The crypto market is posting double-digit percentage losses, with bitcoin (BTC) briefly falling below $30,000 on May 9, 2022 for the first time since July 2021. The overall market sentiment and turmoil rocking stablecoin TerraUSD (UST) and LUNA has many investors understandably worried. But that doesn't mean you should throw up your hands and run away from the markets.
So what should you do instead?
1. buy the crypto dip with dollar-cost averaging.
It's all too easy to get on the wrong side of a crypto trade when markets are fluctuating wildly, but that doesn't mean you have to sit there and watch your portfolio crash every hour.
Investors who have retained a reserve of fiat currency or stablecoins, or have expendable capital in their bank accounts, have the option to "buy the dip." This term, widely used in the crypto industry, refers to the practice of buying up a certain amount of cryptocurrencies when there is a significant downward correction in the market.
The idea is that dip buyers pocket a nice profit when prices return to their previous highs. This brings to mind the infamous sermons of stock trading legend Warren Buffett, who once said, "When there's blood in the streets, you buy."
While buying the dip can be done in a single trade, the most recommended strategy is to use what is called "dollar cost averaging (DCA)." This means breaking your reserve funds into smaller tranches and making multiple trades over time.
For example, let's say you have $1,000 in reserve funds. A good DCA strategy would be to divide the amount into five tranches of $200 or even 10 tranches of $100 and make trades with these smaller amounts.
The idea is that it is incredibly difficult to know exactly when an asset has bottomed out (the lowest price before reversal), so it is usually better to buy a small amount and wait to see if the price of the asset continues to fall, rather than spending all your money at once. If it does, buy a little more, and so on.
This way, you can usually get much better results than if you invested all your capital in a single trade - unless you were lucky enough to go all-in at the perfect time.
2. use indicators to find the best entry point
For investors who have a basic or advanced understanding of technical analysis - the practice of predicting an asset's price movements based on chart trends, indicators and patterns - it is possible to use certain indicators to identify when an asset has reached a bottom.
Of course, no indicator is completely infallible, but they can often give you a clear signal of when to buy a bottom.
One popular method is the Relative Strength Index (RSI) - a momentum oscillator characterized by a channel and a line that swings in and out of it. This instrument consists of two key elements:
- Overbought: When the indicator line breaks out above the channel, the asset in question is considered "overbought" - in other words, overvalued - and usually signals that prices will soon fall again.
- Oversold: When the indicator line breaks out below the channel, the asset in question is considered "oversold" - in other words, undervalued - and usually signals that prices will soon rise.
Although these two signals are effective on their own, they cannot always be used accurately to predict lows or highs, especially on lower time frames such as the four-hour, hourly, or 30-minute options. A better method is to use the RSI divergence strategy.
With the RSI, it should be noted that it usually follows a similar pattern as the price of an asset, i.e. when the price falls, the line of the RSI indicator also falls. However, it may happen that the two lines move in opposite directions. This is called RSI divergence and usually indicates the beginning of a trend reversal.
To identify a bottom, you need to see if the RSI line reaches a higher high while the corresponding price reaches a lower low. Ideally, the RSI line is near or in oversold territory on a larger time frame, such as the daily chart, to signal a strong reversal opportunity.
Below we see an RSI divergence on the daily chart of bitcoin (A), signaling a strong trend reversal followed by a price increase. Three months later, another RSI divergence appeared (B), this time in the overbought zone - a sign of a bearish trend reversal that quickly followed.
3. Diversify your investments across different crypto assets.
Just as it's nearly impossible to accurately predict the bottom of a bear market, it's also impossible to know exactly which of the 17,000+ cryptocurrencies will rally the fastest or have the biggest rally.
One way to hedge your bets is to use DCA on a number of different cryptocurrencies. This might mean you have to shrink your trade sizes even further, but by doing so you reduce your overall risk. Of course, it's not enough to randomly pick crypto assets and invest in them. You should first perform thorough due diligence on any crypto asset you want to buy, paying attention to the following:
- Previous all-time high: No cryptocurrency is guaranteed to return to its all-time high, but it can give you an idea of the asset's potential.
- Past performance: look at the asset's price history with tools like TradingView and see how well it has recovered from previous crashes. Does it correlate strongly with the rest of the market or regularly outperform other leading assets? Past performance is no guarantee of future price performance, but it will give you a rough idea of what might be possible.
- Upcoming project announcements: One thing that can contribute to an asset's recovery is the announcement of a major update or roadmap development. This can include things like a rebranding, the launch of a mainnet, or a new partnership.
4. Don't freak out
This may seem like a given, but it's not so easy to control your emotions during a bear market. In fact, this is often described as the most difficult thing to master when learning to trade professionally.
The famous American economist Benjamin Graham once said, "People who can't control their emotions are ill-suited to profit from the investment process."
An important step is to recognize that fear and greed are powerful motivators and often lead to making rash decisions that end in losing trades. Having a concrete plan in mind before placing a trade can make the difference between winning or losing. It can be as simple as, "If I see a bullish RSI divergence on the daily chart, I will invest X amount in the trade and take profit on Y."
Profit taking is another seemingly simple task, but incredibly difficult to master. Greed often causes people to stay in the trade past the profit-taking point, hoping that the asset's price will rise even further. This increases the risk of the trade going against you, especially if you don't set a stop loss.
The crypto market is incredibly volatile, and while you may be frustrated if you missed the opportunity to buy the dip this time, another crypto crash is likely on the horizon. Make sure you take profits, make sure you have some capital in reserve for crashes, and remember to keep your cool when the bears approach.