Education

Lesson 3: Money Management

In the previous lesson we learned how to prevent your investments from reducing your deposits severely. Today we’ll tell you how to manage your money and stabilize profit. We will talk about portfolios, what they are and how to create your own. And also how to determine how much money to invest in new opportunities and how to manage current investments. This lesson will give you a solid foundation to build your financial goals and improve your trading skills.

In this lesson we will cover

• What is money management
• What is a portfolio
• How to start an investment portfolio
• How to use a portfolio based on signals
• How to manage a mixed investment / signals portfolio
• How to manage your current investments
• Short, middle and long term investments
• Risk/Reward ratio
• Another example: my own portfolio

So, here we go!

Risk management and money management are very closely related. In fact, you may say that risk management is a branch of the money management tree. This is why many money-management books explain risk-management subjects such as diversification, stop-loss orders and reward/risk ratios.

What is money management?

Money management is the process of budgeting your investments in financial markets.

In other words, you have capital you use to trade in financial markets - or in this case, cryptomarkets - called investment capital. Your target is to use this money in a way that allows you to diversify risk, stabilize your earnings and ideally, maximize profit.

To minify your risk, two tools are used: stop-loss orders and diversification. In our previous lesson, we talked about diversifying risk by investing in several markets simultaneously. However, there are several ways to diversify risk. One way is to use different trading strategies based on short, middle and long-term trading goals. Another way is to use different signal providers. Both can be used independently or combined to create what we call a portfolio.

But what is a portfolio, exactly?

In finance, a portfolio is a collection of investments held by an investor or trader.

Although it is possible to invest all your capital in one market by using a simple trading strategy, we don’t believe this to be the best idea. Investing all of your capital in one market makes it vulnerable to the ups and downs of that particular market. In unsuitable market conditions, your capital will go down in value a lot, which you will feel as a personal pressure. It can drive you crazy.

Moreover, markets can be unpredictable and down periods can go on for a very long time.

Therefore, we suggest using a different strategy: invest in several markets and use different trading strategies to diversify risk and increase chances of making a profit. This is what makes a portfolio.

So, how do you start your own portfolio ?

First, you need to decide what percentage of your money you want to invest in a certain market, trading strategy, or signal. This will allow you to invest in several markets and increase your chances of getting a good return on your investment.

But how much should you invest in each segment? Well, only you can answer that question and take the responsibility of how much you invest in each market. But here is a simple example of what a portfolio can look like:

Total trading capital = 100%

Of which :

• 10% to be invested in Bitcoin
• 10% to be invested in Ethereum
• 10% to be invested in Litecoin
• 10% to be invested in Dash
• 10% to be invested in Zcash
• 20% to be invested in shitcoins
• 30% “free money” reserved for new trading opportunities.

The above is just an example of what a portfolio may look like.

The goal is to distribute your money among different markets and strategies in order to stabilize profit and diversify risk. By segmenting your capital and budgeting your investments, you can cover more markets and still have money to invest in new trading opportunities. Or, alternatively, keep your spare money as a security net in case one or several of your markets drop.

Another option is to create a portfolio based on signals.

Here, segments are defined by individual signals and not just by any particular market. Once again, the amount of money you assign to each segment will depend on your trading style and should be your own personal choice. Only you can decide how much money you want to invest based on the risk you’re willing to take and the number of signals you’d like to take advantage of. Just remember that investing a large amount of money in a single opportunity will prevent you from investing in similar opportunities (signals) in the future.

The signals we provide are accompanied by investment suggestions such as “recommended investment percentage is up to 10%.” This means your investment in this particular signal should be no more than 10% of your total investment capital. The reason why is that there are several signals throughout the day. If you invested 50% of your capital in just one signal, you’d have no money left to invest in new opportunities. By investing just 2-5% in each signal, you will be able to invest in several signals and still have enough money to spare. This way you keep your risk to a minimum and protect your capital from possible downs in the market or unreliable signals.

Now, let’s combine our previous portfolio with a signal-based strategy.

Let’s say we get several signals for Bitcoin and Ethereum. The recommended investment for each signal is up to 10%. Now, imagine our total investment capital is $10,000 USD.

Based on our portfolio, we’ve decided to invest 10% of our capital in Bitcoin and 10% in Ethereum. This means we have $1,000 USD to invest in each coin.

According to our portfolio we can invest up to $1,000 USD in Bitcoin and no more than $1,000 USD in Ethereum. If we follow the signal recommendations, we could invest all of our Bitcoin and Ethereum capital in this single signal. But, if we do, we won’t have any money to invest in other signals.

So, let’s say that we decide to only invest 2% of our $1,000 USD budget in Bitcoin ($200 USD) and 1% in Ethereum ($100 USD). That will leave us with $800 USD to invest in 4 additional Bitcoin signals and $900 USD to invest in 9 other Ethereum signals. This way, we have more trading opportunities and are less likely to have a big loss if either of those markets crash.

Remember, this is just an example of what a portfolio looks like and how you can distribute your money among several markets. Each trader should decide what portfolio works best for their trading style. And just so you know, these ideas can also be used in standard trading on crypto currencies.

As mentioned earlier, portfolios should follow your overall trading style. Will your portfolios follow aggressive or conservative trading strategies ? Will the support short, middle or long-term trading goals? All that depends on your trading style and how you want to achieve your financial goals.

How to manage current investments

Another question that often comes up in money management is how to manage current investments.

When you invest in a new market, you may decide to exit when your investment makes a certain amount of profit. If so, you should respect these indicators.

When the market moves in your direction, you can use a trailing stop. A trailing stop is a stop order that is set at a certain distance from the current market price. When the market moves further in your direction, you can follow the market by moving your trailing-stop order in the same direction.

Both options can give good results in different timeframes, and it is rather difficult to decide which strategy to use. But there are two particular scenarios where the decision is pretty clear. If you want to maximize profit during a strong trend, the best is to use trailing-stop orders. However, if you prefer to stabilize your profit, fixed levels will be better.

And remember, when managing current investments, you need to have a clear exit strategy. Will you withdraw all your money at once or will you withdraw certain amounts at certain profit levels?

For example, you invested $1,000 USD in Bitcoin at a 10,000 value. You’ve decided to withdraw your capital when the market value reaches 15,000 and 20,000. You can withdraw the first 50% of your investment ($500 USD) when the market value hits 15,000 and the other 50%($500 USD) when the market hits 20,000.

However, using that same example, you could also decide to withdraw 70% of your capital ($700 USD) at a 15,000 market value and 30% ($300 USD) at a 20,000 market value. Or you could decide to go with a totally different percentage. It all depends on how much risk you’re able and willing to take.

Short, middle and long-term trading

Another thing to consider is your preference between short, middle and long-term trading.

If you want to exit the market quickly (short-term trading) you should go for targets that are closer to where the market is now. If you prefer to wait and see where the market goes over time, you should choose targets that are farther away based on future profit potential. It all depends on you. Some people prefer the small but steady stream of profits that come with close targets, and others prefer larger but less frequent profit bursts that require fewer transactions.

The risk/reward ratio

There’s one last thing I’d like you to consider when managing your current investments: the risk/reward ratio. The risk/reward ratio is a big part of money management. Many authors suggest that the risk/reward ratio should be at least 1:2 or 1:3, but what does this mean?

A 1:2 or 1:3 risk/reward ratio means that when investing in any market, your potential profit should be 2 or 3 times bigger than your potential loss. This being said, this type of rations are only good for trending markets. When markets move sideways or when you invest in markets that are going against the main trend, you may consider a 1:1 or even 1: 0.5 risk/reward is still pretty good.

However, this can vary. Following your strategy, you have a possible entry level, a level for placing stop-loss orders and levels for potential profit targets.

So which strategy should I use?

Depending on your trading style you can choose one of the following strategies:

Variant 1: Make several investments with small profit targets and set your stop-loss orders far away from the original price.

The outcome here will be a more or less steady stream of small profits, but also a risk of a considerably larger loss if and when the market reaches the stop-loss level. If you are ok with getting quick but small returns on your invesments 5-10 times and suffer large losses 2-3 times, but in total to have profit, then you should focus on trades with risk rewards ratio of 1:1 or even less.

Variant 2 Take trades with high profit targets and tight stop-loss levels

This will result in many trades being stopped quickly by fake signals (signals where the market reverses after the entry level), but if an upward movement is caught, it will reward large profits. If you feel it’s ok for you to get small losses 5-10 times in a row and get 2-3 big profits which will cancel your losses and result in overall profit, then you should skip trades with risk reward ratio like 1:1 and wait for 1:3, 1:5 trades.

Remember you always have a choice to skip the trade because of a bad risk/reward ratio or to invest and profit from what the market has to give.

As many other things in life, the important thing is to find what works for you. Everyone is different, and what seems like a good trade strategy for one person can be a terrible strategy for another.

So, what sounds better to you? Do you prefer several small income streams and only a few big losses, or would you rather deal with several small losses and benefit from one or two big wins? This is where the risk/reward ratio comes in to help you decide.

Conclusion

Money management offers you different variants for cutting risk and getting stable profit. There are many variants which can be used and cover different trading ideas, styles and time frames. The main thing is, the money management strategy must suit your nature and help you to reach your goals in trading.

Here is my personal portfolio and money management strategy:

• portfolio is up to 30% in top altcoins, up to 50% in Bitcoin and up to 20% as free money
• investing up to 10% for every signal
• using middle and long term trading
• use fixed profit levels for exit, use stop-loss orders for high risk trades only
• the 1st profit target is for closing 50%, for the 2nd profit target 30% from trade volume and 20% for long run (this % are based on trade volume from 1 trade)

In the next lesson, we’ll look at different kinds of portfolios that you can use or create your own portfolio based on these examples. If you have any questions about money management theory, please, leave a comment. If you have questions about exact variants of portfolios, please, keep them for the next lesson, where we’ll discuss this topic in more detail.