptocurrency exchange is needed, as well as a digital wallet and some fiat currency for the purchase. With the following steps, every person is able to purchase the cryptocurrency of their choice.

  • Open an account with a crypto exchange that supports the cryptocurrency that is being purchased
  • Traders may be asked to complete KYC verification.
  • Deposit the fiat equivalent of the desired amount of tokens.
  • Open an order.
  • After the order is filled, the users coins will appear in their exchange wallet.
  • Traders may want to transfer the tokens to a wallet where they can manage the private keys for greater security.

How to store cryptocurrencies

Cryptocurrencies are managed through cryptographically secure wallets where they can be accessed at any time by their owners. A variety of cryptocurrency wallets exist to match all the different investment and security needs. For example, exchange wallets, mobile, web wallets, hardware wallets, and paper wallets. 

Using the steps below, traders can safely store popular cryptocurrencies of their choice:

  • Choose a wallet based on the investment type, goal and security needs.
  • Traders may want to choose a web wallet for actively accessing decentralised applications while for long-term holdings traders may want to use a hardware or paper wallet.
  • Set up the wallet and back up the private keys or mnemonic phrases, depending on the wallet type.
  • Transfer the cryptocurrency to the newly created wallet.

Advantages of cryptocurrencies

Retail traders and investors have caught on to the surging crypto market thanks to some of the benefits these cryptocurrencies have.

  • Cryptocurrencies enable fast cross-border transactions for minimal fees.
  • The transparent nature of cryptocurrencies ensures easy auditing and tracking of assets.
  • The elimination of third parties in cryptocurrencies reduces transaction fees and eliminates the risk of a central point of failure.
  • Cryptocurrencies reduce the barrier of entry to accessing financial services, especially in developing economies.
  • Cryptocurrency users can transact without the fear of their identity being compromised or their financial lives being monitored.

Disadvantages of Cryptocurrencies

Since cryptocurrency is still in its infancy stage there if of course some disadvantages to be aware of.

  • The highly volatile nature of many cryptocurrencies makes them a poor option for conducting business transactions.
  • The regulatory uncertainties surrounding cryptocurrencies may be a red flag for investors who seek consumer protection.
  • Some cryptocurrency networks consume a large amount of energy due to their proof of work consensus protocol that requires miners to deploy computing power to earn mining rewards. 
  • Users can potentially lose all their cryptocurrencies if they misplace their private keys or mnemonic phrases.

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We hope that this beginner’s guide will help traders on their journey to buying, owning, and trading cryptocurrency. To start trading cryptocurrency CFDs with Axi today, click here.

Cryptocurrency CFDs can only be traded by Professional Clients due to FCA regulations.



Alex Lielacher

Cryptocurrency Content Contributor

Alex Lielacher is a ‘banker-turned-bitcoiner’ who exchanged the bond trading desk for a laptop in a co-working space to provide engaging and educational content for leading companies in the blockchain technology space.

 

 

The information is not to be construed as a recommendation; or an offer to buy or sell; or the solicitation of an offer to buy or sell any security, financial product, or instrument; or to participate in any trading strategy. Readers should seek their own advice. Reproduction or redistribution of this information is not permitted.

Cryptocurrencies (such as Bitcoin) are extremely volatile and can move or jump in price with no apparent reason due to lack of liquidity and ad hoc news. There is little or no fundamental reasoning behind its pricing and as such trading CFDs in cryptocurrencies poses a significant risk to clients. For any Cryptocurrency CFDs that we limit to Monday – Friday trading, it is important to note that the underlying market will continue to trade over the weekend, meaning there could be a significant price change between Close of Business on Friday and open for business on Monday. Therefore, these symbols should be traded by clients with sufficient experience to  understand that, subject to negative balance protection (where available), they risk losing all their investment, or more, in a  short period of  time, and only a very  small part of their portfolio should be allocated.


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