The total market capitalisation of digital currency has reached close to £3.1bn, according to data from Coinmarketcap. Of this figure, a total of 85.7 per cent belongs to market leader Bitcoin, followed by ripple and litecoin.

According to a feature on cryptocurrencies in Money Management’s September issue, bitcoins and other digital currencies have been a subject of much discussion due to its heavy volatility and unregulated exchange.

So, what is a cryptocurrency? It is a means by which people can exchange property in a secure way without the use of a central institution such as a bank. Bitcoins, for instance, can be obtained in three ways – buying on an exchange platform such as CoinDesk, accepting them for goods and services, and by ‘mining’ – creating – new ones.

While bitcoin is the leader, other cryptocurrencies have been in the news. In 2013, Google Ventures invested in OpenCoin, the company that created ripple’s payment network. Following in ripple’s footsteps is litecoin which enables instant payments worldwide.

Even though cryptocurrencies are easy to use and can buy real things like a coffee and to shop online, volatility is a big concern for those looking to invest in the currencies. While some analysts believe market movements have a direct impact on the performance of digital currencies, others think there is no direct correlation.

“The price of bitcoin is monitored by internal developments like new infrastructure projects, new financial services, new companies and new regulatory changes,” said Anatoliy Knyazev, co-founder of Malta-based brokerage firm Exante that launched its first bitcoin fund – which also invests in other cryptocurrencies – in 2012. “Some developments in software mining and hardware also impact but I don’t think markets can have any significant impact”.

While investing in cryptocurrencies can be a lucrative option, volatility continues to be a concern. Data from Coindesk shows that, from July 2010 to February 2014, the price of bitcoin was 26 times more volatile than the S&P 500.

However, Mr Knyazev says investors need to draw a strategy before putting their money into bitcoin. “For an investor, I would say don’t try to find any correlation with an outside established financial market. Invest between 2 to 5 per cent of your portfolio in bitcoin and buy when it is lower so you are safe.”

One of the biggest challenges for retail investors looking at cryptocurrencies can be the lack of technical expertise or knowledge. But with investment products targeted at retail investors coming into play, one can hope the situation gets better. “The first exchange-traded note for bitcoin in Sweden has continued to grow strongly since its launch,” says Alistair Milne, portfolio manager of Altana digital currency fund. “This may prompt others to create new ways to invest in the bitcoin economy, both passive and actively managed.”

While investments in digital currency come with its own set of risks and challenges such as lack of expertise, hacking risks, market volatility etc, adventurous investors – armed with the right knowledge – can still take a plunge in order to maximise returns.