Potential for growth
Cryptocurrencies have dominated the growth conversation in recent years, with their promise of rapid and high increases. For example, Bitcoin and Ethereum have grown astronomically in recent years. While five years ago a single Bitcoin could be purchased for around US$500, by the end of March 2022, one Bitcoin cost over US$45,000, representing growth of about 9,000%. Likewise, Ethereum saw its price increase by more than 500% when it peaked earlier this year.
However, cryptocurrencies can also be very volatile, as evidenced by the recent dramatic price drops. As of 30th June 2022, Bitcoin’s value stood at $19,985 – a price decrease of over US$25,000 in the space of three months. What’s more, Ethereum’s value fell by 6% in just one day (30th June).
Stocks have the potential for rapid growth, just like crypto, but with far less risk. Following the outbreak of Covid-19 in March 2020, Zoom quickly became a household name. Communication suddenly went fully online and the demand for video calling skyrocketed. This demand remained high throughout 2020 with shares in Zoom peaking at around US$560. At the beginning of March 2020, they were around US$110 per share, compared to just US$36 per share the year before – a remarkable price increase.
But Zoom is not an outlier. The video conferencing tool is just one of many stocks to have seen price increases so high that they wouldn’t look out of place in the cryptocurrency market. 2022 has been a strong year for energy companies to date, oil and gas giants Exxon Mobil (39.96%) and Shell (20.48%) have both seen their share prices rise significantly in 2022. Elsewhere, drug manufacturers have performed well so far this year, with AstraZeneca, Eli Lilly and Merck all seeing their share prices increase by more than 13%.
While both crypto and stocks have a lot of potential for growth, there is a key difference – risk. With stocks, investors are better protected against downside risks, which makes them a comparatively safer investment. The same cannot be said for cryptocurrencies. In part, this is because crypto is still relatively new. As such, if confidence drops in the coin or a regulatory barrier is created, users are deterred and any investment could quickly go up in smoke. Furthermore, however high the value of one Bitcoin is, its inherent value is zero. Therefore, even if the price surges due to high demand and speculation of further price rises, there is no protection against loss. Crypto exists in a continual cycle whereby all these factors lead to rapid rises in price, but also rapid falls.
Crypto may not be like this forever – it is still in the early stages. As time goes on, investors are gaining a greater understanding of what factors influence the market and prices, and this will only continue as crypto gains more popularity and becomes more widely accepted. But, on the other side of the coin, the volatility – and therefore the potential gains – may also be significantly reduced. Ultimately, cryptocurrencies, for all their upside, come with considerable risks. Investing is inherently a risk-based exercise but even then, crypto is particularly risky. Consequently, a diversified range of stocks is a better route for the more risk-averse. There remains scope for significant growth, just in a less risky context.
Loss prevention tools
Recently, more and more brokers have started to offer risk management tools for those wishing to engage in high-risk trading. Although not yet widely available across the retail market, these management tools, such as AvaProtect, can offer further protection against potential risk. Not unlike an insurance policy, these tools generally require a small fee. Traders are then able to stay in the trade and ride out any short-term drops in value, and therefore benefit from a positive overall momentum of the position. What this means is that if the market moves in a different direction than what was originally expected, traders can recover their losses, only minus the cost of purchasing the protection – a significantly better option than losing their whole investment.
Another option to protect against significant loss is a ‘take profit’ order together with a ‘stop loss’ order. Both tools allow traders to set limits on profit and on loss, so they are not exposed to more risk than they are comfortable with. In the case of a take profit order, the trader can specify the exact price at which they would like their open position to be closed out. This enables them to make a profit without the risk of subsequently losing it. A stop loss order works in a similar way, with the trader being able to set the limit at which they would like to buy or sell a stock once it reaches a certain price. This ensures that they are not exposed to more risk of loss than they want.
Investing is inherently a risky practice but those traders who have taken the time to understand these risks and review the options available to them may find that investing in stocks is the best option for them. Stocks offer high growth and there are ways to protect against rapidly losing these gains. As more and more people begin using trading platforms to invest in stocks, brokers will embrace risk management tools to attract and retain new users, making investing in stocks even more appealing.
About the author: Dáire Ferguson is CEO at AvaTrade.