It is widely believed that investing in cryptocurrencies involves high risks due to the volatility of cryptoactive assets and the fact that crypto markets periodically experience periods of stagnation or recession, in financial circles. Due to such conditions, investors who bought cryptocurrencies with the expectation of their further growth, really suffer losses. However, the Buy & Hold strategy does not always justify itself in traditional markets. The difference is in the fact that in traditional markets, investors, due to the extensive experience of their colleagues, often use market neutral strategies. On the crypto market, they are less common, but can be used with the same result and provide income to investors in a negative market situation. What are the features of these strategies? We will describe in this article!
How do market neutral strategies work in the cryptocurrency market?
Market neutral strategies are trading strategies that generate revenue regardless of market conditions. They are equally successful in a growing, declining market and in periods of stagnation.
Point 1 is based on the timely detection and purchase or sale of overpriced or undervalued cryptocurrencies. Such assets are on the market in any of its condition. Even with a decrease, some currencies are excessively advertised and revalued, while others suffer from an increased negative news background and are underestimated.
In addition, in the downturn of the market undervalued cryptocurrency are a lot because of the recession itself. Some aspire to their natural price and therefore periodically rise, and after a minor rise, they again return to the general trend and fall. Such fluctuations occur quite often, so they can receive a steady income.
Point 2 involves mainly making a profit due to the high volatility of cryptocurrency. It is also observed in any market condition, including periods of stagnation, therefore, the strategies based on it are also universal.
Point 3 is based on the use of the price difference of the same cryptocurrency on different resources. Different prices on different resources are also observed regardless of the state of the market, which makes it possible to use this feature to make money in a growing market, in a falling market, and in periods of stagnation.
With paragraph 1, everything is clear. According to paragraph 2, it is naturally impossible to predict the price change of all or most crypto assets, so the investor has to look for pairs and groups of cryptocurrencies, the price of which regularly changes relative to each other or relative to fiat currencies on the same principle.
This greatly simplifies forecasting and allows you to get a steady income due to changes in the price of these couples and groups. Certain patterns of this kind are found in the application of virtually any market neutral strategy.
Common Market Neutral Investment Strategies
Arbitrage is based on paragraph 3. It means that an investor buys a cryptocurrency on one crypto exchange at a lower price, and sells on another at a higher price. The difference in value does not depend on the trend, but on the fact that the price of the asset on both selected exchanges is formed and displayed in different ways.
The reason for this is the decentralization of the cryptographic market, the geographical dispersion of the criptocurrency exchange, the absence of regulation or weak regulation and, as a result, almost complete autonomy of each of the exchanges. Plus, one may be slightly slower than the other, then it will display the actual course a few seconds ago.
With manual arbitration, earnings will be small, because the trader will bypass the inter-exchange robots and the rate leveling rate will not noticeably differ for a long time. The use of trading robots increases the potential income and in daily trading can provide 30–80% per month.
The final figure depends on the size of the commissions on the selected exchanges and on how many exchanges are involved. Naturally, the more exchanges will be monitored to identify patterns and detect random differences, the higher the yield will be.
Compiling a beta of a neutral portfolio consists in choosing cryptocurrencies, which will balance each other in any market condition.
These can be the leading cryptocurrencies, stableblocks and little-known currencies, which for one reason or another “take off” during a market correction of cryptocurrencies or during stagnation, and then when the market returns to the previous trend, falling due to the fact that investors saw their weak prospects. There may be other assets.
The bottom line is that such a portfolio involves trading in the “long” in a growing market and trading in a “short” in a falling one. Cryptocurrencies are chosen in such a way that the number of assets traded in the “long” assets balances the number of trades in the “short”. In such circumstances, the investor in any state of the market will be able to make a profit – he will only have to maneuver between currencies depending on the state of the market.
With well-chosen currencies such a portfolio can bring significant profits – from 50% to 300% per month. But the complexity of the strategy is also quite high due to the fact that the investor will have to regularly rebalance and update the portfolio while maintaining the ratio of assets with positive and negative potential.
It is a trading. Based on the change in the rate of cryptocurrency to fiat currency. The yield depends on the trader’s ability to predict the movement of the trend and does not depend on which direction the trend will move. Jumps and dips on a cryptocurrency chart occur regardless of whether the rate rises or falls, and the trader’s profit is the difference between jumps and dips.
Objectively, the income depends (except for the skills of the trader) on the volatility of the cryptocurrency. The greater are the gaps between the lows and the highs, the greater are the earnings.
Experienced traders earn on 500% per month, average – about 200% per month, beginners – much less, depending on their caution and ability to master new trading tools.
The complexity of the strategy is in the fact that it is necessary to study, understand and learn to put into practice a substantial number of trading tools and materials.
It is also possible to use trading robots, but the profitability at the same time will decrease approximately by 1.5 3 times – depending on how the robot is set up and how unpredictable the market is.
Based on the change in the course of cryptocurrency in relation to each other. It means that the investor chooses two cryptocurrencies that correlate with each other. Despite the correlation, one of the cryptocurrencies will periodically fall or grow relative to the other – and this difference makes the investor.
Such a difference appears regardless of the general trend of the selected cryptocurrencies. They can all grow at the same time or they can fall. In both cases, their prices will fluctuate equally, since these fluctuations will not depend on the entire market, but on the “relationship” of these currencies. “Relationships” also do not depend on the market in any way, therefore the investor’s incomes will not change much.
To get high profits on pair trading cryptocurrency is difficult. If the cryptocurrencies correlate, the difference between them in any case will be small – even at the moments of divergence of rates. If the difference between cryptocurrencies is big, then it is not necessary to talk about correlation. Therefore, the yield of this strategy is up to 70% per month. The difficulty is moderately low, since it involves only selecting and tracking the rates of two predictable cryptocurrencies with respect to each other.
It is a kind of pair trading, but instead of two cryptocurrencies, the investor chooses several correlated assets at once and earns the difference between the groups.
For example, he chooses 8 cryptocurrencies. At some point the cost of two slightly increases, the cost of one decreases. The investor conditionally divides them into different groups and earns on the difference between the fallen and each of the increased ones.
Profitability may be higher than the profitability of pair trading due to the fact that 8 correlating currencies differ in price between themselves more often than 2, therefore, a big difference occurs more often and the investor gets profit from it too more often. In general, it depends on the number of selected cryptocurrencies and on the accuracy of tracking their rates can reach 200% per month, but more often it fluctuates around 60–100%.
Should I use market neutral strategies in the cryptocurrency market?
In traditional markets, it is generally accepted that market neutral strategies cannot generate high returns. This opinion has spread to the cryptomarket, but here it is not quite true.
Some market neutral strategies are less risky and less complex, such as doubles and basket trading or arbitrage generate less revenue if to compare to the potential profitability of cryptocurrencies in general.
But it cannot be said that this income is low; 50 100% per month is significant indicators. Considering that they can be higher, the use of such strategies on the crypto market is justified, and more justified, than in traditional markets, where they bring less income with the same risk.
An ordinary investor often cannot predict recessions, corrections and periods of stagnation on the crypto market, as a result of which he loses money on strategies that depend on market movement. It is advisable to use the above mentioned strategies for such investors. They will provide him with a steady income, however, less in comparison with other methods of making money on a crypto market.
With a relatively large investment profit can reach significant amounts and fully meet the needs of the investor. To achieve good profitability indicators when using such strategies, an investor will need, of course, a certain amount of practice.
So, arbitrage will require the ability to handle trading robots, volatility trading – the ability to predict the extremes of a volatile currency, the creation of a beta neutral portfolio – knowledge of the crypto market.
Doubles and then basket trading seem to be the easiest for beginning investors, but they will also require a minimum ability to make predictions. But on the whole, all the above strategies are available for an ordinary investor, because their concept is simple and there are enough educational materials on them.
In addition, it is better not to limit one of these strategies and try to master several or even all. Each strategy, of course, works in any market condition, but the performance may vary, first, on the degree of decline or growth of the market, and second, on the chosen cryptocurrencies. It has be taken into account in training and in selecting promising assets.