There is one excellent rule for asset managers: “When market volatility is high, we trade short-term intraday trades (day trading). When volatility is low, we trade the portfolio in medium term.”
Volatility is a rate at which the price of a security, coin or token increases or decreases for a given set of returns. Volatility is measured by calculating the standard deviation of the annualized returns over a given period of time. It shows the range to which the price of a security may increase or decrease. (Source: https://economictimes.indiatimes.com/definition/volatility)
Cryptocurrencies are considered to be one of the highest-risk investments you can ever obtain. This risk is reflected in the volatility of their value. The more volatility the instrument has, the riskier it is.
Why crypto is so volatile?
The main reason for such an impressive instability is that people do not know what to expect from cryptocurrencies. Even a small piece of information can increase the attractiveness of a particular cryptocurrency in the eyes of the consumer.
In the same way, the slightest and natural decline in the exchange rate of cryptocurrencies can provoke an extreme decrease in demand, and the cryptocurrency will begin to fall, in fact, for no apparent reason at first glance.
Among other causes of cryptocurrency volatility, the following can be identified:
Lack of government regulation
The dollar is supported by financial institutions, but crypto is another story… Government controls fiat currencies. They use central banks to create money out of thin air, using what is known as monetary policy to exert economic influence. They also dictate how fiat currencies can be transferred, enabling them to track currency movement, dictate who profits from that movement, collect taxes on it, and trace criminal activity. BUT! They cannot control and track most of the crypto, and it is a big no go for the government.
Lack of tangible assets to tie the price
National fiat currencies are closely tied with domestic economies of the countries. They are backed by tangible assets controlled by country and its citizens like natural resources, real estate and others. As long as the value of these assets is stable, the currency will not chaotically “jump” resulting in low volatility of fiat. However, during economic crisis it can change dramatically.
The value of most cryptocurrencies and tokens is tied to either amount of money invested into it, subjective expectations of investors and value of token-issuer intellectual property. Companies’ future, especially in start-up space, is highly unpredictable that leads to high volatility in cryptocurrency industry.
Cryptocurrencies over the past few years have caused a massive turmoil, which triggered the stream of new investors and traders to the crypto market. Newbies in this area often make mistakes buying and selling assets at the most inappropriate moments, and thus in a rather unpredictable way affect the fluctuations of the price.
How to calculate volatility?
There are several ways to calculate volatility. Basically, everyone uses the formula or look at the open source volatility index for a particular asset.
In our case we are not going to invent the wheel, you can simply find any important information in the internet. Nevertheless, if you would like to go a hard way please read this article.
Another smart way to immediately identify current cryptocurrency market agiotage is by looking at Google Trends of “Bitcoin”.
Let us compare different instruments pair in order to see the difference.
For example — JPY (Japanese Yen) to USD (date 07.02.2019) the volatility of such instrument does not exceed 0.50% for one month, 0.58% for 3 months, and 0.58% for one year (Source: https://www.investing.com/tools/forex-volatility-calculator). So, it means you cannot make short-term intraday trades (not for the short-term profit) on this instrument. Well… you can, but you will not gain much profit from it.
In comparison, the volatility of BTC/USD (date 07.02.2019) surpasses 2.37% for one month, 3.5% for 3 months and 3.85% per year (Source: http://www.cryptovolatility.net/).
In contrast, look at the graph above, you can clearly see the difference in BTC/USD (blue line) and JPY/USD (yellow line) volatility index.
Advantages and disadvantages of high crypto volatility
The most important advantage of high volatility is the fact that you can get a considerable profit on sharp drops or growth of the crypto price.
High volatility = high risk = high reward
During periods of low volatility speculative strategies and bots made on them do not work.
On the other hand, the volatility of cryptocurrency has a negative impact on the classical economy. Many investors still prefer to stay away from cryptocurrency only since their value is unstable. Imagine you buy some goods at a price of $ 100 worth of Bitcoin (BTC) in the evening, and after waking up early in the morning you find out that the price of the product is $70–80, or even less.
Thus, the high volatility of cryptocurrency has both its advantages and disadvantages. Therefore, it is always worth remembering that if you decide to start trading in digital money, you should be prepared for both high risk and potentially high reward.
And do you prefer high risks & rewards in trading?