The Mental Model You Need to Survive in the Wild West of Crypto
Photo by Cherise Evertz on Unsplash
Each time crypto gets juicy, I get a lot of requests from friends, family, and even random people on how to invest in cryptocurrencies. But for newcomers, this space can be scary. In a lot of ways, crypto is still the far west. Hence, I take it as my responsibility to make sure they don’t make the same mistakes I did back when I got introduced to that space because frankly, I did a lot of mistakes and they cost me a lot. If I can save you from doing them, it’s mission accomplished for me.
In this post, I will share with you 5 heuristics I wish I knew earlier on my crypto journey. Heuristics are mental models that allow you to judge a situation and make a decision quickly in the face of uncertainties. They are by no means iron-printed truth. Treat them with a pinch of salt. However, they are useful to facilitate your decision-making process and they will protect you from ruin.
What are the 5 principles you need to embrace to navigate the crypto market?
1. Crypto is a Ponzi
Yes, I know, that one is a bit rough. But actually, William O’Neil, one of the greatest investors of all time, had the same principles back when he was trading stocks.
“My philosophy is that all stocks are bad. There are no good stocks unless they go up in price. If they go down instead, you have to cut your losses fast” — William O’Neil
It is by no means a universal truth. There are a lot of incredible projects out there and I am one of the biggest fans of the blockchain community. But let’s be honest, the majority of so-called Altcoins are still quite scammy.
Since 2016, only 3 of the top 10 coins still remain in the top 10 and only BTC and ETH have seen meaningful adoption and usage for non-speculative purposes.
CoinMarketCap: 2016 vs 2022
If you want to thrive, it is important that you treat this asset class with caution. If you can’t maintain a critical view, you could well pay it out of your pocket.
This is why I believe that by embracing this heuristic, you will be able to remain more emotionally neutral, distinguish the noise from the signal, and take your profits when the time comes.
The principle that follows will dig a bit more into this idea.
2. You can never go broke by taking profits
In a bull market, everyone sits on huge profits. But they are on paper, meaning that no one has actually realized them as no one has sold their asset. But when mean reversal happens and prices go down, most people still never sell. As they never sell, their profits remain on paper. This behavior is as old as the markets and Jesse Livermore describes it perfectly in the book “Reminiscences of a Stock Operator” by Edwin Lefevre.
“The big money in booms is always made first by the public — on paper. And it remains on paper” — Jesse Livermore
You want to avoid being in this situation.
When to buy is always more exciting than when to sell. But it is the latter that will make the difference. Whatever happens, have an exit plan and stick to it. This doesn’t imply that you are gonna sell all your bitcoin and leave crypto forever. No. But it means that you understand that the market might be in an overextended state and that a reversal to the mean is likely to happen. Hence, you acknowledge that your best bet is to realize your profits and wait for more favorable conditions.
Don’t blame yourself for taking profits too early.
3. Never FOMO
If you spend too much time on Twitter, you will feel like everyone else is making some huge gains while you are left behind. This feeling is really dangerous as it can make you FOMO (Fear-Of-Missing-Out) into some shitcoin. Your biggest edge in trading is your ability to think clearly. If you get too emotional, you lose this edge. This is the highway to destroy your portfolio.
As a rule, never FOMO into a trade. If you start to become too emotional, go take a break for as long as you need as it is way more important to be emotionally calm and grounded than to miss a trade on a sketchy token. Don’t worry about missing opportunities, they are tons of good ones waiting for you.
4 Influencers are not there to help you
Following the idea of FOMO, beware of influencers. While there are loads of bright people creating and sharing quality content on the internet, there are also influencers leveraging their social media presence to strengthen their pockets at your expense. As a rule of thumb, you should be cautious about any advice given by influencers (until you feel they can be trusted), especially when it concerns “The next 100x coin that you must buy right now”.
“Pump-and-dump” schemes are quite popular in this space. It consists of influencers being paid to promote some shitcoin on their social media to create a buying mania. They then quickly unload their bags at huge profits leaving you and others with dust and sand.
Accept the idea that not all influencers are here to help you. Before you make any decision, think critically and do your own due diligence. You’ll do yourself a great favor.
5 Watch out for the FEDChairman of the FED: Jerome Powell
In its early days, crypto moved on its own. But as adoption grew, its correlation with the NASDAQ increased. Why? Well, as this asset class gained traction, the main actors driving the equity prices have entered this space and are now representing a high proportion of the actors in the market. Thus, crypto has become a liquidity-driven asset class.
Those tend to perform best during a risk-on environment. This occurs when Central Banks are providing liquidity in the system, either by lowering interest rates or by printing a ton of money.
At any time, you should have an idea of what the FED is doing to interest rates and M2 (money supply).
-Be more aggressive in a high liquidity environment that pushes investors to chase yield and move out of the risk curve (riskier investment for higher returns).
-Be cautious when the FED starts to tighten its balance sheet, and don’t try to fight against the wind. Develop patience in those moments.