The risk of a portfolio can be reduced via diversification. By investing in different assets, spanning different financial instrument, use cases, industries, and categories, a trader can mitigate risk.
Diversification in Crypto Trading?
It involves acquiring a group of crypto assets whose returns are not directly correlated to manage risk.
A trader may diversify his cryptocurrency portfolio by purchasing cryptos that are not affected by the same variables. Cryptocurrencies are generally expanded based on adoption rate and use cases.
In this post, we are not going to look at the entire cryptocurrencies in the ecosystem; we’ll classify them by use cases and further narrow them down by the most active.
Below is a classification of the different cryptocurrencies by use cases
Store of Value: Bitcoin (BTC)
World Computer: Ethereum (ETH), EOS, Tron, NEO, Cardano (ADA)
Cryptocurrency Exchange Utility Tokens: Binance Coin (BNB), Kucoin, Qash
Cross border Remittance/Payment Rail: XRP, Stellar, Bitcoin Cash, Monero, Dash
Stable Coin: Tether, DAI, PAX, USD Coin, Gemini Dollar
Connected Internet of Things (IoT): IOTA
Cloud Storage : Siacoin, Storj
DAPPs: Basic Attention Token, Steem, Augur, Funfair
Decentralized Finance: Maker
Tradeable Digital Assets: WAX
Cannabis Coins: CANN, DOPE, POT
So, back to the question; is diversification possible in cryptocurrencies?
Although cryptocurrency prices are mostly correlated, it is still possible to diversify your crypto portfolio based on use case and volatility.
As a cryptocurrency trader, your goal is to setup up a wallet on a selected few of the earlier mentioned use cases.
After finding a reputable exchange to trade with, your first step will be to fund your trading account.
With your trading account funded, your next step will be to assign a percentage of your deposit into a couple of cryptocurrencies based on extensive research and backtest.
Here is an example of cryptocurrency combinations that you may want to consider for a diversified portfolio. Please note that this is not a trade recommendation to buy any of the crypto assets but guidelines.
Coming out of a crypto winter, a suggested portfolio might include 60% of Bitcoin (BTC) for the store of value; 10% of Ether (ETH) in world computer; 10% of Binance Coin (BNB), a crypto exchange utility token; 10% of Monero (XMR), a payment rail, and 10% of Tether (USDT), a stablecoin.
Carrying out an extensive analysis of the different crypto project price charts cannot be overemphasized as you will quickly spot long term market changes like the crypto winter of 2018.
Risk management is significant for successful trading and diversification across different cryptocurrencies by the rate of adoption, use cases, and volatility may increase a crypto trader’s equity curve. However, an over diversified crypto portfolio may as well reduce potential profits as the majority of ICO projects trade below their opening price since the crypto winter.
Having a combination of long and short orders across your cryptocurrency portfolio also has the potential to increase a traders returns considering that majority of altcoins are bearish against BTC in 2019.
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