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How to think about risk before you buy crypto
Most people work out what they could make long before they think about what they could lose.
4 min watch · Investing & Strategy · Always free
Crypto is a high-risk asset class, and one of the biggest mistakes people make is asking how much they could make before asking how much they could lose. This entry starts with the second question.
Before you buy anything, there are a few questions you need to answer. Whether you are trading or investing, and why the same 20% week should mean two different things depending on which one you are doing. How much you can genuinely afford to put in. And the one that matters most, which is knowing in advance what would make you sell.
Transcriptlightly edited
Before the opportunity, the risk
Hi, I'm Viv, and welcome to my notebook. Here's something I've been thinking about.
When people first get interested in crypto, it's very easy to focus on the opportunity. But there's another side of that conversation that I think matters just as much. Understanding risk in crypto.
One of the biggest mistakes people make when getting involved in crypto is focusing on "how much money can I make?" before thinking about how much they could lose. Crypto is a high-risk asset class. So before you buy anything, I think there are a few questions you need to answer.
Are you a trader or an investor?
And the first one is, are you a trader or are you an investor?
A trader is generally looking at the short term. That could mean minutes, hours, days, weeks, or even a couple of months. An investor is usually thinking much further ahead, often at least a year and potentially three, five, or even ten years.
And while you can absolutely do both, I think it's important to know which mindset you're using when you buy an asset, because your strategy, your expectations, and your reaction to volatility should be completely different. If you're trading, you're trying to take advantage of short-term movements. If you're investing, you're effectively saying, I believe this asset will be worth substantially more over my investment timeframe.
How much are you prepared to risk?
And that leads to the next question. How much are you prepared to risk?
Position sizing is incredibly important. You shouldn't be putting an amount of money into crypto that you can't afford to lose, because with greater potential rewards comes greater potential risk. Diversification can also help manage risk. And you need to think about your overall risk-reward strategy. What are you prepared to lose? And what potential return are you looking for in exchange for taking that risk?
And then there's something that can be even more difficult to manage. Emotion.
Crypto can be extremely volatile. If you buy something believing it has a three-year investment horizon and it falls 20% a week later, that shouldn't automatically change your thesis. If you genuinely believe in the investment over three years and you took the time to properly research it, a short-term move shouldn't necessarily change your plan.
Know why you're buying, and when you'd sell
That's why you need to know why you're buying before you buy. What do you believe about the asset? Why are you buying it? What's your timeframe? What price are you prepared to buy at? Are you going to invest everything at once, or potentially use something like dollar cost averaging?
And perhaps most importantly, when do you sell? What's your target? And if your investment thesis is proven wrong, when do you admit it and cut your losses? Because having an exit strategy isn't admitting you're going to be wrong. It's recognizing you could be wrong and planning for that possibility.
Ultimately, managing risk in crypto isn't about eliminating risk. That's impossible. It's about understanding the risk you're taking, deciding how much risk you're comfortable with, controlling the size of your positions, managing your emotions, and finding assets whose potential reward justifies the risk you're taking.
So before asking, how much can I make? Ask yourself, how much am I prepared to lose? And is the potential reward worth that risk?
Thanks for spending a few minutes with me. I'd genuinely love to hear your thoughts, so if this notebook sparked something for you, leave a comment below and let's continue the conversation. I'll see you in the next notebook.
Supporting notesdrawn from the transcript
The first split is between traders and investors. A trader is working in minutes to a couple of months. An investor is working in a year to ten. You can do both, but the same price move should produce two different reactions, and it goes wrong when you buy on one timeframe and react on the other. A 20% week is not new information about a three-year decision.
Sizing comes next, and the rule is the plain one. Nothing you can't afford to lose, spread across more than one thing, with the return you want measured against what you are risking to get it. The hardest part is emotion, and the answer to it is preparation rather than willpower. Decide before you buy what you believe about the asset, what price you'd pay, whether you'll buy all at once or gradually, and what would make you sell, in both directions. None of this removes risk, which is impossible. It gets you to the point where you know what you're carrying and chose it on purpose.
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The whole entry rests on one reversal, asking what you could lose before asking what you could make. If you have ever sold something because a week went badly, or held on to something long after your reason for buying it stopped being true, say so below. The comments here are where a lot of the next entries start.