A Crypto Trader’s View on Managing Risk

2020-5-11 16:00

Craig Cobb of the TraderCobb Crypto Show has been investing since he was 16 years old. Before entering the world of crypto trading, Cobb worked in traditional stock markets, FX and commodities and bonds.

As we all know, cryptocurrency is the most volatile market in the world, at least for the last few years. Although traditional markets have caught up with that volatility since the beginning of 2020 due to the coronavirus pandemic, it seems that the crypto market will continue to be massively volatile for a long time. 

That volatility comes with a phenomenal opportunity for traders to profit. But for that to happen, you need to know:

What you’re looking for How to manage your risk

I’m a trader with over 14 years of experience in both the traditional and crypto markets, and I want to share with you where risks come from and how to manage them. 

Risk comes from yourself. After all, you’re the one who decides when to place a trade, buy a token and how much you trade. 

There are three types of risk that you need to be aware of in order to be a successful crypto trade:

Market risk Counterparty risk Psychological risk Market Risk

The age-old adage in crypto has been to “hodl.” Hold on to your tokens for dear life and hope they go “to the moon.” The other popular war cry is to “buy the dip,” which means to purchase a cryptocurrency when its price declines.

How well this strategy (if you could call it that) works depends entirely on the timing. If you started buying in 2017, you probably would have done very well — if you sold at the right time.

The problem is that most people don’t know when to sell.  Whenever you get into a trade, you must know when to get out in order for any profits to be crystallized. Otherwise, it all goes to waste.

Another thing many traders haven’t figured out yet is how to get out of a loss. Getting out for profit is one thing, but getting out for a loss is a whole different matter. As we saw during the ICO boom in 2017 and its subsequent crash, many tokens have fallen 98% from their all-time highs. Therefore, we need to manage the downside first before we even consider the upside. 

This is where a stop-loss comes into play. Executing flawless trades requires having precise entry points and stop-loss points so that we can manage our capital as we trade. Most traders that I know, myself included, will risk between one and three percent each trade. That range might not suit everybody, but a stop-loss should always be there, if nothing else. 

Don’t simply buy based on what people are saying on your Twitter feed or on whoever claims to be an expert. Learn the fundamentals of crypto trading and then make your own decisions. And don’t forget to have a stop-loss for you to get out in case the reason you entered a trade becomes invalidated.

Counterparty Risk

Another risk present in this particular market is counterparty risk. We’ve all heard the story of Mt. Gox, the former leading Bitcoin exchange that was hacked in 2011. 

Security breaches play out quite often in the crypto space. In 2019 alone, there were twelve major crypto exchange hacks that occurred. And this terrible scenario is usually followed by the exchange going under, people losing money or businesses and people disappearing altogether.

This is why it is critical that you not have all of your tokens sitting in one place. Whether you’re a trader or investor, you should spread your risk across multiple accounts, or store the bulk of your portfolio in cold storage. In addition, you should keep your private keys to yourself and store them somewhere safe. 

Margin Trading

What is margin trading?
Margin trading refers to the practice of using borrowed funds from a broker to trade a financial asset, which forms the collateral for the loan from the broker (Investopedia).

Another way to reduce counterparty risk is to trade margin as often as you can. Most people would say that margin trading is the best way to get wrecked — and I completely agree, but only if you have no idea what you’re doing. 

Trading margin without knowing how to do it is like piloting a jet and trying to take off when you’ve never flown one before. That’s why you should get educated and learn where to place entries and stops. Safety!

The reason margin trading reduces your counterparty risk is that you don’t need to have a large amount of cryptocurrency sitting on an exchange. If the leverage levels are high, you can position yourself with bigger trades without having to have as much asset on the platform.

Psychological Risk

Psychological risk may have less to do with your money, but it is still huge. You can only make great decisions when your head is clear and you are thinking rationally. Think about the last time you’ve made a great decision when you’re angry or too emotional. You probably can’t.

Psychological risk comes in the form of making rash decisions or knee-jerk reactions. Therefore, you need to manage your state of mind when trading.

In my checklist-based trading strategies, I have very strict rules, and the reason why I use checklists to guide my trading decisions is so that I can take emotion out of the equation. 

Many people find themselves in a position where they just sell everything and get out of the market and then regret it later on. If you make a decision based on emotion, you are doing it wrong. 

It doesn’t matter what the decision or outcome is. Trading based on emotion will always be wrong because it reinforces bad habits which will be detrimental to your success as a trader.

The Takeaways

Those are the three major risks that you need to manage when trading or investing in cryptocurrencies. 

If you still wish to be a “hodler,” that’s fine, but just know that you’re in for a wild ride. And if you are never going to exit the market, then what’s the point of entering? If you’re not going to crystallize those profits, then what’s the point of getting involved in the first place? Whether you’re a hodler or a trader, you need to have a plan on what to do in certain scenarios. 

Plan out your trade and then trade your plan. Be sure to manage your head space, as well as your market and counterparty risk.

The post A Crypto Trader’s View on Managing Risk appeared first on CoinMarketCap Blog.

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