Crypto Trading 101: Understanding the Market Psychology 加密货币交易101：市场心理学
How will investors’ fear or optimism affect the financial market? 投资者的恐惧或乐观如何影响金融市场？
Back in the days, fundamental analysis was the most used analytical method to market performance. Fundamental analysis is a method of evaluating an asset by researching on related economic, financial and other factors.
Financial strength, profitability, competition, macroeconomic factors and industry conditions are used to determine its value and whether it is overvalued or undervalued. Value investing is an investment strategy most commonly associated with fundamental analysis.
However over the years with the technological advancement and growth within the finance industry, fundamental analysis became less relevant. The rapid pace of technological advancement in the trading sector is slowly replacing the tradition of ‘buy low and sell high’. Investors are starting to abandon intensive analysis and develop an understanding of a company or its business. Numbers and statistics of a company are important but in the financial market, human sentiment can cause a huge difference that numbers can’t solve.
Market psychology is the idea that the market movement reflects the emotional state of its investors. Market psychology is an important factor under behavioural economics that investigates the various factors that precede economic decisions.
With money and human interaction involved, emotions are the main driving force behind the financial markets price movement resulting in investor sentiment that creates the psychological market cycles.
Investor sentiment is determined by the emotions and reactions investors have when the price of an asset moves in the market. Positive sentiment is known as a bullish trend and negative sentiment is called a bear market.
When there is a market uptrend, investors are likely to adopt an improving attitude and increasing confidence, causing demand to increase and supply to decrease. The optimism, strong belief and possibly greed will lead to a strong buying activity. However, there can cause a market bubble to form when investors became irrational, overvaluing the actual value and buying an asset in the hope that the price will increase further. As the price gets overextended to the upside, it reaches the point of maximum financial risk.
In a market downtrend, it is likely to create a negative sentiment that reduces demand and increases the available market supply, quickly turn into complacency, as many investors will be in denial when the uptrend has reversed. It often includes feelings of anxiety, denial, and panic, and investors will reach the denial stage, insisting on holding on to their current position and hope that it will recover soon. As the prices dip further, the selling pressure grows stronger, often leading to a market capitulation. Eventually, the downtrend stops as the volatility decreases and the market stabilizes.
Understanding market psychology may help an investor to more favourable enter and exit positions. Highest financial opportunity for a buyer usually comes when most people are having negative thoughts, and the market action is low. Vice versa, the highest financial risk often arises when the majority of the market participants are feeling optimistic and confident.
There, investors would use market sentiment to buy low when there is panic and sell high when there is greed. In practice, there are easier said than done.
Many investors use technical analysis to attempt to anticipate where the market direction.
Technical Analysis indicators are tools that may be used when trying to measure the psychological state of the market. Investors can use the Relative Strength Index (RSI) indicator to predict when an asset is overbought due to strong positive market sentiment. MACD can also be used to spot the different psychological stages of a market cycle, spotting the relation between its lines and determine when market momentum is changing.
Most traders and investors agree that market psychology is a stronger driver of market prices than market fundamentals such as profits and economic performance. Every time when the market reached extreme optimism or pessimism, it will turn in the opposite direction. Although the psychological market cycles are well known, they are not always easy to deal with. Even skilled traders have struggled to separate their own emotions from the overall market sentiment. Investors face the difficult task of understanding not only the market’s psychology but also their own psychology and how that is affecting their decision-making process.
***Disclaimer: This content is not financial advice and should not form the basis of any financial investment decisions nor be seen as a recommendation to buy or sell any good or product. Trading cryptocurrency is complex and comes with a high risk of losing money. You should carefully consider whether trading cryptocurrencies is right for you and take the time to learn how trading works and decide how much money you are prepared to risk.
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