Crypto: The basics

What is crypto? 

Crypto has grown rapidly in the last few years, accompanied by a surge in speculative trading – which means people trading just because they have heard it may rise in value, rather than seeing evidence to support a potential rise. 

Crypto can be thought of as ‘digital representations of value or rights’ that are secured by encryption and typically use some type of ‘distributed ledger technology’ (DLT). DLT allows data to be recorded and stored across a network of participants. This keeps the data secure, and means there is no one single central data storage point or one central authority that grants participants permission to access and participate in the network.

Where does crypto come from? 

There are many types of crypto and the market continues to evolve rapidly.  

The way some cryptos are created and operated makes them very different from what some people would class as ‘tangible’ assets (meaning things that you can physically see and touch) like gold or cash. So called ‘unbacked’ crypto have no tangible assets that sit behind them. Their price can increase or decrease depending on whether other people are willing to buy them. If people stop buying, the price could fall dramatically.  

Whereas central banks – like the Bank of England – issue and oversee the money we use daily, cryptos are developed and run by groups, individuals or companies. Publicly available information about some of these groups/individuals can be vague, and, as crypto activity is not regulated yet in the UK, there is no safety net if things go wrong. 

The underlying technology behind crypto, in particular DLT, and certain cryptos might have a positive impact on the future on financial services. It may lower costs, increase efficiency, enable faster settlements and help better monitor transactions. There could be benefits for consumers and businesses when a subset of cryptoassets – stablecoins – are used for payments. This is especially the case for cross‑border (remittance) payments, where stablecoins may lower the costs and speed up settlement for business and consumers. 

Some investors see appeal in crypto, either because they want digital finance decentralised and/or they see the assets as investments that may grow in value. However, the volatility of crypto can lead to people questioning its value.  

Crypto you (might have heard of)

As of early 2023, there were over 20,000 cryptos, many of which are no longer traded, and will never grow a significant market capitalisation (cap), a term used to measure the size of a certain crypto and its popularity, because they don’t have a unique selling point. Of the 20,000+, there’s probably a few you’ve heard of:  

• Bitcoin: Bitcoin (sometimes abbreviated to ‘BTC’) was created in 2009 following a whitepaper publication a year earlier. That makes Bitcoin the longest-running crypto, and it’s also by far the biggest crypto in market cap terms.  

• Ethereum (‘ETH’): The Ethereum blockchain differs to Bitcoin’s as it enables functions to be pre-programmed through so-called ‘smart contracts’, a kind of computer-code that runs on the “Ethereum Virtual Machine” that automatically activates when pre-agreed conditions are met. In practice, that means you could set up a regular payment to be made on your mate’s birthday, or a one-off payment to a supplier that’s only made once you confirm you’ve received the goods. 

• Tether: Tether (USDT) is a form of crypto called a ‘stablecoin’, meaning that its value is linked to stable assets like the US Dollar or gold. Theoretically this makes the price less volatile than cryptos like BTC and ETH. However, the extent to which stablecoins have reserves of ‘stable assets’ to keep their values linked, varies in practice. Tether was fined $41 million by US regulators in October 2021 for making untrue and misleading statements about the extent to which it was linked to the dollar.  

• Cardano: ‘ADA’ has rapidly gained popularity since release in 2017. Cardano aims to combine the appeal of Ethereum’s ‘smart contracts’ with energy-saving validation methods.

Using crypto? 

Currently, using crypto as a means of payment is very limited – they’re accepted by certain IT and travel companies, for example, but you probably won’t be doing your weekly shop or paying your 5-a-side football subs with crypto. The reason for this is that cryptoassets tend to be very volatile, so it’s hard to pinpoint their value from one day to the next, which makes them unreliable as a payment method. However, we see potential benefits in using certain types of cryptoassets, specifically those that are linked to fiat currency, that are less volatile and more stable, as they could provide faster, cheaper and more efficient payments, e.g., cross border or micro payments. Some investors take the view that cryptos could possibly one day be accepted in everyday transactions and see potential beneficial applications of DLT in the payment space. 

Investing in crypto comes with all kinds of risks, some of which you might not even have thought of. For example, even getting your money out of crypto and back into your bank account as cash is risky and tax may be payable on any gains that you have made. In 2022, crypto lender, Celsius, filed for bankruptcy and owed its users $4.7 billion, meaning many investors could not get their money out and did not get anything back.  

Investing in crypto?

Many people are treating crypto as an investment. While not all cryptoassets are the same, they are all high risk and speculative as an investment.  

If you decide to invest in crypto then you should be prepared to lose all your money, for any one of a variety of reasons, including sudden market moves, the failure of a firm, poor segregation of client funds or cyberattacks.   

It’s important to remember that crypto is largely unregulated in the UK, so it is highly unlikely you will be covered by the Financial Services Compensation Scheme, so you should not expect any kind of compensation to cover any form of crypto-related losses. 

The marketing of crypto is regulated, and you can help protect yourself by recognising regulated crypto marketing.  

If you don’t see these warnings and are offered an incentive to invest it means the company offering your investment isn’t following our rules, and could be illegal, or even a scam. 

Even with these rules, crypto still remains high risk with no protections if something goes wrong.

Scammers are active around crypto markets

Following the surge in people’s interest in crypto over the last few years, scammers have been increasingly active in targeting potential investors. Remember - if something sounds too good to be true then it probably is. Find out how to protect yourself and others from investment scams on our ScamSmart site.