Crypto Risk Management vs Traditional Trading
Risk management for cryptocurrencies differs significantly from the traditional leverage trading risk management and strategies found in more common forms, such as the Forex Market. The game isn’t as simple as calculating lot sizes and setting a stop-loss. The people investing in crypto predominantly do not have the same level of maturity or sensibility to abide by the basics, either.
When you throw in the additional complexities of trading Bitcoin and altcoins, such as the increased volatility and trading facilities, you find yourself with a recipe for disaster.
The Leverage Beast
Leveraged trading of cryptocurrencies is an entirely different beast. The facilities to leverage your positions average 5-10x across most platforms and can reach 50x - 100x leverage on other platforms. This immediately creates a dangerous environment, considering that most crypto traders and investors lack a clear understanding of what they’re doing.
The Common Approach (and Problem)
It goes like this.
Deposit money into an account, activate the maximum leverage attainable, execute a trade and place it with blind faith until a profit is made or price hits your liquidation level.
I have identified a significant issue in crypto, which is that people often use the entirety of their capital for a single trade, whether it's spot or leveraged.
When it comes to leveraged positions, being liquidated means losing everything and having nothing less, which is an insane concept when you think about it.
Let me explain — being liquidated implies that the market has moved against your position to the extent that your entire investment is wiped out. People actually do this.
Losses Are Normal, Liquidation Shouldn’t Be
As any professional and successful trader will tell you, losses are a regular part of a trader’s career. They’re unavoidable; you will always encounter them.
We’re human. We’re not robots and will always be prone to errors and faults. What makes us successful traders is our ability to weather and survive when these losses arise and not lose our livelihoods in the process.
With this reality of trading in mind, it should help reassure you that suffering losses or seeing your liquidation level met is no indication that you are a bad trader. That will only ever be the case if you let that liquidation level be triggered at the end of your time, and the money you have.
Capital Management: The First Step
As an intelligent and successful trader, your goal is to manage your capital effectively. I will break this down for spot buying later.
Let’s say you have $10,000 to risk on crypto leverage trading. Before even considering executing a trade, you must immediately ask yourself if this is money you can afford to lose.
If it’s not, you must reduce that capital immediately. Find a number within the total amount of capital at your disposal that you know you will not lose sleep over, whilst it’s in the hands of the market, or lost completely with a bad trade.
The number you can comfortably lose the entirety of is the number you should invest and trade with. This applies to both spot and leverage, which is the key to an unemotional trading experience.
Risking Per Trade
Once you have found this number, you still do not risk it all per trade, no matter how strong your conviction, belief, or what the crypto influencer, like [specific influencer name], on YouTube or X is telling you.
The key is to risk no more than 5% of the capital you’re comfortable losing the entirety of when it comes to cryptocurrency leverage trading.
If you’re applying higher multiples of leverage, your successful trades will accumulate vast sums quickly. If you’re not confident you can achieve this, then you shouldn’t be risking the entirety of your net worth in the first place.
Trading Is a Game of Survival
Remember, trading is not a game of winning; it's a game of survival. If you lose everything in one trade, there won't be a next trade.
Therefore, always ensure you have sufficient capital left in your account, as prices will eventually turn against you.
Applying This to Spot Trading
The same principle applies to spot trading crypto. Once you've identified the amount you’re willing to lose comfortably, you’re ready to start investing. However, remember that it's crucial to have a plan in place.
The $100K Example
We will use a larger number for this example.
Let’s say you have $100,000 to invest in Bitcoin or various altcoins. Most people will immediately look to invest the entirety of this at one price, usually with the intention of making significant gains quickly.
Before they know it, they’re unintentionally trapped as long-term holders, with the entirety of their capital in the hands of the market, watching in disbelief as it slowly depletes. Too scared to close it out and retrieve what’s left in case it recovers, and lacking any fresh capital to buy cheaper.
Many crypto traders struggle with the inability to refrain from investing money in the market. Whatever they have on hand, they throw it into the market, anywhere.
Instead, just like leverage trading, the capital should be segregated into equal chunks, with 25% of the total capital at hand invested in each buy, for example. There’s no set rule to this; we do not use a specific percentage formula ourselves. Instead, we opt for an even more straightforward route; we do what feels best to us emotionally.
The Rule of Thumb
There’s a general rule of thumb. The higher we invest, the less capital we risk from our total amount of fiat. The lower we invest, the more sizable the position, as the price has less downside to go against us.
For many crypto investors, a -5% dip from all-time highs is a discount. For us, this is financial suicide.
Always Keep Capital Aside
The key is always to ensure you have capital in your account in the event prices go against you, which I can assure you, at some point, they will.
A Real BTC Example
Let’s say you want to buy BTC at $60,000 per coin. You understand this may not be the bottom, and the price could still drop to $30,000, in line with your analysis. Price finally reaches your target, and you have $100,000 in your account.
Knowing that this is far from the bottom and you have understood the potential downside risks, you would want to follow the formula of investing 25% of that $100,000 at the initial level.
You now have $25,000 invested and $75,000 remaining. The price may fluctuate for a while, indicating that it will stabilise. It could then quickly sweep towards $55,000, allowing you to build a position with another $10,000 in this range.
You’ve now positioned yourself and dollar cost averaged with a total of $35,000 invested, ranging from $60,000–$55,000 per Bitcoin.
With a solid position and $65,000 still in fiat at your disposal, this serves as your security measure. You have now found a perfect balance of investment and security.
The Upside Outcome
Should the price double from here, you will have a profit of $35,000. Bringing your total balance up to $135,000. You have not doubled your portfolio, but you have doubled your investment.
This constant pursuit of trying to flip the portfolio is what leads many to gamble everything for quick riches. You will face this dilemma when you have successfully invested; you will wish you had risked it all, and perhaps even buy more on the way up to try to maximise gains.
Everyone always looks up, but never looks down.
The Downside Outcome
Now let’s look at the opposite outcome, which you will likely be no stranger to experiencing.
In this outcome, Bitcoin collapses to $30,000. Your initial investment of $25,000 at $60,000 per BTC is now down 50% and worth $12,500. Your second entry at $55,000 is now down -45.45% and worth $5,455.
Although moderately painful, your investment is still worth $17,955 from an initial investment of $35,000.
The Innovator’s Advantage
Here’s the best part: you were a sensible Innovator, following our risk management principles and crypto strategies, you kept $65,000 in fiat aside.
You still have a total of $82,955. You not only have significantly protected yourself on the downside, but your portfolio damage looks minuscule because your fiat is protecting you with each decline.
You have more fiat aside, unexposed to the crypto market, than what you have in the market; your protection mechanism has not only saved you, but it has also given you leverage.
Positioning for Recovery
You understood the risk of BTC going to $30,000 and ensured you were cash-rich in preparation for the worst. Whilst everyone else is holding in pain and praying for a recovery, you’re the winner, in a position to now benefit from that recovery.
You now invest another $35,000 at $30,000 per BTC. Your total investment is now $70,000.
You still have $30,000 set aside in the event that the price breaks even lower than you anticipated.
It’s your lucky day! Price bounces back to $60,000. You not only have recouped your initial investment to breakeven, but your secondary position, from $30,000 per BTC, is now up 100%.
Not only have you recouped the capital from the buys at $60,000 per BTC, but you’re also back in a profit of $35,000.
Your Options at This Point
You then have the option to hold the first position in case the price rises, knowing that the second entry will yield a double the percentage profit of the initial entry at $60,000 per BTC.
Or, you can close out the ‘bad’ buy entries and recoup the capital, leaving the $30,000 per BTC buys to run in a clean profit.
The Innovation Markets Edge
This is the beauty of what we do at Innovation Markets. We position ourselves and our members to benefit from both sides of the market.
With our cryptocurrency-tailored strategies, you’ll be able to view the market and profit from opportunities most other traders find themselves suffering from.