When the Commodity Isn’t “Real”
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This blog post includes:
- A quick glance at the psychology of cryptocurrency markets
- How to look at the market cap of cryptocurrency
- How to choose between trading and investing
Psychology of a Virtualized Commodity
This first article will focus on the basics of the market, especially in a highly speculative and virtual environment. Before we get into trading specifics or strategies we must review what trading is and understand the underlying psychology that guides it. The main thing to realize is that cryptocurrencies aren’t real; they are virtual.
This has a big effect on traders, similar to what happens with gambling (converting real money to a casino token worth the same value), using debit and credit cards for purchasing (physical cards, accessing virtual cash) and, lately, using your phone with tap features to pay for items (physical device connecting virtually to complete a virtual transaction). There is a disassociation from the hard-earned money we get from working jobs, and that can affect everyday decisions. Credit cards are one of the main sources of debt for people for a reason — people overspend because the money is virtual. In crypto trading and investing, people forget that they are using real money and may overextend a trade, or buy more than they need to.
I encounter the dissociation of physical and virtual every day in my line of work in the IT field. For example, people see a car mechanic and recognize the amount of work required to fix a car; they can see the mechanic get dirty, covered in oil, struggling to replace a broken car part. The same people see someone like me sit in front of a computer for an hour, click a few spots and type a few commands, and then they wonder why my hourly rate is similar to a mechanic’s. “You didn’t do anything but click a few things!” is a common comment.
The Market Cap of Crypto and Coin Amounts
A related stumbling block of virtual currencies is the numbers. The Canadian dollar amount likely won’t match up with the number of coins in the cryptocurrency that you are wanting to trade (e.g., $10,000 Canadian = 1 Bitcoin). The first mental action to take to get into the crypto marketplace is to break the association of one amount of coins being equivalent with another.
One very common decision for beginner traders is the following: Would you rather pay $10,000 for one Bitcoin, or $10,000 for 25,000 Ripple? The first thought is likely, “More coins are better.” The second thought might be, “What if Ripple gets to the same price as Bitcoin?” Then the third thought is, “Wait, I am buying $10,000 worth, so what does it matter?”
One basic site that shows you information on each coin, its price, and the number of coins in circulation is https://coinmarketcap.com/. This also gives a good index of prices over days (and years, for some coins). There are a few things to note on this page, but the first part of understanding the numbers is to check the amount of circulating coins. Circulating coins and price are what determine the market cap; the market cap is simply the current price multiplied by the current number of circulating coins. The market cap should only be used as an indicator for the following details:
- Determining the coin’s position in the entire crypto marketplace
- Gauging other coins in similar positions
Using the market cap to show us how well one coin is doing against other coins in the same market, taking into account the circulating coins and the price, shows us how realistic it is for a coin to double or triple in value. For example, for Ripple to go from 25 cents and get to Bitcoin’s value of $6,000, it would mean that Ripple’s market cap would have to surpass Bitcoin, which is unrealistic if Bitcoin remains the same price. Coins with a high market cap compared to the coin in the first position in the market are less likely to move at a high rate of speed, unless all coins move together.
Instead of comparing this coin of 25 cents to that coin of 25 cents, you should be comparing the circulating coins as well; hence, look at the market cap which incorporates both the current price and the circulating coins.
Comparing Gas to Augur is reasonable.
Bitcoin to Ripple is not reasonable.
If Ripple had the same market cap as Bitcoin, quick math says Ripple would be just over $2 dollars. For Ripple to be the same price as Bitcoin, it would mean the market cap of Ripple would be $246,187,800,728,289 — $246 trillion, which is 200 times the current market cap of the ENTIRE crypto space. Just to put into perspective, the entire world’s government debt was estimated at $63 trillion last year.
Am I Trading, or Investing?
There are many ways to trade and invest. They are similar; however, investing is generally long term with occasional trades, and trading is more short term with frequent trades. I use the term “trading” for if you trade a few times a month to multiple times a day, whereas “investing” could be once a month, or even once a year. A simple explanation on the types of trading and investing styles can be found on Investopedia.
https://www.investopedia.com/ask/answers/12/difference-investing-trading.asp
The important thing to remember when trading and investing is that you can buy and sell at any time. An investor may be a long-term trader that trades on a longer time frame; they don’t have to buy and hold on for a minimum amount of time, or buy and hold on forever. An investor should still have a set of rules to follow, just like a frequent day trader. The same indicators or strategies that apply to traders can apply to investors as well, just on a longer time frame.
The reason people trade more often is to compound gains on top of gains. This can rapidly improve your capital compared to an investor. It does mean that you are more exposed to volatility, and without proper risk management, you can also compound losses on top of losses. The risk is the same in an investor’s case, but for a trader, the risk is multiplied — by several hundreds when day trading. I will get into compounding and risk management in later articles, as I believe each are very important and must be done correctly.
Something to consider when choosing to become an investor versus a trader is how much time you have to handle and manage your trades. It doesn’t need to be a full-time job; it can be a simple 20-minute check-in every day, week, or month. A time frame is the amount of action and all the values the price was in a specific period in time. An example is in a one-hour time frame, a candle stick (which we will get into in another article) can show the price when that period started, ended, and all the time in between. The amount of time you can dedicate to trading should tell you which time frame you should look at in the following chart. These are just suggestions, and if you spend more time per day, you can of course look at and use longer time frames. If you spend little or no time per day, the only reason to look at smaller time frames would be to find an entry for a longer time frame. Here is my general guideline.
It is exciting to be able to trade and invest in crypto projects and coins; many companies and coins have huge potential for the future. There are always things to watch out for and learn before doing actual trading, as much as people want to dive in. I always suggest at least a month of research and checking out potential investments, and to never dive in with real money until you are comfortable. When I started, I threw in a small amount to get a taste of the action and waters. When I realized the potential of the market and the coins themselves, I dove in head-first.
Takeaways
In this article we looked at three main points for trading: the psychology of virtual commodities, how to use market caps to evaluate and compare virtual currencies, and whether you’re more inclined to be a trader or an investor.
- Cryptocurrencies are virtual and can get disassociated from real, hard-earned money, so use caution.
- Market caps are used to gauge coins placements against each other, taking price and current circulating coins into the same equation (i.e., you should not compare Ripple price to Bitcoin price, but you can compare market cap to market cap).
- Choose a trading or investing time frame to fit your style.
- Research and review everything before diving in. Know what you are getting yourself into before jumping!