The cryptocurrency market has many different participants: You can use cryptocurrencies to purchase goods or services; you can buy and hold cryptocurrencies to diversify your investment portfolio; or, you can buy and sell cryptocurrencies to profit from short-term price movements. Each of these participants uses different tools and strategies.
Let’s take a look at the difference between investors that hold cryptocurrencies over the long-term and traders that buy and sell them over short periods of time to generate a profit.
Traders vs. Investors
Traders and investors are both focused on generating a profit from buying and selling cryptocurrencies, but they have different strategies and goals.
Traders buy and sell assets to generate a short-term profit over the course of weeks, days or even minutes. Using technical analysis, they analyze market psychology and supply/demand economics to find instances where assets may be overbought or oversold. The goal is to generate a regular income by buying low and selling high over the short-term.
For example, a short-term trader may notice that Bitcoin prices broke out from trend line resistance, which could suggest that prices are headed higher. They may purchase Bitcoin following the breakout and hold it until prices start to lose momentum. At that point, they may sell the Bitcoin back into cash and lock in their profit on the trade.
Investors buy and hold assets to profit from their increase in value over many years. Using fundamental analysis, they analyze assets to find high growth or undervalued opportunities. The primary goal is either to generate a long-term capital gain on the investment or generate a consistent cash flow by holding the investment — although the latter doesn’t apply to crypto.
For example, a long-term investor may believe that cryptocurrencies will eventually replace fiat currencies. While the transition could take a decade to complete, they are willing to buy and hold a basket of different cryptocurrencies over the long-term based on this premise. They aren’t concerned about short-term volatility — just the long-term potential.
With the rise of exchange-traded products in the crypto space, many mainstream investors have started to diversify into cryptocurrencies as a way to hedge against risk. The lack of correlation with traditional financial assets has made them an attractive alternative to gold or other value stores that have higher costs — including storage and transaction costs.
Tools & Resources
Traders and investors use different tools to analyze, buy, and sell cryptocurrencies to achieve their goals.
Traders use technical analysis tools and strategies to generate a short-term profit. For example, they may look at technical indicators on a chart to find oversold assets that could be compelling buying opportunities. Or they may look for chart patterns or candlestick patterns that could provide a short-term buy or sell signal for a given asset.
Bitcoin Chart with Technical Analysis - Source: TradingView
When buying and selling cryptocurrencies, short-term traders typically use platforms that support technical analysis and show real-time order books, such as Coinbase Pro. Some of these tools even let traders build their own automated trading systems that can be used to execute buy and sell orders based on preset rules.
Investors use fundamental analysis tools and strategies to identify undervalued or high growth assets. For example, they may read through white papers for new cryptocurrencies, look at upcoming changes to an established cryptocurrency or use spreadsheets to calculate asset allocations when diversifying a larger investment portfolio.
Long-term investors may use their own cold wallets that are held offline for security purposes, use standard exchanges, such as Coinbase, or purchase exchange-traded products in their existing brokerage accounts.
Traders and investors have different tax exposure since one seeks to generate an income and the other seeks to generate a capital gain over a long period of time.
Traders that buy and sell cryptocurrencies within a year are subject to short-term capital gains taxes at their ordinary income tax bracket. For example, a trader that falls into the 35% tax bracket would owe a 35% tax on any gains arising from their trading activity for the year. Any losses can be used to offset gains in the current tax year or carried forward.
By contrast, long-term investors that hold cryptocurrencies for longer than a year pay long-term capital gains taxes. These tax rates are typically in the 0% to 20% range, depending on the individual, which is lower than most ordinary income tax brackets. For example, someone that falls into the 40% tax bracket may only pay 20% capital gains on long-term profit.
Tracking cryptocurrency gains and losses can be challenging — particularly for active traders. While investors may need to record occasional gains or losses, active traders may have to record thousands of transactions across different exchanges. Aggregating these transactions, calculating the cost basis, and adding up gains and losses can be difficult.
ZenLedger Interface - Source: ZenLedger
ZenLedger imports transactions from many of the most common crypto exchanges and automatically calculates gains and losses to simplify this process for traders and investors. You can auto populate common tax forms, such as Form 1040 Schedule D and Form 8949, and easily access an audit trail to prove gains or losses in the event of an IRS audit.
In addition, ZenLedger provides a CPA suite for accountants looking to support cryptocurrencies in their practice. The CPA suite enables them to track multiple clients under the same login and ensure that their cryptocurrency transactions are properly recorded.
The Bottom Line
Traders and investors both try to profit from buying and selling cryptocurrencies, but they have different strategies and long-term goals. The difference in strategy has many important implications, including changes in tax liability. It’s important to understand these differences in order to appreciate the tax implications and avoid any issues.
Sign up for ZenLedger to easily track your cryptocurrency gains and losses, and accurately report them to the IRS.