Studies have shown that rapid news cycles, the entry of institutional traders, and the emergence of derivatives markets can contribute to volatility in markets such as the stock market and the cryptocurrency trading market. For the latter, speculation, low barriers to entry, and round-the-clock trade can all contribute to levels of volatility not often seen in traditional financial markets.
Here we talk about some of the risks that cryptocurrency investors and traders can face, how to understand volatility in the crypto market, and trading strategies to lower your overall risk.
What Are Speculated Risks in Trading?
Price increases and crashes can occur at any moment and for a variety of reasons. However, you can limit your losses by understanding the risks you face in trading. Here are four major risks that come with crypto trading
Legal risks occur when the laws of a country put restrictions on different types of cryptocurrencies. If you have already invested a large amount in crypto and it becomes illegal in your country, that can represent a huge loss to you. One such case was recently seen in North Carolina and Texas when the government issued a cease and desist order to Bitconnect due to increased cases of fraud.
Credit risk refers to theft and fraud in the crypto market. This risk occurs due to technical errors or hacking of the software involving trades; it can make a huge impact on the market by crashing it completely. Credit risks also arise if the debtor is unwilling or unable to pay. Wisebitcoin’s cloud exchange uses enterprise-grade security to secure your data and assets, meaning there is a low chance of having your information or holdings stolen.
One of the most frequent risks seen in the crypto trade is the price volatility of coins. It is difficult to predict the market value of a given coin even a few minutes into the future. Therefore if you invest in any token or asset, you must be aware of the potential consequences.
This occurs when an investor cannot buy or sell a specific token or asset quickly enough because there isn’t enough available trading volume on the exchange to facilitate a trade with another buyer or seller. Many exchanges try to overcome this issue by providing deep liquidity; Wisebitcoin, as one of almost 300 cloud-connected trading platforms, provides unprecedented levels of liquidity, making it a favorite among traders.
Trading Based on Volatility Patterns
Volatility is not necessarily a bad thing. It can be healthy and shows how responsive the market is to news developments, company and industry updates, and general macroeconomic sentiment.
Here are a few tools and strategies you can use to plan trades based on observed volatility technicals in the market.
On-balance volume calculates the overall positive or negative flow of volume of a token over time. Up volume measures volume available when prices are rising, and down volume measures volume available when prices are falling. Rising on-balance volume means more buyers are willing to enter the market. This will drive prices up. A falling on-balance volume indicates that selling is outpacing buying, so prices should fall.
This technical indicator measures whether a token or asset is locked in a trend. It measures whether prices are hitting new highs or new lows over a certain period. Using the Aroon indicator, investors can determine if and when a new trend is expected to begin. If an uptrend is expected to begin, it would be a good time to buy. If a downtrend is expected, it would be a good time to sell.
The MACD or moving average convergence divergence indicator helps identify the direction of a trend, as well as the strength of the trend. A positive MACD indicates an upward trend. A negative MACD indicates a bearish phase.
The RSI or relative strength plots recent price gains against recent losses and can therefore be used to measure trend momentum and strength.
RSI is most commonly used to measure whether an asset or token is overbought or oversold. An RSI over 70 means an asset is overbought and could start to decline in price, with an RSI below 30 indicating the opposite.
RSIs can also be used to predict divergence. If the RSI is moving in the opposite direction of the price (falling RSI and rising price or rising RSI and falling price) then this means that the trend is weakening and will likely reverse.
A final use of the RSI indicator is to calculate support and resistance levels. Upward price movements will usually accompany a rising RSI above 30, with the potential to reach 70 or beyond. Downward price movements will usually accompany a falling RSI from 70, reaching down to 30 or lower.
Strategies to Reduce Risks While Trading
Here are some strategies to help you manage trading risks.
- Invest what you can afford to lose
To minimize trading losses, you should invest only the amount you can afford to lose. Before investing, you should be mindful and think about the consequences you can face as there can be both profits as well as losses. If you are a beginner or first-time investor, you should not invest more than 10% of your net worth in crypto assets.
The most crucial thing to do before starting your trading journey is to research the coins that interest you to assess risks and upside potential. As a novice trader, you should never go for an unknown coin since they tend to carry higher risks. It is better to invest in popular and well-known coins when starting your trading journey.
One should not invest without checking the current position of the currency in the market. It is important to know the best time to enter the market, and also plan your exit strategy. Make your exit once you have maximized your earnings or achieved your predetermined gains.
Research and then invest in a variety of tokens and assets. For example, you may wish to invest in a few high market cap tokens, a few DeFi tokens, and a few projects such as off-chain scalability or interoperability projects that have real use-cases. This way you can catch waves of organic growth as different projects and sectors develop and the relevant tokens for those projects and sectors appreciate in value.
- Understand the risk/reward ratio
The next way to minimize losses is to understand your risk-reward ratio. This is a ratio that compares the risk with the average rewards you can earn from a cryptocurrency.
For example, a risk/reward ratio of 1:3 means that for every $1 invested, the expected return is $3. Higher returns are associated with higher risk. An appropriate risk/reward ratio is considered to be roughly 1:3.
This ratio helps investors understand the profits and losses of investing in a coin to help them avoid investing in coins that have no real value or utility.
Additional trading strategies that can help you maximize your ROI in the crypto space include:
- Dollar-Cost Averaging: Investing a fixed amount of money (or purchasing a fixed amount of a token or asset) at regular intervals irrespective of price.
- Day Trading: Entering and exiting positions on the same day to try to earn returns on price fluctuations during the day.
- Swing Trading: Trading over the course of a few weeks or a month by buying low and selling high.
- Trend Trading: Opening and holding positions for longer periods of time, usually at least a few months.
Further details on these strategies can be found in this post about crypto trading strategies.
Wisebitcoin has all the go-to information you need to know if you’re starting as a trader. Check out our blog for access to the latest trends, upcoming announcements, and industry news.