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Looking Beyond Bitcoin: Ethereum & Other Cryptocurrencies

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April 5, 2018
Cryptocurrency types and risks for investors
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Bitcoin typically commands much of the spotlight on the world’s cryptocurrency stage, and for good reason: for one, it’s by far the most actively traded cryptocurrency. But there are many other crypto fish in the sea. Ethereum, Litecoin, Ripple, and Zcash are just a few of the other crypto tokens and coins (often referred to as "altcoins") changing hands every day.

So many cryptocurrencies to ponder—more than 1,500 currently worldwide, according to CoinMarketCap—with a variety of uses and cheeky names (FrankyWillCoin, PizzaCoin, Tattoocoin). But where to start for an investor who wants to learn more?

Researching a few of the broader cryptocurrency categories is a good place to dive in, market professionals say. You might consider learning a few basics of Bitcoin as well as blockchain, the distributed ledger technology on which it and many other cryptocurrencies are based. It’s also important to understand how cryptocurrencies trade and their many risks.

Remember: The term “cryptocurrency” can be misleading because it doesn’t necessarily capture the differences in technology, incentives, and structure among various coins and tokens, says Phil Glazer, an investor with Maschmeyer Group Ventures, a San Francisco–based venture capital firm.

Although “cryptocurrency” conveys certain attributes that define some coins—such as a means of storing value and paying for things—the term “fails to capture the nuances and capabilities of other coins,” Glazer wrote in a recent blog post. In fact, there are several different types of cryptocurrencies. Let's take a look at the top categories.

1. “Currency,” “transactional,” or “store of value” cryptocurrencies (Bitcoin, Bitcoin Cash, Litecoin)

Probably the most familiar of the major categories, these cryptocurrencies are used as a means of exchange for goods and services. They’re similar to traditional fiat currencies, such as the U.S. dollar, in that their price at any given moment reflects the value people attribute to it. A key difference, however: many see transactional cryptocurrencies as a way to eliminate the need for government-issued currency.

2. “Utility” cryptocurrencies (Ethereum, Filecoin, Ripple)

Utility cryptocurrencies are designed for a specific task. They represent “something new,” Glazer says, by creating an infrastructure on which to build a means of storage or verification.

For example, Ethereum allows users to facilitate transfer of ownership through “smart” contracts, in which a token is attached to, and thus verifies, legal documents and other agreements. Another utility cryptocurrency, Filecoin, creates a decentralized storage network, providing users a new way to store and retrieve data.

3. “App” or “platform” cryptocurrencies (Augur, Ethereum, NEO)

These cryptocurrencies are designed for specific applications—to eliminate middlemen or create markets—and are often built on top of utility cryptocurrencies (some consider Ethereum a platform cryptocurrency). Augur, for example, is a decentralized prediction market built on top of Ethereum where users can find and place bets on elections or sports outcomes, Glazer notes.

Some market professionals break down cryptocurrencies into additional categories, including “privacy” cryptocurrencies, fintech cryptocurrencies, and application-specific “coins.” There are also cryptocurrency-based futures contracts.

What about specific cryptocurrencies that aren’t as big as Bitcoin, but still may be worth following?

According to financial researcher Prableen Bajpai, there are at least six “important” cryptocurrencies other than Bitcoin: Dash, Ethereum, Litecoin, Monero, Ripple, and Zcash. The following are brief descriptions of each, based in part on a recent article by Bajpai, along with the currency’s market capitalization as of mid-March, according to CoinMarketCap figures.

Remember the Risks

Now that you have a better sense of how cryptocurrencies work and how they differ, keep in mind the many, many risks. Authorities are still getting the regulatory infrastructure in place regarding cryptocurrencies. Nothing exists, yet, to back you up, as the Federal Deposit Insurance Corporation does for U.S. bank customers.

In December, U.S. Securities and Exchange Commission Chairman Jay Clayton noted that “a number of concerns have been raised regarding the cryptocurrency and ICO markets,” and that there is “substantially less investor protection than in our traditional securities markets, with correspondingly greater opportunities for fraud and manipulation.”

“The most important thing to remember,” says Jim Sinegal, a financial services analyst with Morningstar, “is that you are 100% responsible for the security of your holdings.” He likens cryptocurrency markets to “venturing into a bad neighborhood with a pocketful of cash to spend. You might get robbed at any time; you could end up with counterfeit goods.”

Plus, the prices of Bitcoin, other cryptocurrencies, and any related securities can be quite volatile. It's possible the entire value of your investment may be lost. If you don't think you can handle the price swings—financially or emotionally—you may want to steer clear. 

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