When thinking about buying and selling cryptocurrencies the terms investing and trading often get used interchangeably. While there are certainly similarities in crypto trading vs crypto investing, the two are actually very different in their goals. And traders have a very different mindset from investors.
The following piece will take a look at the differences in trading vs investing, which can be helpful in sorting out your own approach to buying and selling cryptocurrencies.
Page Contents 👉
- 1 Getting Rich with Crypto
- 2 Master Investor vs Master Trader
- 3 Types of Investors
- 4 Types of Traders
- 5 Crypto Investing vs Crypto Trading
- 6 Shorting the Market
- 7 Conclusion
Getting Rich with Crypto
Cryptocurrencies present us with several ways to generate income and profits, or even to become rich in the long run. These methods include mining crypto, staking and yield farming, investing, and trading.
Mining seems very attractive until you realize that setting up the equipment for mining is quite expensive and requires some experience in working with complex software and computer hardware. Not to mention the ongoing maintenance required and the expense of electricity and cooling for your mining equipment. Yes, mining can be quite profitable, but it’s not for everyone.
Staking and yield farming are both attractive alternatives, and probably fall under the heading of investing, although there is some of the trading mindset involved here as well, especially for yield farming.
The two most common methods in use to get rich with crypto, or even to simply improve your financial status, is through crypto trading and crypto investing. The two activities are often thought of as being the same thing, but there are fundamental differences between the two, and understanding how each matches with your own goals is important before you start buying and selling cryptocurrencies.
Master Investor vs Master Trader
Before looking specifically at crypto trading and investing let’s look at an example of successful traders and investors in the traditional markets. There are two men we can look at who undeniably embody trading on one hand and investing on the other. These two men are George Soros and Warren Buffet. No doubt you’ve heard of them. Both have become incredibly wealthy during their lives, but in quite different ways.
George Soros has based his financial life on trading, making short term bets on various assets in search of profits. He is a legendary trader, known as the man who broke the Bank of England in reference to his shorting of the Pound Sterling in 1992, causing the Bank of England to withdraw the Pound from the European Exchange Rate Mechanism (which would later lead to the creation of the Euro), and pocketing roughly $1 billion for himself on the trade. Five years later in 1997 Soros would again make huge bets on currencies, this time the Thai baht and Malaysian ringgit, and net hundreds of millions of dollars.
Soros also managed what is arguably one of the world’s most profitable hedge funds. His Quantum Fund delivered returns of roughly 30% to investors over the course of three decades. To put that in perspective, if you had invested $1,000 in the Quantum Fund in 1970 by 2000 that initial investment would have been worth $4 million!
Soros has been one of the most successful traders of our age, amassing a personal wealth of over $8.6 billion, although he has also donated $32 billion in addition to his current personal wealth.
In contrast to Soros there’s the most famous investor of all time – Warren Buffet. Buffet prefers a value investing style, and has been known to say that when he purchases a stock he does so with the expectation of holding it forever. That is truly investing!
Buffet has amassed over $100 billion in personal wealth, and Berkshire Hathaway, the company he founded and runs, is worth over $400 billion. All of that wealth was created by purchasing stocks and other assets that Buffet believed were undervalued in relation to their true intrinsic value. In the financial world the intrinsic value of something is determined through a process known as fundamental analysis, in which all the available information about a company or asset is analyzed to determine the true or intrinsic value of the asset.
Buffet has the gift of being able to do fundamental analysis very effectively, and over the years he has bought and sold hundreds of companies and their stocks, making huge profits on many of the investments. Those profits were made over years, if not decades as this type of investing takes time for the assets to appreciate. However it can also yield far greater profits than trading.
Soros has made his fortune by finding short-term trades caused by short-term market imbalances. Buffet made his fortune by finding long-term investments that were undervalued based on their intrinsic worth. These are two different styles for approaching the market, but as you can see both can be successful. Whether one trades or invests is a function of the person’s personality, goals, risk appetite, and approach to finances.
Types of Investors
Investors come in different types, but in general there are three dimensions to investing in cryptocurrencies:
- Active vs passive management;
- Growth vs value;
- New vs established projects.
Understanding these dimensions and your own preferences can make it easier to determine what crypto investments might be best for your own portfolio.
Active vs Passive Management
For most investors in cryptocurrencies an active style is required. That’s because there currently aren’t the same types of funds and ETFs available for cryptocurrencies as there are for stocks and the like. This active management style means that the investors are doing their own research and selecting their own cryptocurrencies to invest in.
For those who do want to remain hands off for now there are trusts being created by the likes of Greyscale and Osprey that could fit the bill until ETFs and more traditional funds are created for the passive investor. Note that these trusts do come with hefty fees, however that’s offset by the fact that working with a fund means that you deal with the company that manages the fund for any account questions or information you need, such as setting a password, tracking gains and losses or gathering documents for filing your taxes.
Growth vs Value Investing
Investors can choose value, investing in cryptocurrencies they believe are undervalued, or growth, which are the cryptocurrencies that are seeing the greatest current growth.
For example, in 2020 decentralized finance (DeFi) was all the rage. There were many new projects that sprouted up around DeFi applications and many of them were the fastest growing in the cryptocurrency space. By contrast, more established players, while still delivering good returns, weren’t growing as quickly since they were already considered to be fully valued.
New vs Established
This is tightly related to the value vs growth characteristic. Basically it means investors can choose to invest in established cryptocurrencies such as Bitcoin and Ethereum. These projects have a much larger community, larger market capitalization, and are so well established that it’s unlikely they are going to suffer a complete wipeout.
By contrast there are the new, up-and-coming projects. These are untested for the most part, and while they typically offer much richer rewards, they also come with much greater risks. A new project might take off like a rocket, or it could sink like the Titanic.
Types of Traders
There are several different types of traders based on the time horizon of their trades:
Scalpers: This is the most short-term trader of all types. Scalpers look to take advantage of very short-term changes in price trading in and out of a coin within minutes or even seconds. Scalpers often look to take advantage of arbitrage opportunities or mismatches within the order book and can make hundreds of trades per day, accumulating small profits on each trade that add up to large daily profits.
Day Traders: Popularized in the forex and equity markets day trading is a strategy where the trader ends each day flat, or with no open trades. This minimizes overnight risks, which can be particularly helpful in the volatile and fast-moving cryptocurrency markets. Day traders might keep positions open for as little as minutes or as long as several hours in order to capture the daily movement in a coin or token.
Momentum Traders: Momentum traders look to take advantage of the current price trends within markets. Their underlying assumption is that the current direction or trend of the price will continue, allowing the trader to make a profit from the continued trend. Momentum trading requires a good understanding of market conditions and a strong sense of timing since it is important to be able to judge when a trend is losing steam and could possibly reverse. Trades could be held from hours up to weeks depending on the strength of the trend.
Swing Traders: Swing trading is similar to momentum trading in that it looks to take advantage of the short term movements in a coin’s price. Swing traders use technical analysis quite extensively in order to determine proper entry and exit prices and their trades can last anywhere from days to weeks. Swing traders often look for the explosive moves that happen in breakouts or trend reversals.
Crypto Investing vs Crypto Trading
Now that you have a real-world example to refer to let’s take a deeper look into the characteristics that define investing and trading.
The time horizon is one of the top characteristics that distinguishes investing from trading. Investors are concerned with the long-term. They are buying and hodling, not concerned with the day to day fluctuations and volatility in the markets. An investor believes that in the long-term, we’re talking years or even decades, that the coin they are purchasing will increase in value.
The mind-set behind this for cryptocurrency investors is often that the technology is so new, and adoption rates so low, that massive growth in the coming years is inevitable. They strongly believe that blockchain technology will overtake the traditional financial systems, but realize that it could take years for this to play out.
Traders have a different mindset in which they are concerned with the short-term price movements of the various coins and tokens they track. Some very short-term traders are even concerned with the hourly movements in prices. Traders look to make quick profits from the markets, and believe they can do so with the assistance of technical analysis of the price history and trading volumes of various assets. Traders rely heavily on volatility to help them realize large profits in a short period of time. The volatility of cryptocurrencies makes them an ideal asset class for traders.
One important thing to understand about the cryptocurrency markets, that affects both crypto investors and crypto traders, is that the cryptocurrency market cycle is very short when compared with traditional asset classes such as equities or commodities. This means cryptocurrency markets experience both bull markets and bear markets over a shorter time frame, and with greater intensity. For example, cryptocurrency bull and bear markets might last for as long as a year or two, while bull and bear markets in equities can stretch on for a decade or longer.
The trade frequency refers to how frequently trades or investments are executed. Traders tend to have a high trade frequency, whereas investors have a low trade frequency. Where traders might execute trades on a daily basis, or even multiple trades daily, investors frequency might be measured in weeks or even months.
An investor is looking for long-term price appreciation in the coins they purchase, and thus could accumulate coins over the course of months or years. This could mean they only make purchases and sales at very long frequencies, buying when coin prices are depressed, and potentially selling when prices are stronger.
Traders look to make profits frequently however, which means their trade frequency is necessarily much greater. A trader looks to profit from constantly evolving market opportunities, making small profits on each trade that add up to large profits in the long term.
The risk profile of a trader or investor is a measure of how much risk an individual is comfortable with. Cryptocurrencies are already considered to be quite risky, and risk is correlated with the potential returns of an investment.
The large price fluctuations of the cryptocurrency markets make them the riskiest of all asset classes. However risk doesn’t exist in a vacuum. It needs to be compared with returns as well. This is known as the risk / reward ratio. If the potential rewards from an asset are considered to be quite high, as they are in cryptocurrencies, then the amount of risk that’s acceptable is also higher.
Anyone who is in the cryptocurrency market can already be assumed to have a high risk tolerance, since cryptocurrencies are the riskiest asset available. However it is still possible to categorize cryptocurrency speculators based on where they fall on a scale of risk tolerance. Crypto investors tend to be a more risk-averse group in general, which is why they tend to focus on the long term and ignore the daily price fluctuations seen in the cryptocurrency markets. That’s because time helps to smooth out volatility in the long run, and at the same time it also lowers risk.
Traders are more willing to accept the risk inherent in short-term market moves in the belief that they can offset that risk with the greater rewards possible from rapid trading in and out of the market. The short-term volatility in crypto markets does increase risk, but it also increases the potential reward. Traders who have an extremely high tolerance for risk might even engage in margin trading, which can greatly enhance profits, but also carries the risk of greatly increasing losses as well.
One of the key differences in crypto investors and crypto traders is the type of market analysis they use to determine what and when to buy and sell. Because investors have a long time horizon they are far more likely to use a fundamental style of analysis, where they look at all the underlying factors of a cryptocurrency and the project it is associated with. This includes adoption rates, hash rates, and the utility of the blockchain.
Traders are more concerned with the pure price action of the cryptocurrencies they trade, and so they are far more likely to engage in technical analysis. This is a method for predicting the future price of an asset based on statistical variables, and the historical price action of the asset. Technical analysis includes reading chart patterns, support and resistance levels, trend lines, and many other statistically based indicators.
The profit mindset is the way in which crypto traders and crypto investors look to make profits and generate wealth from their activities. Cryptocurrency investors typically have four primary ways in which they profit from their activity:
- Price Appreciation: This is the most basic way in which profits are made. It is simply an increase in the price of the cryptocurrency relative to the purchase price. When you buy Bitcoin for $10,000 and the price increases to $30,000 this is price appreciation.
- Dividends: While not strictly the same as dividends in the equity markets, where shareholders receive a portion of the company’s profits, there is a similarity to some aspects of cryptocurrencies. For example, staking coins pay those that hold them and generate an annual yield. Those payments come from the transaction fees generated by the network, and can be considered as very similar to stock dividends. Another type of dividend in cryptocurrencies comes from the practice of burning coins. This reduces their supply and is equivalent to a stock buyback plan in the equity universe. A third dividend type comes from the practice of yield farming, which is when investors receive yield from their coins by lending them to provide market liquidity.
- Forks: While not as common as they once were, forks once provided cryptocurrency investors with very nice dividends in some cases. A fork occurs when there are two philosophies within a development community, leading the blockchain project to split into two different forks. When this happens anyone holding the coins of the original fork gets to keep those coins, plus they get “free” coins from the creation of the new fork. For example, there are 105 forks of Bitcoin, 74 of which are still active and holders of Bitcoin at the time of the fork also received “free”coins.
- Airdrops: This is when a project distributes coins for free to the community, generally for marketing reasons. Airdrops can be distributed to those who have participated in the project, or a related project. They might also be distributed to those who simply register for the airdrop.
Traders have just one motivation for their activity – price appreciation. They look to profit from the short-term price movements of the cryptocurrencies they buy. Traders might also purchase coins to take advantage of hard forks and air drops, but would then sell the “free” coins they received immediately to collect their profits.
Shorting the Market
Where investors only profit from the upward movement in prices, traders are able to profit from both increasing and decreasing prices. Making profits when prices are trending higher is easy. You simply buy low and sell high. However it is also possible to make money by selling high and buying low, which is known as “shorting the market”.
Shorting is quite common in stock trading, but is a bit more difficult with cryptocurrency due to the lack of brokers offering margin. When shorting an asset you borrow the asset from your broker and sell it at the current price with the belief that price will decline in the future. If you are right and price does decline you later buy the same asset at the lower price and then return it to the broker.
The difference in the selling price and later purchase price is where the profits are generated.
For example, you might believe that Bitcoin is entering a bear market phase. The current price is $40,000. If you borrow 1 BTC from your broker you can sell it immediately for $40,000. Several days later Bitcoin’s price has dropped to $30,000. You purchase 1 BTC with the money made from the earlier sale and return it to the broker to settle your debt with them and keep the remaining $10,000 as your profit from this Bitcoin short sale.
As you can see there are fundamental differences in the mindset, risk appetite, and strategies used by crypto traders and crypto investors. Understanding what these differences are can help you understand if your own personality is more suited to crypto trading vs crypto investing.
The fun part is that you don’t need to settle on one or the other. Cryptocurrencies are still in the very early stages of their development and will likely increase in value in the coming years, making them a good investing choice.
While you’re waiting for those crypto investments to mature the volatility of the cryptocurrency markets still makes them attractive for traders looking for quick profits. Taking advantage of this can allow you to increase your investment holdings through trading activity.
Ultimately the decision is yours. It’s also important to note that the volatility of the cryptocurrency market does make it very important that you only invest money that you are willing to lose if things end up going badly in the crypto markets.
Disclaimer: These are the writer’s opinions and should not be considered investment advice. Readers should do their own research.