What is cryptocurrency trading?

Understanding cryptocurrency trading

Definition of cryptocurrency trading

Cryptocurrency trading involves buying and selling digital currencies like Bitcoin and Ethereum with the goal of profiting from market movements. There are two main ways to trade crypto: by buying and selling them on an exchange or through derivatives products like contracts for difference (CFDs).

Note that trading cryptocurrencies is different from investing in them. Investors will usually buy and hold cryptocurrencies for the long term, while traders aim to take advantage of short-term price fluctuations.

How cryptocurrency markets work

Cryptocurrency markets are decentralized, which means they’re not controlled by a central authority like a government or financial institution. Instead, transactions are verified and recorded on the blockchain, which is maintained by a network of computers around the world.

This decentralization means that crypto markets often behave differently to other financial markets. It also means they’re open 24 hours a day, 7 days a week, so prices can change at any time. Traders buy and sell cryptocurrencies on exchanges, which facilitate trades and provide ‘wallets’ for storing digital assets.

Key concepts in cryptocurrency trading

If you’re new to crypto trading, you might come across terms like spread, lot, leverage, margin, and pip:

• Spread: This is the difference between the buy (ask) price and the sell (bid) price of a cryptocurrency. Narrower spreads usually mean the market is more liquid.
• Lot: This refers to the size or quantity of the cryptocurrency being traded, usually a single coin or token.
• Leverage: This allows you to open a position that’s larger than your initial investment. Leverage can amplify gains but it also increases potential losses.
• Margin: This is the amount of money required to open and maintain a leveraged position, usually expressed as a percentage of the total trade value.
• Pip: Short for ‘percentage in point’, this measures the smallest price movement of a cryptocurrency. For higher-value coins like Bitcoin, a pip usually equals a one-dollar move. For smaller coins, it can be a cent or less.

Types of cryptocurrency trading

There are two main ways to trade cryptocurrencies: through contracts for difference (CFDs) or by buying and selling coins directly on an exchange.

CFD trading on cryptocurrencies

CFD trading allows you to speculate on cryptocurrency price movements without actually owning the underlying coins. You’re essentially entering a contract to exchange the difference in a crypto asset’s price from when the position is opened to when it’s closed. If you think the market will go up, you go long (buy), if you think it will go down, you go short (sell).

CFDs are leveraged products, so you only need a small deposit (margin) to control a much larger position. While this can increase potential profits, it also increases the risk of losses, so careful risk management is essential.

Buying and selling cryptocurrencies via an exchange

Trading cryptocurrencies through an exchange means you’re buying the actual coins. You’ll need to set up an account, fund it, and choose a secure digital wallet to store your assets. This method gives you full ownership of the cryptocurrency, so you can hold it long-term, transfer it to others, or use it in blockchain applications.

Trading on exchanges can come with its own challenges. You’ll need to choose a reliable and secure exchange and carefully manage your wallet to keep your crypto secure. You’ll also need to put up the full amount of capital to open each trade, unlike CFDs.

Popular cryptocurrencies for trading

Bitcoin trading

Bitcoin (BTC) was the first cryptocurrency, launched in 2009 by a creator known as Satoshi Nakakomoto. It was built as an alternative to traditional currencies and aimed to end the centralized control of money by banks and governments.

Bitcoin uses a peer-to-peer blockchain technology to allow users to send and verify transactions without the need for an intermediary. It also has a fixed supply, which means only 21 million coins will ever be created. This design aims to prevent inflation caused by government-backed currency printing.

Bitcoin is by far the most widely traded cryptocurrency, so its price movements often influence the wider crypto market. BTC prices are influenced by several factors, including market sentiment, media attention, macroeconomic trends, adoption rates, regulatory news, and its fixed supply (which fuels scarcity as demand grows).

Ethereum trading

Ethereum was launched in 2015 as a blockchain platform that supports smart contracts (self-executing agreements that run without intermediaries). Its native cryptocurrency, Ether (ETH), is used to pay for transactions on the Ethereum network.

Ethereum’s technology powers thousands of decentralized applications (dApps), which span everything from financial tools to games and marketplaces. Even though numerous other smart contract platforms have since been developed, Ethereum is still the most widely used today.

Unlike Bitcoin, which is positioned as a store of value or alternative to fiat currency, Ether is known as a utility token – its main purpose is to power activity on the Ethereum blockchain. This means Ethereum’s price is influenced by network demand (e.g. usage of dApps and smart contracts), platform upgrades, competition from newer blockchain networks, and speculation on future applications.

Other popular cryptocurrencies

Cryptocurrencies that aren’t Bitcoin or Ethereum are known as altcoins (alternative cryptocurrencies). Some popular alt coins include Litecoin and Ripple:

• Litecoin (LTC) was created in 2011 to be a faster and more practical version of Bitcoin. It has quicker transaction times and lower fees, which make it more suitable for smaller, everyday payments.
• Ripple (XRP) is both a digital asset and a payment platform that aims to make international money transfers faster and more affordable. Like ETH, XRP is a utility token.

Cryptocurrency trading strategies

Day trading

Day trading involves opening and closing positions within the same day with the aim of profiting from short-term price movements. Since the crypto market is open 24/7, trading opportunities are essentially constant, but there’s also a risk of overtrading or burning out.

Day traders rely on technical analysis, chart patterns, and real-time market news to track crypto prices. Because the market is so volatile and fast-paced, quick decision-making is essential. For that reason, day trading requires discipline and advanced knowledge of crypto markets.

Arbitrage

Arbitrage involves taking advantage of price differences for the same cryptocurrency across different exchanges. For example, you might buy Bitcoin on a crypto exchange where the price is lower and sell it on another where it’s priced higher, capturing a small profit.

Arbitrage is generally considered low-risk, but it requires you to monitor multiple exchanges at the same time and act quickly when opportunities come up. There are also complexities – you need to account for fees, transfer delays, and the chance that the price will change during the execution process.

Scalping

Scalping involves making multiple small trades in a single day with the aim of capturing tiny price movements that add up over time. Scalpers use short time frames (like 1-minute or 5-minute charts) and often trade cryptocurrencies with high liquidity and low transaction fees.

HODL (Buy and Hold)

HODL is a misspelling of ‘hold’. It refers to buying cryptocurrency and holding it over the long term, regardless of short-term price fluctuations. It’s not a trading strategy per se, since it aims to profit from the growth of a coin over time.

Futures trading

Futures trading involves speculating on the future price of a cryptocurrency without needing to own the asset itself. It uses futures contracts, which commit the buyer to buy (or the seller to sell) the cryptocurrency at a set price on a specific date.

Futures offer leverage, which can amplify potential profits as well as potential losses. Because of the risk and complexity involved, futures trading is typically only used by experienced traders.

Tools for cryptocurrency trading

Risk management

Crypto markets are highly volatile and proper risk management is essential. Some strategies to help manage risk when trading crypto include:

• Use stop-loss orders to automatically close losing trades and limit downside exposure
• Only use leverage when confident in your strategy, and always within manageable limits
• Diversify your portfolio across multiple assets to reduce overall risk
• Start small, especially if you’re new to crypto trading
• Keep up with crypto news and regulatory developments so you can adapt your strategy to market changes