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Investors have to be aware of crypto market volatility. The market is still new, unexplored, and pretty much unregulated. What follows is a look at cryptocurrency price volatility and how to buy volatility index to better monitor your investment.
What Makes Crypto So Volatile?
These factors contribute to crypto's unpredictable behavior.
It's Still a New Commodity
The market has expanded significantly since bitcoin's introduction in 2009. That makes it an infant in a stock market that goes back centuries. Bitcoin is in development, and we're suffering and embracing its growing pains.
Innovation Pushes Crypto
Despite the bitcoin market’s volatility, the world is devoting itself to the market. Everyone's creating apps and tech to advance the racing bitcoin market. In a lot of cases, too quickly. We've seen fully-realized executions and ideas that didn't pan out. And each success has a noticeable impact on the market.
Adoption Rate Remains Low
You can’t use bitcoin anywhere. Even if cryptocurrency is a digital currency, it doesn’t mean the global marketplace accepts it. Another downside is the day stabilization hits bitcoin, its prices will stabilize too. The truth is, the impact of universal and stable adoption on cryptocurrency market volatility is still a mystery for now.
Today’s Profit/Loss: -$18,991.11
This was the first thing I saw when logging into my cryptocurrency exchange this morning. It’s not exactly the most pleasant thing to wake up to, but honestly, I wasn’t stressed.
I know what you’re thinking: “If this guy is down five figures in a day, why would I take his advice?” The short answer is that I didn’t “lose” any money, but simply that I’ve temporarily lost a portion of my floating profit that I haven’t closed out yet. In the bigger picture, my cryptocurrency investments are still deep in profit.
The longer (and more important) answer is that in order to be a successful investor, especially in cryptocurrency, your mindset during a downturn is more important than your mindset when assets are rising in value.
Pullbacks happen. Corrections happen. You can’t prevent it. No stock or cryptocurrency in history has gone on a purely upward journey without dropping back down along the way.
It’s easy to look at a Chart of the S&P 500 during the last decade and see that the market has more than tripled. However, take a closer look at the chart, and you’ll see just how common corrections are. It’s nearly impossible to get lucky enough to buy the absolute bottom of a dip.
Even if you do buy the exact bottom of a dip, what if there is a dip next week that’s even lower? Almost all investments go through a period where you will temporarily have a floating loss- this doesn’t mean you have bad timing, it’s just a matter of probability. We’re not fortune tellers, but investors.
Although these pullbacks are out of our control, there is one thing we can control: how we react to the situation.
Here are 4 things you can do to ensure that your next cryptocurrency investment won’t be your last.
Build a Strong Mindset
First and foremost, don’t feel wrong for your fear of losing. It’s not abnormal, and it’s not “weak.” In fact, there are plenty of times in my life I wish I had cut losses or taken profits on certain investments earlier. I was invested in Blackberry ($BB) before the “meme stock” craze of January 2021, and at one point was up over 150% in just a couple weeks.
My inaction on closing my position caused my investment to actually fall below my cost basis, and I am currently sitting slightly negative. Being conscious of risk and loss doesn’t make you a weaker investor, and when emotions are channeled productively, they are a very useful tool.
It’s instinctual. The “loss aversion” cognitive bias is well-studied and documented, and is the entire basis for the insurance industry’s business model, as we generally prefer protection from risk. As humans, our psychological distress from losing far outweighs the perceived benefit from an equal-sized win. The term “panic selling” exists for a reason: it’s not uncommon.
To avoid panic selling, I establish three ideas in my head before entering any investment:
- What time frame am I holding this?
- Am I confident enough in this that I would add more money on a dip if price drops?
- What scenarios or fundamental factors would be enough for me to exit this trade for a loss?
This is a useful tool, because at the beginning of an investment, I have far less emotion and can establish a strategy without being afraid or euphoric depending on wins or losses. By sticking to established criteria, I ensure that I only enter or sell investments logically rather than emotionally.
A great example of this is when I recently bought into VeChain (VET) at 3 cents per token, with just $1,000. It climbed up quickly past 5 cents, then pulled back to below 4 cents. Once it was down at 4 cents, I almost took my VeChain out and put it into another cryptocurrency to see if I could get a better return. However, I fortunately fought the impatience and double-checked my investment criteria.
The second crypto that I almost bought has increased just about 10% since then, whereas VeChain has risen up to 6 cents at the time of writing. By not violating these rules, I quickly turned $1,000 into $2,000 on this trade, but if I went through with the temptation, I would only have only turned it into $1,400. Patience pays.
Be Prepared For Volatility and A Bumpy Ride
Volatility in cryptocurrency is a double-edged sword; it can provide large profits as quickly as it can provide large losses. It’s what makes holding digital assets so compelling for many investors in the first place, as large returns in short time periods are possible. However, it can also be a psychological nightmare for those who are glued to their screens, watching prices every hour of the day.
In the stock market, many consider a stock dropping 10% to be a fairly large correction. In fact, at the end of February the NASDAQ dropped 3.5% in what was the largest sell-off in the past five months. These sorts of dips, while significant in the market, are still nowhere near as large as in the cryptocurrency space.
The same day that Bitcoin dropped from the $50,000 range back into the $40,000 range, other assets such as Ethereum and Cardano posted 20-40% pullbacks in just hours. I saw these huge drops, and I easily could have panicked (as many others did). However, I followed my three criteria listed above, and fortunately, these holdings recovered quite nicely. Removing emotions saved me thousands of dollars.
I already established a long-term time frame (over a year) before jumping in, so I knew I would be violating that goal by selling just three months into the trade. I had been telling myself that I was waiting for a dip to add more capital in, so it would’ve gone against that belief to sell rather than buy on the pullback. Finally (and most importantly), my fundamental outlook didn’t change.
Just because the price temporarily dropped, it didn’t change my mindset and belief in future growth potential. The price of something on any given day is temporary- you want to look at the long-term trajectory and outlook rather than a price decrease that might simply be caused by traders taking partial profits at one of their price targets.
Know What You Hold
This is a principle that goes for both cryptocurrencies and stocks. Since most are more familiar with the stock market, here is an easy way to represent it:
If you fundamentally understand the company or asset you are holding, you will have confidence in your buy. You won’t be tempted to immediately sell the second you are seeing a floating loss. However, if you bought a company’s stock simply because someone told you to and don’t even know what the company does, then you won’t have conviction to hold through pullbacks. This can lead to a cycle of consistently buying into assets and selling for losses.
I used to watch YouTube videos on stock picks a few years back, and I would blindly buy in if the video and comments were very bullish. When the stock would inevitably have pullbacks, I would always get anxious because I didn’t have true confidence in what I held. I remember having the somber realization and thinking “How does this company even generate revenue?” I didn’t do proper research before entering, and this lack of due diligence made me susceptible to panic selling.
The same goes for cryptocurrencies. Whether it be household names like Bitcoin and Ethereum, or smaller projects like Cardano, Chainlink, or Polkadot, you should have some level of understanding on what they are before buying. It may be daunting if you are not tech-savvy, but even spending an hour learning about blockchain and its various applications, or the economic factors causing many to see Bitcoin as a store of value will help you be confident in your investments.
It’s a lot harder mentally holding through downturns and remaining confident when you have no idea what their fundamental purposes are or why they hold value. If you can’t explain it to a friend, it might not be a comfortable buy.
Zoom Out, Look At The Bigger Picture
Although this seems like common sense, and the first thing an investor should do, we often get caught up in the short-term regardless. Why? Well, we do this because it is a lot easier and more tangible to process something that is happening right now versus predicting and anticipating what will happen in the future over a longer time span. I constantly have to fight the urge of instant gratification and wanting my desired outcome in this exact moment, but it becomes easier over time.
It’s easy to look at a 5-day chart and panic because Bitcoin has dropped $10,000 in just a few days.
Think bigger picture, and the chart tells a different story. Bitcoin’s price is up over $30,000 in the last three months.
Be honest with yourself when you buy cryptocurrency. Are you buying it to daytrade, to flip a quick buck, or to “get rich quick?” If that is your mindset, and your time-frame, then these short-term pullbacks are going to naturally scare you.
However, if you are investing for the long-term, price fluctuations like these don’t impact you as much. I made all of my Bitcoin purchases before $18,000, all of my Ethereum purchases under $500, and all of my Cardano purchases at 14 cents. I told myself that I am holding all of these for 2-3 years. I established a long-term position, and I established a strategy that I will not let come undone.
How to Buy Volatility Index
The VIX (CBOE Volatility Index) is quite popular, but you can't buy it. The VIX is simply a statistic that exchanges use to provide market information. It's in a different category than daily trade volume or stock index numbers.
You can get exposure to changes in volatility value indices via VIX. To do so, purchase options, futures, or exchange-traded products the same way you do options, futures, and ETFs of stock indices.
These instruments don't duplicate the VIX precisely. When looking at individual ETPs, futures, and options, the relationships can be quite complex when it comes to the VIX. You can see when the index rises, but it doesn't necessarily mean futures, ETNs, or options aren't declining or stagnating.
Take advantage of S&P 500 options. That will give you exposure to the VIX index. You'll have access to measurements that imply near-term S&P 500 options.
The process requires significant investor rebalancing and calculation. You're also in a better position for following VIX if you have a big portfolio. A broad range of S&P 500 options can simplify replicating VIX accurately.
Wrapping It Up
I’m okay with the price dropping for a day. I’m okay with the price dropping for a week. I won’t sell due to short-term price movements, but only if fundamental factors change (such as security, regulation, or outlook on inflation and stores of wealth).
Remind yourself anytime you get into an investment that there is a greater than average chance you will see red at some point. There’s a reason that the phrase “Time in the market beats timing the market” exists. Yes, once upon a time I found it overly cliché and tacky, but the longer that time goes on, the more I identify with it.
Having patience and giving your investments time to reach their full potential will almost always beat trying to jump in and out of things at what seem like opportune times.I learned my lesson with panic-selling years ago. In fact, my issue with selling investments the second I see them start to fall (only to see them keep gaining value later) is entirely what caused me to develop the three criteria on whether I should sell or not.
Although my criteria may not perfectly cover your needs, I highly encourage you to establish a game plan ahead of time, preferably when you’re currently not emotionally tied to any of your investments. Know your long-term exit plan before you enter an investment, rather than trying to figure out an exit plan in the heat of the moment.
Your emotions, no matter if it’s stress because of losses, or euphoria because of extreme profit, almost always get in the way of logical decision making. Consequently, this means that your emotions will probably get in the way of making money: the whole reason you are investing in the first place.
Once you have true conviction in your investments, and focus on the long-term result instead of dreaming of overnight riches, the process becomes a lot less stressful.
Remember that panic selling crypto is a common trend in crypto market volatility. It's important to speak with a finance or tax expert before staking your bets on the crypto market.
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