Before we venture into trading Bitcoin and other digital assets, it is important to have a comprehensive understanding of the assets and technologies involved.
To understand this unknown territory, we will analyze in detail the components of a trade, trading styles and the role of technical and fundamental analysis in creating a comprehensive trading strategy.
As with stocks and other financial markets, trading Bitcoin and other crypto-currencies can be complex, involve a variety of components, and require some fundamental knowledge. Bitcoin was launched in 2009 as the first crypto asset and remains the largest crypto-currency in terms of market capitalization. But over the years, an entire industry of other digital assets has emerged, while also being tradable to make a profit. All other crypto-currencies are known as Altcoins, the largest being Ethereum.
There are many approaches in terms of how to trade crypto-currencies. To start trading them, it is essential to know the associated risks and the laws that may apply depending on the region, and the decision should be made accordingly.
This basic guide is not intended to promise profitability, however, it is necessary to understand much better how trading works in the market. Analyze before interacting with any asset, technology, business or individual because trading is and always will be a risk in any market.
Basics of trading
Bitcoin’s value is determined second by second, day by day, by a market that never sleeps. As an autonomous digital asset whose value is determined by an open market, Bitcoin presents unique challenges in terms of volatility that most currencies do not face.
Bitcoin trading can vary in scale and complexity, from a simple transaction such as cashing in a fiat currency like the US dollar, to using a variety of trading pairs to increase the profitability of the investment portfolio. Of course, as a trade increases in size and complexity, so does a trader’s exposure to risk.
Structure of a transaction
A transaction consists of a buyer and a seller. Because there are two opposite sides of a transaction – a buy and a sale – one will earn more than the other. Having a basic understanding of how the crypto-currency market works can help minimize potential losses but also optimize potential gains.
When a price is agreed between a buyer and a seller, the transaction is executed and a market valuation of the asset is established.
When there are more buy orders than sell orders, the price increases because there is a higher demand for the asset. In contrast, when more people sell than they buy, the price drops. In many exchanges purchases and sales are represented in different colors. This is to give the trader a quick indication of the state of the market at a given time.
You’ve probably heard the common saying in buy low, sell high trading. This phrase can be difficult to achieve, but it provides a basic representation of the intention of buyers and sellers in a market.
Simply put, if you want to buy something, try to spend as little money as possible. If you want to sell something, you try to get as much profit as possible. While this is generally a good wisdom to follow, there are several techniques in trading, an example would be the positions of long and short traders.
Long position: buying an asset and making profit be the basis of its rising price movement
Short position: selling an asset with the intention of redeeming it when its price falls below the point at which it was sold, taking advantage of a decrease in price.
Reading the market
For an unprofessional the market may seem like a complex system that only a specialist could ever hope to understand. The truth is that it all comes down to people who buy and sell. Market reading is the ongoing process of discovering patterns or trends over time, which the trader can choose to act on. In general, there are two types of trend: bullish and bearish:
📈A bullish market occurs when the price action seems to be steadily rising. These rising price movements are also known as pumps because the influx of buyers increases prices.
📉A bearish market occurs when the price action seems to fall steadily. These price movements are also known as dumps because mass sales result in a decline in the market.
Bullish and bearish trends can also exist within other higher opposite trends, depending on the time horizon you’re looking at. For example, a small bearish trend can occur in a broader long-term bullish trend.
Another market condition called consolidation occurs when the price is traded laterally or within a range. Usually, the consolidation phases are easier to observe in larger time intervals and occur after a sudden upward or downward trend.
Consolidation also occurs before trend reversals or during periods when demand is low and trading volumes are low. Prices are essentially traded within a range during this market state.
Technical analysis is a set of independent technical tools that allow investors to determine its subsequent actions. There’sa wide variety of indicators, varying in complexity, that a trader could use to analyze the market. So, we are going to look at some basic tools at the micro and macro level.
Market structure and cycles
Just as traders can identify different patterns in a few hours, days and months – they can also find patterns over the years of price fluctuations. There is a fundamental structure of the market that makes it susceptible to certain behaviors.
The market cycle can be divided into four main parts: accumulation, growth, distribution and decline. As the market moves between these phases, traders will continually adapt their positions. It is essential for a trader to know not only what role he is in, but also which trend dominates the market.
Price movements are largely influenced by whales – investment funds, banks and other such large corporations that hold a very large capital with which to trade. Whales, with their choices, decide the direction in which the market is oriented. They can change the downward trend into an upward trend when buying a large number of crypto-currencies and vice versa. Anticipating the intentions of whales, a trader can work jointly with them to make a profit.
The cycle of social mood
The psychology of traders plays – very often – an essential role in making the decision to sell or buy, and this side of human behavior has, even today, very many little-known and even unknown components.
This graph shows that social mood greatly controls the waves of the market. The market is made up of many participants who interact with each other and with society as a whole. Therefore, the collective level of optimism or pessimism in society is the state of mind that influences investors’ decisions. While one of the first rules of trading is to leave emotions aside, the power of the group mindset tends to catch on. The rise from hope to euphoria is driven by Fear of Missing Out (FOMO).
FOMO is a state of unease that people develop as a result of being exposed to too many external stimuli and cannot make a clear and assumed decision.
The period between euphoria and self-reassurance is essential to time an exit before other traders panic and start selling the asset. The philosophy of buy low is quite obvious, given that the best time for accumulation within the market cycle is during the depression period. The higher the risk, the higher the reward.
The ability to identify patterns and cycles in the market is crucial to have clarity from a macro perspective on the market. The micro perspective is also crucial in determining a trader’s strategy. Although, there are a large number of indicators of technical analysis, we will only go over the most well-known ones.
Support and strength
Two of the most used indicators of technical analysis are support and resistance, which refers to price barriers that tend to form in the market, preventing price action from going too far in a certain direction.
Support is the price level where demand is considered to be strong enough to prevent a continuation of a depreciation.
Resilience is the price level where supply is considered to be strong enough to prevent a further appreciation.
Support and resilience are key elements for technical traders because in many cases, these are the levels at which they open trades in anticipation of break-ins or corrections.
An influence on support/resistance levels is the fixing on round-numbered price levels by inexperienced or institutional investors. When a large number of trades focus around a nice round number – such as Bitcoin every time its price approaches a figure that is divisible equal to $10,000 – it can be difficult for the price to overcome this point, creating a level of resistance. It is also possible that when Bitcoin approaches a round figure it will grow rapidly in very little time.
This is proof of the fact that traders are easily influenced by their emotions and tend to resort to shortcuts.
Mobile media is one of the most popular and practical in the field of technical analysis. When calculating a moving average, a mathematical analysis of the average prices of a crypto-currency is actually done over a predetermined period of time. With the movement of the price there is also a movement up or down of the moving average.
- The purchase signal is given when, for the first time, the price of the crypto-currency is higher than furniture
- The sell signal is given when, for the first time, the price of the crypto-currency is lower than the moving average.
The method of graphical representation by candlestick allows to highlight the overall evolution of a period of time. This visualization of the market is one of the most favored by traders, as it can encapsulate more information than line or single bar charts. A candlestick chart shows four price points: open, close, maximum and minimum.
So how do we determine the potential of Bitcoin or a particular digital asset beyond or before its market behavior?
While technical analysis involves studying market data to determine trading strategy, fundamental analysis involves assessing the intrinsic values of assets through the study of economic and financial indicators.
How can one determine whether an asset is based on solid fundamentals rather than hype, exaggerated technology or worse – nothing? For the fundamental analysis of new assets, several factors must be taken into account:
Before investing in an asset, it is necessary to evaluate the integrity and capacity of the developers behind the project. What more projects have they developed? How dedicated are they? Since many projects are open-source, you may see this activity directly through platforms like GitHub.
The community is essential for crypto projects. The combination of users, crypto-coin holders and enthusiasts generates much of the growth of the digital asset.
3. Technical specifications
The basic technical specifications for a digital asset are: the choice of the algorithm network (security, uptime and consensus) and issuing characteristics (total value of coins in circulation, distribution plan).
While Bitcoin was launched to be an electronic currency, developers and entrepreneurs not only discovered new use cases for the Bitcoin blockchain, but also designed entirely new protocols to host a wider range of applications.
Liquidity is essential for a healthy market. Are there any popular exchanges that support a particular digital asset? Is there a healthy volume of transactions? Are there big stakeholders present on the asset market? If so, what is the impact of trading models?
However, generating liquidity takes time because a new crypto-currency may be active, but it may not have instant access to liquidity. Such investments are risky. If the volumes are low and there are few or no trading pairs available, you are essentially betting that a healthy market will eventually form around the project.
6. Branding and marketing
Most crypto-currencies don’t have a central figure or company that facilitates branding and marketing around their technology, leading to branding that might not have a precise plan or direction.
This quality can be seen as a manifestation of the technical specifications of a project. Despite what is written in the whitepaper or presented at conferences, what is the actual physical manifestation of the crypto-currency in question?
It is worth identifying all stakeholders: developers, block validators, companies and users. In addition, it is crucial to understand who the network administrators are, their role in securing the network, and how power is distributed among stakeholders.
Trading is risky
The risk is not uncommon. Like blood in a living body, it is present in any business and is a test for all market participants.
Risk management is also a significant aspect of trading. Before entering into a transaction, it is important to know how much you are willing to lose on that transaction if it is against you.
Trading is simply a risky endeavor in itself. It is almost impossible to predict with certainty any future activity in the market. At the end of the day, it’s important to make your own decisions, using available information and your own judgment, as well as making sure you’re properly prepared.
In addition, trading strategies can differ greatly from person to person, depending on preferences, personalities, trading capital, risk tolerance, etc. Trading comes with a significant responsibility. Everyone who seeks to trade must assess their own personal situation before taking a step towards the market.
Economists classify individual attitudes into three categories: with risk aversion, risk neutral, and risk-loving.
The decision to risk or to insure ourselves against the risk depends on two different considerations. The first is related to the pleasure of risk, since there is a pleasure or a pain that we want to feel. The second consideration is related to risk aversion.