Many novice traders and not-so-novice traders fall into the trap of following the old scheme of "buying when the market falls and selling when it rises." Perhaps at some point it worked because it is relatively easy to apply by the mass of the market; however, this does not represent the return that one could expect to live off trading.
Moreover, although it sounds logical, this simplistic strategy can lead to significant losses in the long term. Why? Because it does not consider key factors such as risk and expected return of the assets. Choosing assets at random or relying solely on emotions can be a direct path to failure.
Instead, there is a proven method that can help you build a solid and profitable portfolio: Mean-Variance Optimization (MVO). This approach, developed by Harry Markowitz, uses key metrics to select assets that maximize expected return while minimizing risk. Do you want to know how it works?
Let's quickly review:
What is the MVO method?
It is a widely used technique to maximize the expected return of a portfolio given a level of risk or, alternatively, to minimize risk for a level of expected return.
In less technical words, the goal of the technique is to seek optimal performance in a portfolio based on certain metrics and not on the simplistic method of buying low and selling high:
Expected return (mean): Calculate the historical average return of each underlying asset. This can be done by analyzing the historical prices of the asset.
Risk (variance or standard deviation): Measure the volatility of the historical returns of the asset. The higher the volatility, the greater the risk.
Covariance between assets: Assess how the returns of the assets move relative to each other. This is crucial for determining portfolio diversification.
Additionally, this method considers the correlation between assets, which means it seeks to combine assets that do not move the same way. This reduces the overall risk of the portfolio.
How to build a diversified portfolio with stocks and cryptocurrencies:
Select your assets: Choose a combination of stocks and cryptocurrencies that interest you. For example:
Stocks: Apple (AAPL), Microsoft (MSFT), Tesla (TSLA), Amazon (AMZN), Coca-Cola (KO).
Cryptocurrencies: Bitcoin (BTC), Ethereum (ETH), Binance Coin (BNB), Solana (SOL), Cardano (ADA).
Collect historical data: Obtain the historical prices of these assets (you can use platforms like Yahoo Finance for stocks and CoinMarketCap for cryptocurrencies).
Calculate key metrics:
Average return: Calculate the average daily or monthly return of each asset.
Risk (standard deviation): Measure the volatility of returns.
Correlation: Assess how the movements of the assets relate to one another.
Optimize your portfolio: Use tools like Excel (with Solver) or Python to calculate the optimal combination of assets that maximizes expected return for an acceptable level of risk.
Evaluate and adjust: Review your portfolio periodically and adjust the weights according to changes in the market.
As a practical example: 10 assets located based on the previous metrics.
Let's assume you select the following assets for your portfolio:
Stocks:
Apple (AAPL)
Microsoft (MSFT)
Tesla (TSLA)
Amazon (AMZN)
Coca-Cola (KO)
Cryptocurrencies: 6. #bitcoin (BTC) 7. #Ethereum (ETH) 8. Binance Coin (BNB) 9. Solana (SOL) 10. Cardano (ADA)
By applying the MVO method, you might discover that a balanced portfolio allocates 60% to stocks and 40% to cryptocurrencies, with specific weights for each asset according to their performance and risk. For example:
Apple: 20%
Microsoft: 15%
Tesla: 10%
Amazon: 10%
Coca-Cola: 5%
Bitcoin: 15%
Ethereum: 10%
Binance Coin: 5%
Solana: 5%
Cardano: 5%
This diversification reduces the impact of cryptocurrency volatility and takes advantage of the stability of stocks.
Why is this method better than buying and selling based on emotions?
In every book and video you always hear that you must learn to control your emotions, work on your mindset, but they omit a great truth: IT'S NOT ENOUGH. You are competing with the best in the market in a zero-sum game.
This change of perspective was made clear to me by a trader with a simple phrase: psychotrading comes after, not before understanding what you are doing in the market.
It's not that you need to study every trading book that crosses your path, but study the right books, learn what really works and discard what doesn't. However, for this, you must move away from even old conceptions about trading that tell you that trading is easily achieved, and that money is made quickly, that it will make you a millionaire without effort, that by trying every day someday you will get lucky. But unfortunately, this will only ruin you and will likely take you out of the game.
With time and study (correct, I am still doing it) and quite a few blows to the ego, and brutal honesty on your part, discovering that I had been digging my own grave for years, I realized why you claimed what you claimed.
When you buy or sell any type of asset, not by the adage of selling high and buying low, but by a set of factors that together yield the data you need to make the best decisions, that's when your game starts to change. When you focus your "investments" or your buying and selling on what others do, on your opinions or guesses, rather than on what you can do according to mathematics and probability, regardless of how the market looks, is when you begin to see how the numbers change in your favor, knowing that you will not always be right, but it will give you a long-term advantage to stay afloat and profitable.
So, although it sounds difficult (because it is like any career), when you are on the right path, what remains is to move forward with the peace of mind that you are doing it right.
Therefore, keep in mind, before entering a trade, the following pillars, and let this only be the beginning to make trading your profession and not a simple game of roulette, not by luck:
Data, not emotions: The MVO is based on objective metrics, not on impulses or market rumors.
Volatility: Combines assets with different levels of risk, according to their volatility.
Long-term performance: Instead of chasing quick profits, this method helps you build wealth sustainably.
The same should apply to trading when you decide to adjust the size of your position, your level of profit and risk to start seeing your real progress, based on data and not because TODAY YOU FEEL LUCKY AND WANT TO RISK IT ALL.
In conclusion:
This is just the beginning; we improve not by the successes we start to have but by the quality of the questions we ask ourselves while failing and how efficiently we can learn to resolve our trading errors.
Putting aside the old scheme of "buying when it falls and selling when it rises" is a first step to level up.
Using a data-driven approach, such as Mean-Variance Optimization, will allow you to make decisions based on metrics and not on hunches, impulses, or events like crypto launches, FOMO, and other market situations that we simply cannot control but can learn to manage.
As trader Mariel Lang said: "What really matters is not avoiding drawdowns, but ensuring that you can always stay in the game. Survive."
See you in the market 💰
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