Crypto Academy Season 3 Assignment | Intermediate Course: Market Psychology & Trading Psychology

I must confess that I am completely excited to be one of the eligible students for the third season of the Steemit crypto academy and I want to say thank you to Steemit team for providing us with the opportunity to learn. I will be answering the homework task presented by professor @asaj and I must say the class was quite captivating and educating, kudos professor.

credit

The case study given is an example of what type of psychology? Explain the reason for your answer.

To answer this question is to talk about the example in the class and this is basically talking about Trading Psychology Jane decision was driven by Trading Psychology.

Trading Psychology can be explained to mean the overall mindset of an individual while making an investment or trading decisions. Trading psychology has the capability to determine if a trade is going to be successful or not when the trading behavior of several individual traders is alike.

First, Jane's decision to either trade or not is based on trading bias. Emotional Bias would be the first trading bias and that emotional bias is fear. Fear is the reason why Jane didn’t join the market as at the time the price was at $9, she did not want to lose her asset so she decided not to take the risk at all, but after some time when possible testimonies from the telegram group chart began to pop in, Jane also developed the Fear of Missing Out (FOMO), which is often one reason why a lot of people jump into a trade or invest into a cryptocurrency or the other, and she concluded that it was time to jump into the trade at $15 without doing any research of her own at all.

Jane also allowed Greed to control her when she could have taken profit at $20 and just stopped the trade, but she kept on hoping that the price will go above that to her advantage (Greed and Hope often work together). Soon the market starts to plummet and then she sees it as a minor correction where she can buy more of the coin so she can now increase her profit when it rises again to the position where it previously was. She continued to buy but the price kept dropping putting her in a depressed state until she was liquidated by stop-loss, then regret had a strong force on her afterward unto why she had invested in it at first but when the price started rising, the regret changed from why participate to why sell at loss.

Using the case study above, list and explain at least 5 biases that influenced Jane’s trading behavior with examples of how they affected her behavior?

Emotional Bias.

First of all, the fear of the signal being inadequate and then losing her investment could explain the reason why Jane (the case study), did not get into the trade at $9 and she had to wait until the price rose to $15 when it appeared promising enough and she did not want to miss out on the benefits while others were making profits so she simply jumped into the trade.

The mere thought of hope that the decline in price will suddenly turn in our favor is a common bias syndrome in traders and it is a clear example of what happened to Jane and a simple reason to explain why she kept on buying despite the declining price.

The presence of greed is the reason why Jane (the case study), refused to sell her asset at 20$ even if she had made a profit at that point, she believed she could make more profit if only she could hold a little longer. Then of course after the price came crashing down there was a feeling of anger and regrets mixed together.

Confirmation Bias.

Confirmation bias occurs during a trade when we are keen on a particular mindset, we begin to look for ways to the slightest information that will agree to our ideas, and when we find those information’s we strongly hold on to them and use it as a weapon of instruments to keep pushing. The belief that things appear too real to be false and that we may just by slight indication be correct is a reason behind confirmation bias. Jane could not have bought more crypto assets if she had no confirmation bias either through news and charts and used it as a source of hope to lean onto that this currency she was investing in was going to rise and it gave her the reason to buy more as the price kept dropping.

Herd mentality Bias.

This type of bias makes it convenient for us to engage in what the majority of people are doing because it simply feels right instead of making our own research. Jane had seen the information on the telegram channel that a particular investment was a good one and she had seen a lot of people testifying to how good the investment decision was and instead of just making her own research to determine how good the investment decision was and of course the appropriate time to opt-in and out, she chooses to follow the crowd and that served as a base for her investment decision.

Disposition Bias.

As a result of refusing to accept a loss and move on to a more promising trade, a trader could hold on to a particular trade even when it is very clear that the trade will continue to move in a downward motion. In this case, the trader will choose to ignore the possible sign of loss because of his inability to admit his own mistakes. Jane here, our case study continued to hold on to a trade that was obviously going downhill with the possible hope that there was going to be a drastic change in price.

Anchoring Bias.

This occurs a lot especially to new traders, they allow one source of information to become their reality rather than going on to make further research. This can be seen in the case of Jane who relied completely on the information she got from the telegram group and she failed to make any further research to boost her trading decisions.

List and explain how each bias you have mentioned could be avoided?

How to avoid emotional bias.

Emotional bias might be the most difficult type of bias to control and this is because it is a strong attachment to our feelings and the decisions that we make. It can however be controlled by working on our level of discipline, making a strong decision on when to get in and out of the trade, and sticking to that rule of discipline. Having a trading rule and being disciplined (self-discipline) enough to stand by these trading rules is a good way to overcome emotional bias.

How to avoid confirmation bias.

Confirmation bias can be avoided by making the decision to open up our minds to more ideas, we must be ready to make more research and learn more. Sharing ideas with other crypto friends will also do us some good, sticking to just what we know will not add any value to us. Don't take a trade as a for better for worse, it isn't a marriage so be opened to new ideas and be willing to make research with an open mind.

How to avoid herd mentality bias.

Herd mentality bias can be avoided by making a decision not to stick with the crowd but choosing to make proper research on our own wherever necessary. We must convince ourselves enough that the fact that the majority is going in that direction does not make it the appropriate route.

How to avoid disposition bias.

Knowing how to set a stop loss is a good way to overcome this bias, irrespective of how good our speculations might be the market might still go the other way round so we need to stick with the option of setting a stop loss.

How to avoid anchoring bias.

One source of information cannot simply be accurate enough so there is a need to make more research and come up with a more accurate finalized decision from several sources.

What type of analysis can be used to monitor market psychology and trading psychology and why? Identify the differences between trading psychology and market psychology.

TECHNICAL ANALYSIS refers to the use of charts and indicators to identify the movement of the market and market psychology. There are several indicators that are referred to as Momentum indicators used to identify traders' behavior in the market. These indicators can be used to monitor the market psychology. Examples of technical indicators that can monitor the market psychology are Moving Average Convergence/Divergence (MACD), Relative Strenght Index (RSI), Money Flow Index (MFI), and Stochastic Oscillator.

Difference between Market Psychology and Trading psychology

Market psychology explains the behavioral and emotional representations of participants in the market at a given period of time. The outcome of participants' emotional behavior can be seen in the increase or decrease in the price of a crypto asset or in the movement of candlesticks on trading charts. Market psychology refers to the overall feeling of different traders which reflects in the numerous decision to either buy or hold a particular asset.

Trading psychology refers to the behavior of an individual during the course of making investment decisions. Trading psychology entails the mindset of a trader during the process of making an investment.

How can you measure market psychology using a crypto chart? Select 5 trading biases and explain with screenshots of any cryptocurrency chart how the biases can cause a coin to be oversold and overbought (Add watermark of your username).

Emotional Bias being measured with MFI

Money Flow Index (MFI) indicator is used to measure the ratio of buying and selling pressure in the market by traders. when there is an inflow of money in the market causing a large volume as well as a buying pressure by traders, MFI increases when there is a large selling position in volume followed by a pressure to sell, the MFI goes down. MFI is an Indicator combining Volume and price together. MFI is calculated from 0 - 100. When the MFI is above 80, it is overbought and when it is below 20, it is oversold.

Emotional Bias such as Greed, FOMO, can cause the market to become overbought as there will be more inflow of money and higher pressure to buy into the asset.

The MFI in the chart was at 86.31 and the price kept increasing which indicates that the market was overbought.

Herd mentality Bias monitored with MACD

MACD is a combination of two indicators, which are two Moving averages and a histogram. A coin that can show herd mentality Bias where people buy because others are buying is the SafeMoon token. Using MACD, it is easy to see the points where people keep buying even when the MACD keeps indicating and overbuy in the market.

Confirmation Bias monitored with MACD

There are several points where news will make traders get a confirmation of a move even though there might be a reversal over time but first, the news will cause either a rise or drop. For XRP, there has been a drop in the price with its SEC file and this caused a great drop in price this year even during the bull run. A good example is an oversold signal on MACD caused by traders selling at large.

Anchoring Bias Monitored with Relative Strenght Index (RSI)

This type of bias is very clear with DOGE. The price of DogeCoin went very high following Elon Musk's tweets on the coin and ever since it has been going up after news about Elon and Doge circulates. This is a one-sided type of news and although professional investors and traders are still skeptical about DOGE, people still buy till it became overbought while using the RSI indicator.

The RSI of Doge at the time reached 98.94 which is an overbought signal.

Trend-Chasing Bias monitored with RSI

When the bull run began, people wanted to get their own share of the pie and so people started buying into BTC so as to catch up with the moving train. This led to an increase in the price of BTC as well as a rise in the indicator showing an overbought signal. Traders who rushed into it were a little disappointed as the market has a correction of about $20k before continuing the trend.

In your own words, define the term efficient market hypothesis (EMH). List and explain the advantages and disadvantages of the efficient market hypothesis (EMH).

Information holds a very strong power in the determination of prices and beyond the use of fundamental and technical analyses, there is always a strong possibility of having an information that will strongly affect market price.

Advantages of Efficient Market Hypothesis (EMH).

Technical and fundamental analyst often makes cryptocurrency investment seem perfect and a point of quick rewards once they make what the analyst considers as a good investment. Efficient market hypothesis (EMH) makes it clear that the market is a game of complete speculation and no one can affirmatively determine what goes on there thereby saving particularly new investors from losing their money.

We will agree that social media is a strong tool for publicity of certain assets, efficient market hypothesis serves as a strong tool to make each investor understand the operations of the market and not fall victim to the noise on social media about the best asset to invest in.

The concept of EMH (Efficient market hypothesis) helps you in trusting your guts better rather than wasting effort and time studying charts and data which according to this hypothesis is a proper waste of time.

Disadvantages of Efficient Market Hypothesis (EMH).

Fundamental and technical analysis are a strong tool to making the right and accurate investment decision and disregarding these strong tools will lead to making a lot of investment mistakes.

The hypothesis of efficient market hypothesis (EMH), can be likened to gambling and the idea of cryptocurrency investment should be based on proper calculations and appropriate investment decisions. Following the hypothesis of EMH could be likened to gambling and a huge loss is unavoidable.

Conclusion.

Market psychology is formed as a result of the combined emotional behaviour of different traders.
The trading market is filled with so much risk but understanding the use of technical and fundamental analysis will make the path smoother.

There is a strong need for personal research, never fall victim to herd mentality bias, irrespective of what public opinion says personal research saves us from financial disasters.