Summary
Behavioral biases are irrational beliefs that can unknowingly influence cryptocurrency trading decisions. Common behavioral biases that can affect decision-making include overconfidence, buying or selling at the wrong time, limited attention span, and following trends. Traders and investors should be aware of and avoid such behavioral biases to reduce the risk of making illogical decisions. Here are four behavioral biases and strategies for dealing with them.
Introduction
If left unchecked, behavioral biases can lead to poor cryptocurrency trading and investment decisions. There is a research field called behavioral finance, which combines psychological theory with traditional financial economics. Bias is often unconscious, so traders must pay close attention to their own behavior and try to avoid biased decisions.
Israeli-American psychologist and economist Daniel Kahneman and the late Israeli cognitive and mathematical psychologist Amos Tversky conducted research on human behavior and psychology Extensive research. Interested readers can check out Judgment Under Uncertainty: Heuristics and Biases to better understand behavioral biases.
over confidence
“Our false belief that we know the past fuels our overconfidence in our ability to predict the future.” —Daniel Kahneman
Overconfidence bias occurs in traders who are overconfident in their trading abilities, causing them to make risky market decisions or trade too frequently. Investors may be overconfident in assets in which they are already heavily invested, resulting in a lack of diversification in the portfolio.
While there may be exceptions, a study led by Columbia University professor Dr. Kai Ruggeri concluded that the more active retail investors are, the less money they make. Because investing often requires more fundamental research into the intrinsic value of a project or cryptocurrency, investors may consider trading less and investing more.
After doing proper research, investors can consider diversifying their trades. Trading diversification can reduce overall risk compared to holding a single coin.
avoid regrets
A study published in the Journal of Economic Theory by Ritsumeikan University economics professor Qin Jie showed that traders are twice as likely as the average user to sell winning positions too early and sell losing positions too late in order to avoid the regret of losing gains or capital. We are hardwired to avoid regret, even if it causes us to make illogical moves.
To curb this urge, traders can stick to specific trading strategies and investment strategies and refuse to make decisions amid market fluctuations. A simple approach is to automate transactions with predetermined conditions such as price and quantity.
One such strategy is dollar-cost averaging, a practice used by traders to invest a fixed amount at regular intervals, regardless of the asset's current price.
Traders can also use trailing stop orders to place preset orders at a specific percentage away from the market price. In addition to automatically tracking prices, trailing stop orders can help lock in profits while limiting losses, ultimately helping traders avoid entering the market by mistake.
Limited attention span
Because there are so many tokens on the market, there are many cryptocurrency opportunities for traders. However, our attention span is limited and we cannot accurately understand every opportunity before trading.
And there tends to be a lot of market noise surrounding different cryptocurrency opportunities. This may allow traders to make trading decisions with incorrect or insufficient information.
Don't rush into trading without careful understanding. Rather than letting your attention get too distracted, it is better to do your own research (DYOR) and conduct proper fundamental and technical analysis before trading.
Additionally, it is best not to rely on third parties for information surrounding potential crypto trading opportunities.
chase trends
Another study by Prem C. Jain, a professor at Tulane University, and Joanna Shuang Wu, a professor at the University of Rochester, found that 39% of all new capital put into mutual funds went into the previous year's top performers. 10% of funds, which shows that traders have a tendency to chase trends. This can lead to hasty trading actions rather than logical decisions backed by sound research.
Due to the volatility of the cryptocurrency market, traders can be misled by a coin’s exponential price increases and neglect to study the fundamentals of such surges. Rather than following the trend, consider assets that are trading less than their intrinsic value, and don’t just focus on tokens that are performing amazingly.
Warren Buffet once said: “Be fearful when others are greedy, and be greedy when others are fearful.”
Traders can also try to perfect and stick to a trading strategy rather than entering trades when a coin is pumped higher. Beginners can find dozens of articles on trading strategies on Binance Academy, including the Beginner’s Guide to Cryptocurrency Trading Strategies, Day Trading Strategies, and Backtested Trading Strategies.
Conclusion
Humans tend to rely on intuition when making decisions. Traders can avoid making wrong trading decisions by monitoring their own behavior and working to control behavioral deviations.
Further reading
"Five Risk Management Strategies"
How to manage risk and trade responsibly | Binance Customer Service
Detailed explanation of dollar cost averaging (DCA)
"Why and How to Do Your Research (DYOR) When Investing in Cryptocurrencies"