How to Avoid Bitcoin Riches to Rags!

DISCLAIMER; This post and its contents should in no way be considered investment advice.

by Dan Clarke, Institutional Sales


During this bear market there has been no shortage of horror stories of people who made life changing amounts of wealth in Bitcoin as it “mooned” through 2017, only to lose it all in the bear market of 2018 and early 2019. As a trader friend once said “you never get poor taking a profit”. Sounds easy! So why did so many people end up going from rags to riches and back to rags and is there a way to try an avoid this?

In the following article I share a story from a close friend. His story & methodology is not meant to be rocket science and in my opinion would be useful for anyone just entering this space. It’s definitely not investment advice, but if your thinking about making an investment into Bitcoin today, I hope it gets you thinking and maybe it helps you avoid some of the pitfalls that so many others have experienced through the cycles. The post also totally ignores the tax implications of investing in Bitcoin given the widely differing laws, regulations & classifications of the asset class across differing jurisdictions.

Let me start out by saying that my friend only invested what he was willing to lose. At the outset of the investment that was arguably his base case. I don’t think he necessarily believed it would go to zero but his investment was appropriately sized that if it did, it wouldn’t materially affect his life or the life of his kids, wife etc. As a general rule that may imply risking no more than 1–5% of your assets in this still frontier asset class.

The Emotional Attachment to The Investment

My friend, who had at the time worked within finance for over 15 years in various sales/trading roles had originally bought Bitcoin purely as an investment. Over the years like myself, he become somewhat libertarian leaning in his views. This coupled with increased knowledge in crypto, convinced him that Bitcoin was going to change the very fabric of money & finance as we knew it. At the same time he was becoming increasingly worried about the repercussions of a growing global systemic debt problem and the realisation that banking & government would not be the medicine. In the face of all these converging dynamics, it was easy for him and so many others as a Bitcoin investor in Q417, to dismiss any possibility that it could drop 80–90%~, particularly given at the same time we had growing institutional interest in the space.

The Psychological Journey!

The emotional attachment to an investment as described above, saw many “investors” initially reluctant to sell any Bitcoin in Q417 despite some massive paper gains (Gains not yet materialised through a sale back into FIAT/Cash). Whilst this reluctance not to sell may appear like greed to many, let’s not forget that anyone with significant wealth (lottery type wealth) in Bitcoin has had to hold (“hodl” ) through several cycles of meteoric gains followed by several 50-90%~ gut wrenching pullbacks before the next growth cycle began. I have huge admiration for these people but understand why they are in the minority. When most people buy an asset like Bitcoin that they believe is going to zero or going up 100x, something which is often stated in social media given the perceived asymetric return profile of the asset, very few of these people actually think about what that means. Few of us have the fortune to experience returns like this & stop to question the psycholigical roller-coaster that 100x~ return will take you on.

I Want The Car, The Apartment & The Private School!

As an example of how this could play out let’s say you invest $1,000 in Bitcoin today. At 10x~ return you can now buy that car you wanted whilst still fearing that Bitcoin could go to zero. You manage to overcome this fear and in the not too distant future you are now at 30x~ return. You now have value in Bitcoin equivalent to a deposit for an apartment and whilst you may not believe zero is a likely option, its still in the back of your mind. You once again overcome this niggle and stay invested. A few months/years later you are now at 60x ~return. Now you could put your child through that private high school you had always dreamed of and by this point you’re convinced in Bitcoin’s value, and start to think that the boom bust cycles of previous years maybe a thing of the past as the asset seems to be getting some serious mainstream adoption. Why sell now when in several years you will have the car, the flat & the private education. At 100x~ return there is no question in your mind of Bitcoins survival. You envisage a time not too far away where you no longer use FIAT money & may even see yourself as a guru investor come Bitcoin “evangelist”. The following year Bitcoin drops 80%~, you capitulate, your wife leaves you & after paying some tax you have have little to nothing left.

System to Avoid The Pitfalls.

The journey I describe above is one many have been on. The only difference in my friends case was that he managed to sell some in Q4 of 2017 despite believing it was never going down. I remember him telling me that selling that first Bitcoin for FIAT money was like selling a little piece of his soul. He hated doing it. It went against everything he believed in & continues to believe in today. He felt like a traitor to a cause and this feeling has never really gone away despite the bear market that has played out in 2018. So how did he force himself to sell something that was no longer just an investment but a very part of his existence?! What I describe below may not work for everyone but it worked for him. It allowed him to secure some degree of financial security for his family whilst leaving some skin in the game in something he truly believed in.

Know Yourself & Set Investment Objectives.

My friend was somewhat lucky to have worked in finance for over 15 years & knew very well the pitfalls of becoming emotionally attached to investments. He also knew that his personality led him to be “all in” on things that he had conviction on. So at the outset he asked himself some simple questions. What return would he like on the investment? How much of the initial investment would be medium term (2–3 years) vs longer term (5–10Yrs+). With these questions answered he created a table like the example below.

So at the top we have the price at which you bought your first Bitcoins. This is followed by the number of coins & the $ cost (In this example US$40,000). Then you decide what % of the holding is for the long term (In this example 50%). This leaves 5 coins for sale in the medium term should the price go parabolic. After that you decide what return($ value) you would be willing to sell these 5 coins at (In this example $200,000 which you assume is the amount deemed as life changing, which of course means different things to different people). Finally you take that $200,000 target, divide it by the number of coins you are willing to sell in the medium term (5) & you get a US$40,000 target price, the price at which you need to sell.

Whilst you want $40,000 as the price to sell, the reality could be that 1/It does well as an investment but never gets anywhere near your target or 2/it hits a level slightly below that target & never bounces back or significantly overshoots. To manage these 2 risks he then came up with a 2nd and final spreadsheet like the example below.

So in this spreadsheet it shows the target sales over a 20Year period. The part highlighted in orange seeks to hedge against point 1 above (Price never gets anywhere near your target level). In this example he planned to start sales in Year 3 (Assumed no sales in Years 1 & 2 although that may depend on both your entry price & investment horizon). Then he assumed selling 5% of the original 10 Bitcoins every year for 20Years. Depending on your conviction you could be more or less conservative i.e you could weight the sales more heavily to the final few years or weight more towards the early years. The only word of caution here is that conviction that increases with knowledge is one thing, BUT conviction can also be heavily influenced by price. It’s crucial to avoid making too many drastic changes to your original game plan due to favorable moves in price.

They key to the 20Year schedule above is that even if your price target never hits, the sell schedule forces you to sell something. Over the years my friend & I have tweaked some of the ideas represented in this spreadsheet to take into account factors such as the growth curve & the supply schedule of Bitcoin. In addition we considered adding rules that would force us to buy back some Bitcoin into a bear market. The rules should be flexible but still hold true to your initial objectives of removing as much emotion from the equation as is possible.

The second part to this table is the part highlighted in red. This part seeks to partially avoid the risk associated with point 2 above (it hits a level slightly below your target price and then never recovers or it hits a level that significantly overshoots your target). So when we started the investment we agreed we would be willing to sell half the investment (5 coins) at an average price/coin of US$40,000. To avoid the risk we described, we pick 2 price levels both below and above our target. If we manage to sell 1 coin at each of the 5 stated price levels our average will be our $40,000 target (the reality of course will unlikely be this clear cut). Whilst on the table it shows these potential sell targets happening in the first 10years, this of course could happen at anytime or not at all so the key here is that whatever year these target prices hit, you stick to the schedule as close as possible.

Hopefully the basic ideas represented in this post have sparked some ideas around how to manage some of the psychological risks associated with an investment in Bitcoin. There is no one right way, but sharing our positive & negative experiences is key to helping both newcomers & existing investors navigate what can be a very psychologically challenging asset class.

DISCLAIMER; This post and its contents should in no way be considered investment advice. We may individually hold positions in some of the assets we discuss. Any projections, conclusions, analysis, views are to be considered hypothetical & for informational purposes only & not meant as recommendations for investment. Anyone considering an investment in crypto should only invest what they can afford to lose. You alone are responsible for evaluating the risks & merits of our content.