7 Steps to Manage Risk when Trading Crypto

Crypto trading if done right can be extremely lucrative. In 2017 some crypto markets produced gains of +10,000% ROI. Unfortunately, most market participants tend to be “last minute shoppers” and chase the highs after the fact and end up losing +80% of their portfolio value. 

Time and time again we see the same market cycles on bitcoin and when prices are at peak euphoria we keep seeing the same mistakes being played out. If you find yourself completely rekt or are just getting into crypto, here are 7 simple steps to help manage risk.

#1: Start off with small size and move slow

During market cycles, the majority of participants tend to rush in at the last minute at the highs before the trend reverses. Most folks who hear about crypto and didn’t invest have a breaking point where they see ridiculous gains and regret not buying in… once this point is reached, they’re often overcome with FOMO (fear of missing out) and dive head first into the pool without first checking to see if there’s water.

If the markets gained +10,000% in a short period of time, chances are you’ve already missed out and are best waiting for the lows of the next market cycle. The problem is that most noobs who get excited about crypto want to rush into it full on. Before you can run you must first learn to walk. 

Many beginners tend to lack patience and think that they suddenly know more than they do. Peak market euphoria also comes with hubris, where complete noobs will even start selling crypto courses to profit off the hype… it’s the blind leading to blind and the end result is everyone getting rekt. Bear trends are cleansing because they teach patience and humility. If you survive then you will have acquired a wisdom that only experience can teach. 

Here’s an example of people’s reactions at the highs when a crypto trader Loomdart decided to take profits. 

Most people are ignorant of their own lack of knowledge. When you’re just starting off it’s important to realize that you know very little and are at the bottom of the food chain. If your plan is to make profit in the crypto markets, you should realize that you’re going up against seasoned veterans, whales and sharks. Just because you do a few air drills and get your white belt in Karate doesn’t mean you can go fight in the UFC unless you enjoy having your a$$ kicked. 

The worst thing that noobs can do is blindly follow shills on social media without knowing what it is they’re investing in. If you do this and lose money, you have nobody but yourself to blame. Taking full responsibility for your trading and investment decisions is the first step towards being profitable. 

Before you risk serious capital you should make it your #1 goal to learn as much as you can about crypto. There are many ways to lose money, including user error, hacks and scams so due diligence is a must. 

Learning to trade crypto is like any other skill, you should start off with small size and move slow before going in heavy. Theory and practical application are completely different. Even if you think you have a grasp on technical and fundamental analysis, without direct experience you won’t know how to handle emotions. Trading is likely 20% knowledge and 80% emotional intelligence. You can have pretty charts, good predictions and still be a horrible trader if you don’t master the mental game of self-control. The most profitable crypto traders and investors are the one’s who cultivate patience. 

#2 Always Have a Plan

Step #1 is about learning the rules of the game… once you have a clear understanding of the rules you can build strategies around them. When trading or investing, it’s important to have a game plan. Strategy is the difference between random degenerate gambling vs professional trading. 

The markets are in a constant flux of probabilities and possibilities. There are no absolutes when it comes to trading so planning for both possible outcomes allows you to be prepared no matter what. The traders who take the most damage are the ones who think in absolutes and are stubborn about being “right”. 

What kind of trade set-up are you going for? Is this a bounce play, a breakout/down trade, a longer term accumulation play, scalping, arbitrage etc? If you don’t know any of these trade setups then you have more to learn and need to go back to step #1. 

 

#3 Learn to Trade the Spot Market Before Using Leverage

Spot markets consist of simple buying and selling of any asset. Leveraged trading allows you to increase the size of your trades by using a deposit as margin. Every new trader should be consistently profitable in the spot markets before even considering leveraged trading.

The top cause of loss amongst crypto traders is liquidation from using too much leverage. Unlike the spot markets where you can buy a coin and baghold as a “community member”, getting liquidated means you lose your entire deposit. You will not be left with any crypto trinkets and souvenirs to show your grandchildren (unless you screenshot your liquidation). 

Using leverage will amplify your gains and losses. It can be especially good for day trading or scalping smaller price ranges but just make sure you know what you’re doing. 

#4 Position Size your Trades

Position sizing is my preferred method of risk management. Consider your trading career to be a marathon and money is your water. If you sprint and chug all your water in one shot then you wont last long.

Many traders and investors jump into the fire by going “all in” way too fast. If you went in too heavy at the 2018 highs then you have no dry powder left to buy anything at lower prices and are probably suffering through a +90% draw down. When prices are low, market sentiment tends to shift towards the negative and volume dries up because there’s no money left to buy. The cycle reverses once new money enters into the market and prices start making higher lows again. 

During bear trends it’s important to be very conservative with your capital and save most of your ammunition until extremely low prices or confirmation of a reversal.

The only thing worse than going “all in” too fast, is going into debt. We often hear horror stories about people mortgaging their house or maxing out credit cards to buy crypto. If you think bagholding a pile of worthless shitcoins is bad, or even getting your account liquidated, then imagine having to make monthly payments with interest even after the damage is done. 

#5 Take Profit and Stop Losses

It’s generally a good idea to scale out profits along the way on winning trades and to minimize losses by cutting out duds. Your profit targets and risk management strategy is entirely based on your style of trading.

If you’re a longer term investor then you may decide to position size and average down during accumulation and hold for substantial multi-year gains. If you’re trading on leverage measuring risk to reward then you’ll likely have a hard stop and clear take profit zones. Multi-week swing trading on spot can use a combination of both approaches. 

Another thing to keep in mind is that stop orders can also be used against you. There are many instances of “stop order hunting” with whales pushing the price past support/resistance to trigger a cascade of stops. When this happens, your order may not execute at the trigger price but instead close you out at the worst possible price point. If you’re in crypto full-time and can quickly access your accounts, using a mental stop and alerts can help avoid this situation. 

#6 Trade in Fiat when Prices Are High

Most of the smaller altcoin markets are paired against BTC, so it’s popular amongst crypto traders to use BTC as their dry powder. Trading altcoins at the right time can be a great way to increase your stash of bitcoin.

That said, this strategy only works during accumulation or a healthy bull trend. If you suspect the price of BTC will continue rising then keeping your profits in BTC can compound your returns. On the other hand, when the price of everything is too high and all the entire crypto markets are hyper correlated then keeping BTC as your base collateral can be disastrous. 

During crypto bear trends it’s often best to use USD or other liquid fiat pairings as your ammunition until evidence of a new bitcoin accumulation cycle. Using a depreciating asset as your collateral can magnify your losses. When doing this, one must manage counterparty risk due to keeping more money on exchanges. 

Another major risk are the tax implications. Many traders sold BTC for altcoins at the end of 2017 incurring a taxable event in several jurisdictions. If they didn’t convert those altcoins into USD before the drop then chances are high that they didn’t have the money to pay the late 2017 tax gains. 

#7 Lock in Hard Profits and Diversify 

In the event of making life changing amounts of money, it’s generally a good idea to cash in some of your chips to lock in hard gains. This means pulling money out of the crypto markets entirely and diversifying it elsewhere. If you manage to do this then you’ve already won the game. 

Paper gains come and go, so if your portfolio grows to a point where it can seriously better your standard of living then you have the ability to lock that reality in. Playing around with digital ones and zeros means jack shit if it can’t improve your quality of life or ability to help others. Be careful with insatiable greed. When in doubt, the middle path is often the best path. Completely going “all out” of bitcoin would be another extreme that can lead to opportunity cost. Having different capital buckets of long vs short term holdings can be a win/win approach. 

Another key benefit to locking in hard profit is that it can help take the edge off of your trades during the bear season. If you pull out enough money to retire then trading can become a fun hobby, just like playing a game. Being relaxed about your trades and not needing the money to “pay bills” can give you an emotional edge over traders who are constantly stressed out.

Rocky

Crypto trader and investor. My preferred style is swing trading and longer term accumulation plays. I help coach traders and share my trades over at skillincubator.com
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