Whether you invest in stocks, bonds, commodities or cryptocurrencies, the trading rules remain the same. Most people get into trouble when they don’t follow a disciplined investment plan.
You’ll often hear traders utter the phrase “plan your trade and then trade your plan.” If you wanted to build a house you would first plan your building project and then you would build according to your plan.
Plan your build, build your plan. Plan your trade, trade your plan. If you don’t follow this rule you’ll find your building project delayed and over budget. Too many people don’t follow this simple concept when it comes to something as important as how you invest your money.
It’s no different whether you’re investing in cryptocurrencies or any other financial market.
There are four basic rules that are part of a robust investment plan:
Rule No. 1: Don’t lose money
As Warren Buffet often says, when considering all the rules for investing, never forget rule #1. All investments involve some risk. Losing some money in inevitable since not all investments will climb higher.
And when you’re looking to invest in cryptocurrencies, you need to understand that it’s a risky asset and subject to large price swings. Losses, even paper losses, can be painful. That leads to rule two.
Rule No. 2: Never invest borrowed money, never invest money you can’t afford to lose
Investing your own hard-earned money can be emotionally difficult. But it can be emotionally and financially crippling if the money invested was borrowed (since a loss would mean there’s no money to pay back the loan).
If a loss of an investment would be life changing, such as not being able to pay current bills or it causes a loss of your retirement funds, you should not risk the money. An investment, especially in cryptocurrencies, must be small enough not to be crippling.
Rule No 3. Don’t give in to fear of missing out (FOMO) or fear, uncertainty, and doubt (FUD).
Emotions drive the financial markets and when you can identify what the crowd is doing, you can avoid getting sucked into the crowd’s emotions. In a strong rally it’s common to feel the pull of FOMO. This often leads to purchases at the top of the rally and subsequent loss when the market drops (when it runs out of buyers).
The opposite happens in a market decline – when FUD causes many people to sell at the bottom (created when the market runs out of sellers) and then they miss out on the subsequent rally. Too many people buy high and sell low, the exact opposite of a winning investment strategy.
Be a contrarian – sell your winning trades when too many people are getting excited about the rally (reacting to FOMO) and be a buyer when too many people are panic-selling.
Rule No. 4: Make unemotional decisions based on due diligence
This is actually a summation of the first three rules. Your trading plan must include how much you’re willing to lose on an investment position.
Some investments will require a “sell stop.” This is a price that is below your purchase price. A decline to your sell-stop price tells you the rally is over and that it’s time to take a small loss in order to prevent a larger loss.
But some investments are based on a long-term belief in their future value. In that case, you’re willing to stay in the investment no matter how low price might drop. It could result in a total loss of the investment, which means you need to control the size of your investment position so that you abide by rule one.
Eliminating emotions is the secret to investment success. You will be successful if you don’t get greedy, don’t panic, honor your sell stops, and control your risk through proper position sizing.
Let your winners ride while taking some profits along the way. This is all part of your trading plan and it helps keep emotions at bay.
Plan your trade, trade your plan.