- The recent rally of Bitcoin from US$11k to ~US$19k has made it a talk of the town amongst market participants.
- While Bitcoin’s rally has enabled some investors to become millionaires in a very short span of time, there is much more to this than meets the eye.
- With crypto being a highly volatile space, investors can minimise the overall volatility of the portfolio by achieving optimal asset allocation.
- Fluency in Technical analysis and smart use of leverage can help investors in achieving a better risk-adjusted return from Bitcoin investing.
- As the cryptocurrency market is open 24/7, it calls for a constant check every now and then.
- Investors can use Bitcoin futures to hedge their positions against sharp market price dips.
The COVID-19-driven uncertainty seems to have set a perfect stage for ‘Bitcoin boom’ amidst investors rush for save haven assets. At a time when investors are flocking to join the Bitcoin bandwagon, it appears imperative for crypto enthusiasts to be fully conversant with the ins and outs of Bitcoin investing.
Cryptocurrencies, especially Bitcoin, have recently become the talk of the town. Bitcoin’s recent rally from US$11k to ~US$19k has caught the immense interest of not just astute and renowned investors but also retail investors/traders.
Without a doubt, this rally must have enabled some investors to become millionaires in a very short span of time. However, there is much more to this than meets the eye!
While the potential of crypto space to create millionaires in no time can be eye candy for new investors, one need not neglect the luck factor and elevated risk levels driving those fortunes. It is very likely that these millionaires can be way less than what retail investors assume looking at those enticing headlines. However, a lot of these novice investors still get carried away with the hype.
So, are we saying that an investor should altogether avoid this space? No. All we are saying is Bitcoin, or the lucrative crypto space is highly volatile, which is one of the main reasons it is widely used for speculation and quite less for virtual payments. Consequently, investors need to be extra cautious while investing their hard-earned money in digital currency.
Here are some crucial tips for investors to help them not get carried away with all the noise buzzing around:
Hunt for Optimal Asset Allocation
Bitcoin is the epitome of volatility. The volatility that the crypto space portrays is unmatched by even the riskiest small caps of the stock market. To put it in perspective, the last 14-day average movement of Bitcoin is above US$800, which is over 4 per cent daily move with respect to the current market price of US$18.8k.
However, Bitcoin has been rising continuously from US$11k since October, making the realistic average move even more erratic. One good practice for investors can be to minimise the overall volatility of the portfolio by achieving optimal asset allocation. It requires an investor to create a portfolio with an ideal combination of volatile and more stable assets as per their individual risk appetite.
Chase Fluency in Technical Analysis
Cryptocurrency is a space where the fundamentals can change too quickly, often before an investor could analyse and react. For instance, when PayPal announced the acceptance of cryptos as a payment method across its 26 million merchants, it fueled an unprecedented rally in Bitcoin that is continuing to date.
Those who missed the development or were not fast enough to gauge Bitcoin’s upside potential might have been on the sidelines during this one-sided rally. However, had they been tracking the price charts, they would have identified some breakout levels on the charts to enter the rally.
Simply put, fluency in technical analysis can help investors efficiently manage positions with respect to the change in the trend, momentum and volatility.
Make Smart Use of Leverage
Trading on leverage is not something new for the financial markets. While traders see the potential reward on the leverage, they usually undermine the associated risks. A perfect analogy would be, “Leverage is like a two-sided sword, its good in the hands of a skilled warrior while it may cut an unskilled one.”
To put it simply, a mere 10 per cent move in Bitcoin (which is not rare) against the preferred direction can wipe out the entire trading account on 10x leverage. Hence, it is imperative for investors to select the right leverage level based on their individual risk tolerance, experience, and comfort level.
Be Cognizant of Market Mechanism
The entire crypto space is unregulated with no intervention by the government or any other regulatory authority. While it may seem to be more of a blessing to some, it appears to be problematic for the masses.
As the market is not regulated, there are no circuit limits in place that halt the erratic price move beyond a pre-defined limit. During March 2020 meltdown, the circuit limit mechanism prevented the world stock markets from falling beyond a specific limit in a day. Due to the absence of these circuit limits in the cryptocurrency market, Bitcoin and other digital currencies can move 10 per cent or more, easily in a day.
What amplifies the above problem is that the cryptocurrency market operates 24/7, which calls for a constant check every now and then.
Remember, You Can Also Hedge Your Bitcoin Bet!
Hedging, in its basic essence, refers to an attempt by investors to reduce the risk of an existing position by taking another position in the alternate asset. While appropriate hedging in the investment space requires a deep understanding of the concept, the time and effort spent can pay multifold in the future.
The introduction of Bitcoin futures has made it possible for investors to hedge their positions against sharp market price dips. However, it is instrumental for investors to have a proper risk management plan in place before entering the futures market of Bitcoin.
It is hard to neglect that the legendary investor Warren Buffet, who once quoted derivatives as “Weapons of mass destruction”, has made billions of dollars from derivative contracts.
Remember, while we have seen many “rags to riches” stories in crypto space, there are far more blown up stories as well that are often not highlighted. This leads to an illusion of cryptos being “easy money”. Hence, safeguarding from risks is of paramount importance.