Unless you’ve been living under a rock in the past year, you must have heard about cryptocurrency. The concept has gained so much popularity today. There were over 70 million bitcoin wallets users by the end of March 2021.
On that note, it’s only natural to be curious about what cryptocurrency is and how it works. So, in this article, we’ll cover the basics of cryptocurrency you need to know.
What is Cryptocurrency?
A cryptocurrency (also known as “crypto”) is a decentralized digital asset or currency based on blockchain technology. This alternative form of payment exists on the internet only and is, therefore, secured using cryptography.
Cryptography records and secures every online transaction, so it’s almost impossible to double-spend or counterfeit.
The idea behind cryptocurrency is a peer-to-peer electronic currency system that is not controlled by a central authority. The absence of a central authority makes it fast, cheap, and secure from censorship and vices like corruption or control.
Cryptocurrency transactions are held in protocols which are then combined into blocks to make up for the absence of a central authority that keeps records. These blocks are then connected in a historical record of everything that has happened on that blockchain.
What is a Protocol?
In the tech world, protocols are rules that outline how data is transferred between different computer systems. They define the process of structuring data before it is accepted into a system. They also establish safeguards that are aimed at preventing mischievous users from causing damage.
In blockchain technology, protocols enable server nodes to transfer and exchange information over the internet. They aim to ensure that this is done so that all the systems in a network can understand.
Protocols are a significant component of blockchain technologies. They allow information to be shared across cryptocurrency networks. With protocols, this sharing of information is automatic, secure, and reliable.
What is Stablecoin?
Stablecoins are cryptocurrencies whose market value is linked to some external reference or asset with a stable value, such as a national currency or gold. This type of crypto is aimed at stabilizing its price and limiting the volatility that comes with cryptocurrency.
It achieves its price stability by collateralizing (backing) or using algorithmic mechanisms of buying and selling the reference asset or its derivatives.
Because stablecoin is less volatile than most other cryptocurrencies, it encourages mainstream participation.
What is Tether?
Tether is a blockchain-based cryptocurrency that is designed to be pegged to the dollar. This means that it rises and falls with the dollar. It is a stablecoin whose tokens in circulation are backed by an equivalent amount of U.S. dollars.
While other cryptocurrencies often fluctuate in value, Tether’s price is usually the equivalent of $1. However, this isn’t always the case. The value of the Tether can still fluctuate alarmingly.
What is Yield Farming?
Yield farming involves lending or staking cryptocurrency in exchange for interest and other rewards.
It involves lending out funds to others using computer programs called smart contracts.
In return, you can earn interest from trading fees in the form of cryptocurrency.
The process of yield farming is similar to that of bank loans. You take out a loan from a bank; you’ll need to pay it back with interest. Similarly, you lend out cryptocurrency via smart contracts and receive returns.
What is the Decentralized Autonomous Organization (DAO)?
A major feature of digital currencies is decentralization. This means that they are not controlled by a single institution like a government or central bank. Instead, they are divided among various computers, networks, and nodes.
Cryptocurrencies use decentralization to achieve high privacy and security. This level of privacy and security is usually absent in standard currencies and their transactions.
With this in mind, the idea for decentralized autonomous organizations, or DAOs, was birthed in 2016.
The DAO was established to automate decisions and facilitate cryptocurrency transactions.
It was designed to be automated and decentralized.
With no affiliations to any particular nation-state, DAO developers wanted to eliminate human error or manipulation of investor funds.
They placed the power of decision-making into the hands of an automated system and a crowdsourced process. They, however, made use of the Ethereum network.
Bitcoin as Compared to Altcoins
Bitcoin is the first and perhaps, the most popular type of cryptocurrency created in 2009. As a decentralized peer-to-peer digital currency, all bitcoin transactions occur directly between equal and independent network participants.
No intermediary permits or facilitates the transactions.
The emergence of bitcoin led to the advent of Blockchain technology. It created a technological basis that, with time, inspired the development of many competing projects. These projects are called “Altcoins.”
Altcoins is the generic name for all other coins, apart from bitcoin (more than 9,000 of them) listed on coinmarketcap.com. Short for “Alternative Coin,” altcoins are, simply put, bitcoin alternatives.
Summary
Cryptocurrencies and crypto tokens are a relatively recent category of investment. They are digital assets built with new, experimental technology.
As such, investing in crypto assets can be riskier than investing in more traditional investments like stocks and bonds. At the Art of Financial Planning, we can educate you on what to look out for before investing in cryptocurrency.
Ready to get started? Join us now.
