Stock market investors have what is called a Fear and Greed Index that gauges the performance of stocks in the market. The underlying principles are that fear leads to panic selling and greed leads to massive accumulation of stocks. If you are a cryptocurrency investor then that probably sounds very familiar. There is a psychological element in people that leads to decisions that are either wise or just flawed. This drives the prices of assets and commodities every day. In fact, this is how markets behave regardless of traditional finance or cryptocurrency.
The term FOMO (Fear Of Missing Out) comes to mind immediately. When cryptocurrency first became popular, there were sensationalized stories which the mainstream media hyped about how investors made "X gains" with Bitcoin or Ethereum. Many people bought into this with the idea that cryptocurrency was the next big investment opportunity. That FOMO was just too much, many made the effort to buy cryptocurrency because of the reported gains. However, what many of people did not know was the market was driven by speculation and high volatility.
The product of cryptocurrency is the technology, which many tend to overlook. The price of the digital asset is more important to investors because of the money making opportunities. The technology itself is what makes the cryptocurrency relevant in transforming the ways society stores and exchanges value using a direct P2P (Peer-to-Peer) electronic system that is secured through cryptography. Instead, many FOMO investors check only on the price action and not on the developments happening within the cryptocurrency. Most of these cryptocurrency were not started by large corporations, but were birthed in an open community of experts and academics.
The founder of Bitcoin, Satoshi Nakamoto, remains anonymous today but seems to be have the idea of an anti-establishment currency that allows people more freedom with their money. Nakamoto was the first to introduce blockchains, the underlying technology behind cryptocurrency like Bitcoin. The technology is what should make Bitcoin valuable, but it has become more about the price point that has led to speculations of its market value.
Lessons From The Past
2017 was an interesting year for cryptocurrency. It was the year the Bitcoin community experienced a change in perspective on the blockchain. This led to a hard fork called Bitcoin Cash. It was also the year Ethereum hit the spotlight as "Blockchain 2.0" with its programmable money concept using smart contracts. The technology had "smart money" investors sold, but "dumb money" also follows. These are people who just put money into something they see trending, without fully understanding what is going on. The reason Ethereum prices surged would be the same for the other altcoins, which introduce their version of blockchain technology. It was also the year Bitcoin reached its first all time high at $19,783.06 (December 17, 2017). What is amazing about it was that Bitcoin started the year at $1,000. Then in early 2018 the markets crashed, wiping out many gains leading to many frustrations.
There is another fear though, that affects the market. It is called FUD (Fear, Uncertainty, Doubt) and it has led to crashes in the market. We fear the unknown because of the many variables that are beyond control. This is what drives investors to "dump" or sell off their cryptocurrency, as quickly as they "pumped" or bought cryptocurrency. It has more to do with news, sometimes "fake news" rather than wise investment decisions. Every time news is spread about the cryptocurrency market, the reaction is either the market cap is positive or negative, depending on the news. When Bitcoin pumped in late 2017, the older wave of investors benefited from the new ones. As a result they collected their profits in 2018, leading to a huge market dump which caused BTC to crash to $7,000+ in early February. Unfortunately, many also panic sold their BTC thinking it was worthless now that prices had fallen so far down.
I will give an example on what I mean. Let us say Bob puts in $10,000 to buy Bitcoin when it was worth 1 BTC = $2,000. Bob has a total of 5 BTC worth of Bitcoin. There was recent news that certain countries will ban Bitcoin and it immediately sets off a market trend of sell offs. These sell offs can also be caused by trading bots, and collectively can tank the market when they all perform the same task (e.g. selling). Bob panics and decides to sell his Bitcoin so he can at least recover some money from it. From 1 BTC = $2,000, it fell to 1 BTC = $730. Bob lost a total of $6,350 and this gives him the a bad impression of Bitcoin. Then, 2 hours later news comes out that Bitcoin was not going to be banned. The price of Bitcoin shoots up even higher to 1 BTC = $5,000. Bob could not believe it. This is what we call getting REKT in the cryptocurrency market. What he should have done was HODL (Hold On for Dear Life) as they say, to his Bitcoin because the market is so volatile. By not selling immediately, Bob could have made $25,000 from his initial $10,000 purchase of BTC (or gain of $15,000).
Investment Is A Strategy
What investors need to learn is if they are going to invest, do not invest more than you are willing to lose. This article is not about giving investment advice, but basically when you put money into something like cryptocurrency that could be considered an investment. That requires strategy if your purpose to get into cryptocurrency is to make money.
The reason I point this out is because not everyone sees cryptocurrency from the same perspective. There are HODLers who prefer to hold their share of cryptocurrency for future gains and belief in the principles of the technology. This belief system is what the classical crypto-investor adheres to since they are the most die-hard and loyal to the cryptocurrency they support (e.g. Bitcoin, Litecoin, Ethereum, etc.). The HODLers might form the largest group, otherwise many cryptocurrency would have already tanked if everyone took their money out. There are also the cypherpunk and techies who believe more in the technology of financial independence and privacy rather than speculating on the digital asset's price value.
The newbies called noobs are mainly speculators, entering the market for the very first time. Their hope is for the price value to pump to the moon, so they say. Many have been influenced by popular crypto-personalities, but whether or not they understand what is behind cryptocurrency is another story. This is because understanding the basics is really important. Otherwise, it is just like tossing money into a pit expecting for a big return only if more people do the same. This is the premise of the Greater Fool Theory. In other words you act the fool to make more fools behind you give their money. This makes it more like a pyramid scheme because certain people called whales will suddenly dump their cryptocurrency coins or tokens. The whales are the big money investors who pump plenty of money into a coin and dump once it gives them a significant return. This results in the noobs getting REKT, unless of course they follow the fundamental rule of HODLing.
The strategy here is to keep your coins on the blockchain. Don't panic sell, just wait and HODL. If you have the knowledge of how the market works, you will see that it is a cycle. There are ups and downs, as technical analysis will show. Those who study the trends in numbers look at certain indicators from which they can base decisions from. It is by no means fully scientific, but also rather based on speculation as well. No one really knows for sure what the price of cryptocurrency will be in the future since there are many variables behind them.
You should also make sure that you are not putting your money into what are called shitcoins. These cryptocurrency are usually using technology that already exists and do not prove any sort of utility other than what existing projects can already do. I won't cite any examples, but it is important when investing in cryptocurrency to check their website and determine if they are legit. Read their vision, research about their team and look into the technology they offer. Ask yourself questions of whether it is offering anything innovative. It is best to read their white paper or any supporting documents about what they are trying to accomplish.
Also watch out and avoid scamcoins, and I will give examples here. Bitconnect and OneCoin are now considered scams, not just by the cryptocurrency community but even government regulators. Bitconnect turned out to be a ponzi scheme that used a recruitment mechanism to continue liquidity in their coin. OneCoin turned out to be a non-existent blockchain that was scamming their users to purchase education packages. There was really nothing behind it other than teach people about the benefits of cryptocurrency. However, there was never a coin or token on a blockchain. Although these projects have been exposed, their founders have never been found or prosecuted (as of this writing). The gist here is to not believe everything you here and do your own research always.
Crypto Fear & Greed Index
The website Alternative.me has a Fear and Greed Index related to cryptocurrency. It is a 0-100 scale that is based mainly on Bitcoin. In their calculation, they take into consideration 6 factors for determining the index:
- Volatility (25 %)
- Market Momentum/Volume (25%)
- Social Media (15%)
- Surveys (15%)
- Dominance (10%)
- Trends (10%)
We know that during times of peak curiosity for cryptocurrency, people will be doing research on search engines. When "bitcoin" or "ethereum" is trending, it is considered an important contributor to the index. Data from social media hashtags are also looked into. The more users put #bitcoin, the more likely it is being hyped and discussed.
The volatility is an important market indicator which can show liquidity and movement in the markets. More volume of course means more transactions and that is a good sign that people are using it. Digital exchanges like Coinbase and Binance provide this information on their website. Perhaps another important indicator is Market Momentum to Volume ratio in 30 to 90 day average values.
What This All Means
According to the index, when there is extreme fear in the markets, the index value is either "0" or close to "0". This occurs in cycles when the market is not liquid, meaning people do not have money to invest. This happens when there are financial disruptions in the economy. It does correlate with cryptocurrency markets as evidenced in the market crash in early 2020 due to the coronavirus pandemic. When the world is in crisis, cash is more immediate than cryptocurrency. Thus there is no need for people to go out and buy it when they first need to satisfy their basic needs. Since you cannot use cryptocurrency for most purchases, it is not a priority. The market looks bleak and very bearish.
When there is greed, the signs are more bullish. The index climbs above 50 and at 100 is the peak of it. This leads to buy signals across exchanges. This is usually due to good news in the market (e.g. SEC does not consider BTC a security). When certain countries announce that they won't ban cryptocurrency, it is usually also followed by market optimism. It won't be a surprise if most of the new buyers are noobs who are getting into the market for the first time. They try to buy up as much as they can, while certain veteran traders are accumulating coins. It is actually not a good idea to buy when the prices start to increase, yet noobs are usually the first ones to buy.
Now it becomes a cycle of buying and selling. The more sophisticated traders, including whales, would prefer the market dumped so the prices will dip. When that happens, they accumulate more. This creates another type of greed cycle, when the digital asset is seen as undersold. Investors begin buying so all of a sudden, the volume increases and the market signals buy after the previous sell. Those who sold would be the biggest losers here, but guess who didn't lose? The HODLers. It is human nature to sell low and buy high, and this really happens all the time. Many sell low because they assume the prices are going to "0", thus they incur more losses and recover some of the money invested. In reality though, your 5 BTC for example, is still 5 BTC at the end of the day if you didn't sell. What is arbitrary here is the market value in fiat currency, not the actual value in cryptocurrency.
To not get REKT in the fear and greed cycle of cryptocurrency markets the fundamental rule is to HODL. That should probably be taught to every noob in the market, but this is a suggestion and not financial advice. During times of fear, the tendency is to sell and try to get back as much money as you can. On the other end, when you can afford to buy more you start to accumulate in the hopes that prices will go up in the future.
Either way, our collective decisions affect the market and it creates a cycle that is more volatile than the stock market. This volatility is caused by the large volumes of trade in digital exchanges, in which the price value is never stable (unless you are talking about stablecoins). Those who understand this are much better with their money because they usually invest a rational amount that they can afford. It is probably wrong to invest life savings, mortgage payments or even a pension fund with so much instability in prices, unless you know which cryptocurrency are stable and which are not.
It is a good practice to look at the market in terms of cycles. When there is too much fear and prices dip, it may actually create buying opportunities for accumulation. Warren Buffet was quoted as saying “Be fearful when others are greedy and greedy when others are fearful.” If you are not a HODLer but a trader, then when prices go up this is a great time to sell and make money. These words should not be taken at face value because it still depends on other factors like demand and market gains. Having a strategy is really the key, and that requires knowledge and understanding of fear and greed in the cryptocurrency markets.