Bitcoin Price Speculation – Lessons Learned From Trading Stocks

July 28, 2014 17:03 UTC

Bitcoin price prediction and chart analysis are among the most popular topics on Bitcoin. That’s okay, nothing wrong with a little speculation. But there’s a lot more to making a profit than ‘reading the charts’ and following the news. I certainly learned in my days as a day trader in the stock market.

For a year, I was possessed with finding a way to make a profit in day trading. I frantically read the news and analyzed charts looking for clear patterns. Some strategies worked for a short time. Then the price level suddenly changed direction, and I was at a loss. Theoretically and psychologically, I just wasn’t up for this. But in all the efforts I learned the following:


1. 70% – 90% of traders are losing money

If only I had known. Whether trading gold, commodities or currencies, most traders lose money. Why is this? Because in the trading game, you are betting against all other traders, and many are smarter than you. They have more years of experience in trading, they have access to colleagues with more experience, and they have access to the news before you do. It’s like fighting Mike Tyson in boxing. You can give it a try, but please know what you’re up to.

William Eckhardt describes it as follows in the book “The new Market Wizards”:

If a betting game among a certain number of participants is played long enough, eventually one player will have all the money. If there is any skill involved, it will accelerate the process of concentrating all the stakes in a few hands. Something like this happens in the market. There is a persistent overall tendency for equity to flow from the many to the few. In the long run, the majority loses. The implication for the trader is that to win you have to act like the minority. If you bring normal human habits and tendencies to trading, you’ll gravitate toward the majority and inevitably lose (The New Market Wizards).

Being different by leaving your fear and greed behind has often been mentioned as necessary in trading. I have experienced how psychologically difficult that is. Ignoring your instinctual human emotions and habits is really hard. Even then, with everything in check, you are betting against more experienced traders.

In the Bitcoin world there are enough beginners to profit from, but eventually professionalism will reach the Bitcoin trading market too. You are currently betting against Bitcoin enthusiasts reading every thread on Bitcointalk. Soon you are betting against market professionals with 5+ years experience in trading. Good luck. For me, day trading it out for sure.

2. Prediction is impossible

It is shown to be impossible to consistently and accurately predict a market weeks or months from now. Many studies show that banana picking monkeys or blindfolded dart-throwing humans for that matter are as good in predicting stock movement as financial experts. Yes, you read that right. Here is study one, two, three and four to back it up.

Truth be told, investment managers also manage risk and diversify their clients’ portfolio, so there is some legitimacy to their services, but when stock experts don’t know any better than monkeys if prices are going up or down next months, there is some serious questions to ask. Being an Artificial Intelligence student, I figured it would be possible to create a market prediction model. Of course I wasn’t the only one with that idea. Predictive analytics are now used by investments firms as a new tool in predicting prices. For these algorithmic traders it is by no means a golden bullet, but rather an added tool. Even twitter is used for predictions and ‘beating the news’. With all the Bitcoin data publicly available it would be perfect for the Bitcoin world. There is recently an attempt done on the Bitcoin market: Bitcoin Price Prediction Tool. While I cannot vouch for the accuracy of it, the comments have spotted at least one beginner mistake:

I’m hugely impressed indeed – by the inaccuracy of this tool. Currently, for the 5-day chart, it predicts a rise from $614 to $637 For the same 5-day period in the 20-day chart it predicts a decline to as low as $540. Sounds legit …

I have learned that a Neural Network can be amazingly accurate in learning anything, but they easily overlearns, being too specific about the past to make accurate predictions for the future. A trend line would be more correct, to put it simply. But the biggest problem is that results from the past offer no guarantee for the future. At times its easy to predict the market, at other times markets are acting irrational.

3. Arbitrage is risky in the Bitcoin world

The strategy of arbitrage is when you buy on one exchange and immediately sell for a higher price on a different exchange. Since these price differences are usually only a couple cents in the established markets, one has to perform the trades often and with a lot of money to make a profit. On the FOREX (Foreign Exchange) market you can, and it’s a relatively safe option. Your profit doesn’t depend on a price increase or decrease, but you simply spot opportunities for a quick trade. Since trades are executed so fast and between trusted trade parties, the risk is limited. In the Bitcoin world, long confirmation times pose a challenge to quick trades. Profits could be wiped away by the time the second trade can be made. Whole exchanges going bankrupt or a single unreliable trading partner is fatal. The reliability has to be 100%. Currently, the payoff is bigger for Bitcoin trades, with price differences in the multiple dollars, but the risk is also higher.

4. News is not that important

Please allow me to explain: news can be very important for the price of Bitcoin, say the announcement of the NY BitLicence regulation, or the more positive announcement that Warren Buffet has changed his mind and decided to buy some Bitcoin. But in most cases, by the time you read the news, it has already been factored in by the market. You see, Bitcoin enthusiasts and investors are closer to the news sources than you are. Professional traders run news tickers that receive news minutes before it’s on the websites and Google news. Bitcoin enthusiasts get it from the community forums. And nowadays firms like dataminr try to be before the news by folllowing trends on twitter. In many occasions, I have seen a price surge, only to find out three hours later the news that caused it. It was simply not accessible to me in time. Likewise, do we know what causes the current price drop? But the point I want to make about news is different. Consider this quote:

“The virtual currency’s value recently took a knock causing it to steadily decline in value, from $1,200 to the current $615. This is attributed to Chinese authorities toughened their stance against the company in May and the collapse of online exchange MtGox.”

This is a relatively recent quote. Was the price still going down because of the Chinese government and the Mt. Gox failure? It’s possible, but who knows. More likely is that the author had no clue and just cited a likely item of news as the cause. You’d be surprised at how widespread this approach is in the regular stock markets. I have seen the most exotic motives to explain a price increase of 1-2% in the Dow Jones, when in reality, the market moves 1-2% up or down every single day. A more accurate description would be that some people sold some stocks for some reason. You can’t find out in the established trading world further than that. An interesting feature of Bitcoin is that we can now know. We can track who bought how much, and we can potentially ask that entity why they did it. As soon as this can be done fast and on a massive scale, we should see a more accurate market explanations coming in.

5. There is no such thing as a free lunch

If you prefer a safer way of earning, a year ago I would have recommended mining bitcoins. It is a fixed investment with a return you can calculate. If you have the space to host a Bitcoin ASIC miner and cheap electricity, it is profitable and very safe. Or rather, it should be. As shows by various news reports, Bitcoin miner companies like Butterfly labs and Black Arrow, there is a large risk in purchasing a miner. Occasional delays and no refunds make it very important to choose the right company at the right time. Nature tends to restore itself. For profit, one needs to risk.

Last modified: September 4, 2014 12:17 UTC

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Joris de Ruiter studied Artificial Intellgence and decided to do absolutely nothing with that. He has become a writer, photographer and professional web designer. He enjoys making exotic ice cream flavours in his ice cream machine.