Last updated on April 6th, 2020
Let’s face it. Buy and hold (hodling) is not for everyone. If you want to ratchet up those profits, or even create a bit of income from your crypto assets you need to look for something a bit more dynamic.
In this article, we will look at five easy cryptocurrency trading strategies.
1. Bitcoin-Altcoin Ratios
When looking at a crypto currency chart, remember that half and probably a lot more of the price action has nothing at all to do with that crypto asset, or even crypto currencies in general. It has far more to do with the underlying fiat currency.
Let’s take the pair BTCUSD as an example. If the US dollar rallies against other currencies then all things equal we’ll likely see a big drop in Bitcoin versus the US dollar for the simple reason that dollars are a more expensive asset at that point in time.
There may be little change in the number of Bitcoin buyers and sellers, but the drop happens anyway because if it didn’t it would open an opportunity for risk free profit.
Precious metals traders have been dealing with that problem for years. One useful chart that they use is the gold-silver ratio chart. This plots the price of gold against the price of silver. When the ratio is high it means that gold is expensive relative to silver. And when it’s low the opposite is true.
You can use any coin ratio but since many people liken Bitcoin to digital gold and Litecoin to digital silver, let’s stick with that. So think of the Litecoin-Bitcoin ratio as the digital equivalent of the silver to gold ratio.
With ratio trading, you calculate the mean line then trade towards that line. When the Litecoin-Bitcoin ratio is high, above the mean line, that might be a time to switch out of Litecoin and into Bitcoin. When it’s low, that’s a time to start switching out of Bitcoin and into Litecoin.
Ratio trading can be a very profitable strategy if it’s performed consistently and over the long haul.
The great thing about using such ratio charts is that they eliminate many unrelated variables. You’re comparing like with like.
The slight problem though is that gold and silver have very long trading histories, going back thousands of years. Crypto currencies have only been around a few years. That means these historical ranges have not yet had a time to establish themselves. However ranges and mean lines will always exist, but prepare for them to evolve a little as the technology matures.
Remember that at some point in time you might want to change back into a fiat currency and at that time, the crypto to fiat exchange rate becomes relevant again.
2. Cross Crypto Arbitrage
Crypto currencies trade relative to their underlying fiat currency in much the same way as fiat currencies trade relative to one another.
Most exchanges and brokers will list a crypto asset against a range of other major fiat currencies. These cross rates can create a trading opportunity known as arbitrage. Arbitrage simply means the chance to make a risk free profit.
As an example,
BTCUSD is trading at $6500 / $6505
BTCGBP is trading at £5300 / £5305
GBPUSD is trading at 1.2000 / 1.2010
You do the calculation and see that BTCGBP is cheap relative to BTCUSD. From the exchange rate, it should really be trading at £5416/£5420.
The arbitrage trade is then placed to buy the lower priced asset and sell the higher priced asset.
Sell BTCUSD at $6500
Buy BTCGBP at £5305
You then wait for the price gap to close so that there’s no price differential. If it adjusts to the correct exchange rate, and say BTCUSD stays fixed, BTCGBP should rise to £5416/£5420. Let’s assume this happens 1 hour later. You then unwind the trade.
Buy BTCUSD at $6505, profit -$5
Sell BTCGBP at £5416, profit +£111
Assuming you sell your pounds for dollars your total profit is then $97.4. This is a very simplified example but it demonstrates how arbitrage works.
Remember, when doing arbitrage the profits can be small so trading fees like spreads and swaps are very important.
When markets are working efficiently, arbitrage opportunities are seldom and the gaps are slim. They’re quickly found and traded away. Crypto currency markets are getting much more efficient than they were a few years back, because there are far more people trading them now.
3. Stable Coin Arbitrage
Another kind of arbitrage is with stable coins. Stable coins have their value fixed to some underlying asset. Most are pegged to a fiat currency such as the USD dollar so that there’s a 1:1 ratio between the coin and the underlying fiat currency.
Some stable coins are specifically designed to be arbitraged. Any deviation away from the peg creates an arbitrage opportunity. This means arbitrage traders can move the price back to the peg and make a profit for their efforts.
DAI is one example. The ratio is 1 dollar to 1 DAI. Unlike Tether for example, another stable coin, DAI doesn’t rely on any central backing for its peg to be maintained. The DAI token is backed, or collateralized by Etherium.
DAI can be generated or borrowed by depositing some coins into a vault. On doing this you’ll get back a certain dollar amount of DAI, and at an exchange rate of 1 dollar to 1 DAI. The exact collateral you need to deposit varies from time to time.
As a simple example, suppose DAI is trading at $1.11. This is too high. You have 10 Etherium coins in your crypto wallet and the price of one ETH is $100. You could generate DAI at a cost of $1. You’d then sell your DAI on the exchange at a rate of $1.1.
When enough people do this, the external supply of DAI increases and so the price should adjust downwards. At that time you buy back your DAI tokens at $1 and redeem your ETH from the vault. Of course, if ETH is no longer $100 this could make the actual dollar profit smaller or bigger. But if you planned on holding your Etherium anyway, this wouldn’t matter. You’ve pocketed a bit of income.
The other way to arbitrage stable coins is simply to buy or sell the coins directly on an exchange. With Tether for example, you could sell when it’s above $1 and buy when it’s below. Then wait for the gap to close before closing the position to take profits.
As with all arbitraging, the profits are meagre and trading costs can be high. This isn’t a strategy you’d want to sit at your desk doing all day long. It works better when automated with software and that’s how most arbitragers do business.
Take note that currency pegs can break down. The breaking of the EURCHF peg is one that took many traders by surprise and even bankrupted a couple of brokers.
4. Trading the Bitcoin/Altcoin Adoption Curve
Blockchain and crypto currencies are new technology. Just like the train, the automobile and the internet these technologies historically evolve into what’s known as the s-curve adoption model.
The s-curve is highly typical of new technological breakthroughs so the relationship is a fairly strong one. Pioneers are first in, next early adopters cause the curve to rise. Then there’s a rapid rise as the majority see the potential of the new technology. This flattens as the technology becomes more mainstream, widespread and accepted.
While there is no guarantee that history will repeat, the adoption curve model is one of the strongest long-term buy and sell signals for Bitcoin that we currently have. Those who’ve bought at the base of the curve and sold at the top would have made a tidy profit.
Trading the adoption curve is a strategy for the long haul. There certainly can be some ups and down and large deviations from the s-curve. However, over the long-run, history tends to repeat this kind of price progression where innovative technologies merge into mainstream use.
5. Bitcoin and Altcoin Halving Events
Finally, there are the Bitcoin halving events. Bitcoin and other crypto assets are unique in that their supply follows a known-in-advance set of rules that are programmed into the protocol.
With Bitcoin for example, each halving event, cuts the supply of Bitcoin in half.
Bitcoin supply currently comes from miners. Miners are computers that validate new blocks on the Blockchain by solving a hard computational hashing problem. By doing this, the miners maintain the network and keep it secure. Miners are rewarded with new Bitcoin. This is the block reward and is where the supply of new Bitcoin comes from.
The next halving event is 13th May 2020 and it will cut the issuance of new Bitcoins from 12.5 to 6.25 Bitcoins for each new block.
Halving events create a speculative fever because many Bitcoin hodlers expect the price to skyrocket afterwards. These people have already bought in so that we can expect that some of the halving is already priced into Bitcoin. This is our old friend “buy the rumor, sell the fact” at work.
If history is to go by, then the volatility of Bitcoin will increase sharply after the halving event. Previous halving events created dramatic price gains in the following months.
On the other hand, there are some complex dynamics at play. Halving may cause some miners to give up because the rewards are less than running costs of the expensive mining rigs that are necessary these days to mine Bitcoin. This will cut supply further and fewer miners will arguably make the network less secure, which could hit the demand side.
Bitcoin’s clever protocol anticipates this and adjusts it hashing difficulty to the number of miners. Overall then this may effect may be nullified.
Only time will tell what the next halving event brings. One thing is clear though, it will create some interesting trading opportunities.