Even good trading and investment strategies can lead to portfolio losses if the basic rules of money management are neglected. In addition to the basic rules typical for investing and trading any assets, the crypto industry is characterized by a number of additional rules that are meant to reduce losses. Let's consider these recommendations today so you can enhance your crypto trading performance and benefit from any situation on the market.
Importance Of The Position Sizing
To understand the basics of money management, it is important to repeat the axiom of the market that no analyst forecast, paid VIP channel signal, or own analysis can be a hundred percent true every time but only represent a greater or lesser probability of events developing in a certain way. Users who keep statistics of their trades may notice that even the best working crypto trading strategies have a certain margin of error. For example, if nine out of ten trades within one strategy are closing with a profit and one is losing, the user's primary concern is not to get into such a trap of periodic inaccuracy with excessive or even all of the capital.
What can be done to prevent this? First, it is recommended to completely eliminate the approach briefly described by the phrase "all in". Having tested a trading strategy on small positions and noticed that it works and brings profit, traders are tempted to place a similar order for the whole deposit and finally make a good profit.
There is a chance that trade placed with the whole deposit will be unsuccessful. The losses incurred on such a trade will exceed the profits of all previous small trades and all the work done on the trading strategy will turn out to be in vain. It does not matter that a trade opened with the whole deposit can turn out to be successful several times. Such random successes without a well-thought-out crypto trading strategy will lead users further down the road of errors, and a big loss will be just a matter of time.
A set of positions of equal size within one strategy is considered to be the recommended approach. In this case, an unsuccessful trade is no longer an event or a tragedy, but an expected event the user is ready for.
What Part Of The Deposit Can Be Allocated For A Trade?
There is no single answer to this question because the decision depends on the individual situation of each portfolio, its size, and the riskiness of the assets of interest. Here is a simple guideline: for spot crypto trading not more than 1/10 of a portfolio per position, for leveraged trade positions the above value should be reduced by the leverage value. Thus, for high-risk trades with 5-10x leverage and above, the position size can be as little as 0.5-1% of the trader's portfolio.
When it comes to long-term crypto trading, the rule of no more than 1/10 of the portfolio per position will also be true for major altcoins in terms of market capitalization. The only exceptions may be the flagships of the BTC and ETH sectors, whose share in the portfolio may be significantly higher. The share of small-capitalization and new riskier projects in the portfolio should be extremely small because the crypto space is characterized by an extremely dynamic rotation of technology trends and popular projects.
A service that records the historical market capitalization of blockchain assets helps to visualize what may happen to most projects over time. Most of the coins and tokens of the past years that once topped the list will not be at all familiar to beginner traders, being on the "margins" of today's crypto world.
Understanding Crypto Portfolio Diversification
One approach to portfolio capital allocation is to buy a diverse range of assets representing different sectors of decentralized solutions: systems projects, exchange tokens, projects running on DAG and other blockchain alternatives, decentralized file storage, data and computer capacity markets, DeFi, content, and video hosting platforms, DAO, Metaverse, and NFT platforms, Internet of Things, decentralized identity, data encryption, and many other sectors.
It's hard to call a balanced portfolio that contains assets from only one industry, or different industries are represented by projects from the same blockchain-based ecosystem. Even a well-diversified set of assets by industry would be risky if it is overly tied to only one blockchain. If all of a user's assets represent a single ecosystem, the risk of the entire portfolio collapsing in the event of problems with the main ecosystem coin's network will increase significantly.
The notion of diversification in crypto trading broadly refers to many types of diversification: diversification of technology sectors, diversification of blockchains and ecosystems themselves, diversification of DeFi-platforms and centralized exchanges, diversification of software and hardware that work with blockchains, and, last but not least, diversification of how cryptocurrency is stored.
As we often repeat in our articles, there are risks in any financial operation. And the main task of an investor is not to refuse risk in general, but to choose a decision – to what limits it makes sense to take this risk. In any type of investment, it is necessary to be able to determine risks in advance and correctly. In other words, it is necessary to understand what potential profit we expect and what losses we are ready to accept. Also, all of the above recommendations will not produce results without systematic trading, meaning keeping records, calculations, and analysis of all open positions.