Pfft. This is how you last the summer
Crypto Winter has hit. No crypto investor is protected from temporary wild price movements, but minimizing losses pays off in the end, says Mathieu Hardy, Chief Development Officer at OSOM.
No one likes to lose money, but temporary losses are just an inevitable part of investing. This is especially true if you have decided to invest in crypto. But even during the coldest crypto winters, there are ways to endure the summer.
Cryptocurrencies are arguably some of the most rewarding and volatile assets available to invest in today. The result of this volatility is that these assets can be very lucrative; but if you don’t know what you’re doing, this assumption can fall flat.
Not surprisingly, the sharp and prolonged falls often seen in the crypto markets result in losses for many investors. This is especially true for those who buy the top and sell the bottom or invest money they otherwise needed and are forced to sell at the worst possible times. Temporary losses due to “price discovery” and “black swan” events are essentially unavoidable. But they can be significantly limited and reduced by using appropriate risk management measures.
Industry tools – Mathematics
“Manage risks” is the golden rule for any investor or trader. The number one goal is to “stay alive.” In other words, avoid your portfolio going to zero. The best way to do this is to statistically compare the risk you take versus the reward you expect.
The best way to manage risk is to diversify.
Modern Portfolio Theory (MPT) dictates that you should not put all your eggs in one basket. In other words, investors should not focus on one particular asset, but instead spread their investments among a few of them. Not only does diversification reduce risk, but it can even do so without reducing returns.
It’s even intuitively easy to understand: a portfolio with two assets that has a compound annual growth rate of 200% and a downside variance of 20% will be less risky than a portfolio with just one of these two assets. Because although they look quantitatively similar, intrinsic properties make them different.
As a methodology, MPT enables investors to construct a portfolio from multiple assets.
Since your first goal is to stay alive, you should primarily protect yourself from the things that can kill you. For (modern versions of) Modern Portfolio Theory, it is semivariance. It is a measurement of data that can be used to estimate a portfolio’s downside risk.
Instead of trying to optimize your returns, you should primarily avoid losing money. It is therefore more interesting to use indicators such as semivariance than volatility since all positive volatility is desirable.
Crypto winter and negative volatility
You should only seek to protect yourself from the negative volatility, rather than the kind that is good for you.
If everything goes south and you manage to get out alive, how quickly can you get back to your portfolio’s previous all-time high? You can use the asset’s Wound Index to manage it.
The ulcer index has the best name in finance because everyone immediately gets it: any time spent below the “all-time high” is ulcer-inducing. No one likes wounds and everyone wants to return to previous heights.
You can use the Wound Index for different assets to compare how historically likely they are to get you out of a rut compared to other assets.
With this, you have the basic framework of a math-enabled portfolio: Diversified, managed for the risk of losing it all, and its ability to bounce back from previous downturns.
Cooler Heads prevail
As our explanations above show, rules-based investing is best, and emotional investing should be avoided at all costs. But you still have to be able to stick to your rules. Often, basic human emotions are the main cause of financial losses. Too often, the prospect of a “jackpot just around the next corner” is simply too tempting for investors to rebalance away from risky assets or to avoid overinvestment. The reasons are FOMO (Fear Of Missing Out), Bandwagon Effect, Gambler’s Fallacy or Confirmation Bias. All of these cognitive biases are likely to cause you to lose money.
However, passionate trading robots, artificial intelligence and other automated systems are not prone to hasty decisions. They can automatically minimize losses by closing positions when the fundamentals no longer make sense, calmly considering a number of factors. Computers don’t get attached to the investments, community and cool profile pictures. If you can keep yourself from undermining them, they give you a better chance of success.
Master your emotions in Crypto Winter
So while it’s always crucial for investors to master their emotions before diving into the market, automated systems can take on much of the complexity and stick to pre-agreed rules, cutting out the “human factor” almost entirely. All people need to do is resist selling the lows and buy the highs.
A service like OSOM Crypto Autopilot, a crypto portfolio optimizer, is designed to help investors achieve this kind of monotonous growth with a highly diversified portfolio without overcomplicating matters with cognitive bias.
Autopilot’s AI-powered algorithm automatically tracks and finds opportunities among 200+ cryptocurrencies, rebalancing when necessary for optimal diversification. So you can decide what part of your periodic investments you want to allocate to crypto, set up a standing order and let it manage everything. You then only need to check in on AI when you have reached the desired time horizon.
Regardless of experiences, styles and practices, traders and investors should always strive to use all available tools at their disposal. The only way to never lose is to not play at all. But it’s also the only way to never win, and true mastery comes from the ability to prepare for the worst case, assess risk and mitigate it.
About the author
Mathieu Hardy is Chief Development Officer at OSOM and is based in Brussels, Belgium. Mathieu trained as a cultural anthropologist with a good dose of macro and behavioral economics. Curious about how the digital realm offered a new playground for the social sciences, Mathieu began working in IT change management and quickly turned to digital business model innovation. At OSOM, Mathieu found many opportunities to leverage technologies to rethink business models for a more human-centered economy.
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