Early Prime Day Deals Roe v. Wade Overturned Surface Laptop Go 2 Review 4th of July Sales M2 MacBook Pro Deals Healthy Meal Delivery Best TVs for Every Budget Noise-Canceling Earbuds Dip to $100
We handpick the products and services we write about. If you buy through our links, we may get a commission. Reviews ethics statement

As Crypto Prices Seesaw, Every New Investor Should Ask These 5 Questions

Bitcoin teetered above and below $20,000 this week. If you're thinking about investing, here's what to know first.

Person standing among animated bitcoins
Robert Rodriguez/CNET

This story is part of Power Money Moves, CNET's coverage of smart money decisions for today's changing world.

Cryptocurrency hit new highs in late 2021, but this year hasn't had the same luck. Bitcoin dipped below $20,000 for the first time since 2020 on Saturday, and continued to drop to a low of $17,786 Sunday. Although the popular cryptocurrency has since managed to rebound above the $20,000 mark, it remains far from its November peak of more than $67,000. Bitcoin isn't the only cryptocurrency to experience a recent dip, the price of ethereum has similarly torpedoed this month. As such, crypto investors are navigating a whole new landscape. 

What hasn't changed is that cryptocurrency remains controversial, risky and wildly volatile. That was made especially evident in May, when the crypto market plummeted by more than $200 billion in one day, spurred by the collapse of the important stablecoin TerraUSD.

Highs and lows are nothing new in the crypto markets, and skeptics have long been characterizing crypto as an empty bubble destined to burst. Critics have called bitcoinstablecoins and NFTs simply a new, digital form of an old con primed to swindle and scam. But investors see the world of digital coinage as a step forward -- a kind of "Money 2.0" that will democratize finance and power the metaverse.

In simple terms, cryptocurrency is a digital token, ownership of which is recorded on a blockchain, a distributed software ledger that no one controls -- this is designed to make it more secure, in theory. Bitcoin and ethereum are the two most widely known flavors of crypto, but more than 18,000 tokens are traded under different names (dogecoin is one famous example). 

Despite seesawing prices and a relative lack of regulation, cryptocurrency is seen by many as the next financial frontier. Developments like President Joe Biden's desire to explore a digital US dollar to multimillion-dollar Super Bowl ads underscore a growing desire from powerful government and corporate institutions to quickly legitimize crypto in much the same way as stocks and bonds.

But it's worth considering whether cryptocurrency is a smart investment for you -- especially in light of the current downturn and the ever-present potential for a major crash (in crypto and the US economy, generally).

"Cryptocurrency is one of those categories of investing that doesn't have those traditional investor protections," said Gerri Walsh, senior vice president of investor education at the Financial Industry Regulatory Authority. "They're outside the realm of securities trading. It's an area that's in flux, as far as regulations go."

Professionals caution that investors shouldn't put more than they can afford to lose into crypto, which offers few safeguards, plenty of pitfalls and a spotty track record. If you're thinking about adding crypto to your portfolio, here are five key considerations before you begin.

What are the risks of investing in crypto?

Before investing in crypto, you should know there's almost no protection for crypto investors. And since this virtual currency is extremely volatile and driven by hype, that's a problem. It's easy to get caught up in tweets, TikToks and YouTube videos touting the latest coin -- but the adrenaline rush of a market spike can easily be washed away with a dramatic crash.

You should be on the lookout for crypto scams. One often-used scheme is a pump and dump, in which scammers encourage people to buy a certain token, causing its value to rise. When it does, the scammers sell out, often pushing the price down for everyone else. These scams are prominent, and they took in more than $2.8 billion in crypto in 2021.

From the US government's current policy perspective, you're on your own. At this time, the government provides no deposit protection for crypto as it does for bank accounts. This may change following Biden's March executive order, which directed government agencies to investigate the risks and potential benefits of digital assets.

So far as we can tell, only one company offers crypto insurance: Breach Insurance, with a Crypto Shield offering that promises to cover your accounts from hacks. Other companies, such as Coincover, provide theft protection, which alerts you if there's suspicious activity on your account. Coincover maintains an insurance-backed guarantee that if its technology fails, it will pay you back up to the amount you're eligible for, which depends on the level of protection the wallet you use offers. (Neither Coincover nor Breach Insurance will cover you against scams.)

Despite all the hype, scams, periodic crashes -- and persistent risks -- in this market, Cesare Fracassi, who runs the Blockchain Initiative at the University of Texas, Austin, still thinks crypto has a viable future.

"I think crypto holds a possible solution to some of the problems of the traditional financial sector," Fracassi said. "The current, traditional financial system is noninclusive, it's slow and expensive and incumbents, including large banks and financial institutions, basically have a lot of control. I think crypto is a venue through which you can actually break the system."

How do I start investing in cryptocurrency?

If you're considering buying crypto now, as prices have dipped, it's worth noting that there's no guarantee the market will recover. But the simplest way to get your feet wet with crypto investments is to use US dollars to buy a cryptocurrency using a popular exchange like Coinbase, Binance or FTX. A handful of well-known payment apps -- including Venmo, PayPal and Cash App -- will let you buy and sell cryptocurrency, though they generally have limited functionality and higher fees. 

Whether you're using Coinbase, Binance, Venmo or PayPal, you'll be required to provide some sensitive personal and financial information -- including an official form of identification. (So much for bitcoin's reputation for anonymous transactions.) 

Once your account is set up, it's simple to transfer money into it from your bank. And the barrier to entry is quite low: The minimum trade amount is $2 on Coinbase and $15 on Binance.

Read more: Best Bitcoin and Crypto Wallets for 2022

What percentage of my portfolio should be in crypto?

Crypto is so new, there isn't enough data yet to decide how much of your portfolio "should" be in cryptocurrency, according to Fracassi.

"We need decades of returns in order to understand whether a specific asset is good in a portfolio," Fracassi said. "We know that on average stocks return about 6% more than bonds. That's because we've had 60 to 100 years to see the average returns on stocks and bonds."

Like all investment decisions, how much you pour into crypto will depend on your risk tolerance. But investment professionals suggest that investors keep their exposure low -- even for those who are all-in on the technology. Anjali Jariwala, a certified financial planner and founder of Fit Advisors, recommends that clients allocate no more than 3% of their portfolio to crypto.

If I make money on crypto trades, do I have to pay taxes?

Yes. Whether you're buying, selling or exchanging crypto, the IRS wants to know about it. Your tax liability depends on your particular situation, but crypto investments are broadly treated like other investments, including stocks and bonds. 

You don't need to report crypto on your tax return if you didn't sell or exchange it for another type of crypto. Buying and holding also doesn't need to be reported. If you did sell or exchange crypto, though, you'll need to report any gains or losses realized, just like you would for stocks and bonds. 

Adding crypto trades won't make your tax return any easier. But popular tax software like TurboTax, CoinTracker and Koinly now connect with wallets and exchanges to automatically track your cryptocurrency holdings, sales and transfers.

Is there a way to learn about crypto without investing in the currencies themselves?

Buying tokens is the most straightforward approach to experimenting with cryptocurrencies. But other opportunities exist for exploring the crypto world while potentially protecting your money from seesawing swings. 

Here are a handful of alternatives:

Buy shares of crypto companies. Many companies in the crypto space are publicly traded. Buying shares of Coinbase Global or PayPal Holdings rather than of the coin itself allows you to benefit from the business proceeds of these companies, which are in part generated by crypto. You can also buy shares of companies that make crypto-related hardware, such as Nvidia and AMD.

Invest in crypto ETFs or derivatives. Specialized exchange-traded funds, or ETFs, are available for crypto. ETFs are baskets of securities, such as stocks, commodities and bonds, that follow an index or sector, in this case, crypto. Futures and options are also available for some crypto products, though these advanced types of investment vehicles come with their risks.

Get a job in crypto. LinkedIn, Indeed and Monster list thousands of jobs in crypto. Whether you've got a traditional finance background or you're a software engineer, there's a boom in the blockchain labor market. There's also Cryptocurrency Jobs, a job board dedicated to blockchain careers.

Whether you'll plunge into crypto waters is ultimately up to you, but bear in mind it isn't the only place to start your investing journey. And beyond crypto, there are other digital assets to consider, too, including NFTs. But if you do take the plunge, be sure to invest in a good wallet to keep your digital currency safe.

Read moreAir Travel Is More Expensive in 2022: Here Are Smart Ways to Save Money When You Fly 

The editorial content on this page is based solely on objective, independent assessments by our writers and is not influenced by advertising or partnerships. It has not been provided or commissioned by any third party. However, we may receive compensation when you click on links to products or services offered by our partners.