Sharpening the Knife

A mental primer to optimize for decision making efficiency

It is no secret that crypto currently represents the frontier of technological innovation. With the onslaught of both human and financial capital making its way into the industry, it would be overly optimistic to assume that one person alone would be able to keep up with the developments of the entire industry.

12 months ago, the game was relatively simple. Find underfollowed DeFi tokens on Ethereum before the majority of the market did and profit when the capital eventually rotated. Returns were thicc and the opportunity set was identifiable. Today, we have a myriad of different verticals (DeFi / GameFi / NFTs) blossoming in multiple ecosystems (SOL / AVAX / ETH / LUNA etc).

Given the plethora of information present, identifying signal from noise is the single most important skillset in driving returns. Whilst that skill cannot be taught (one must experience the trials and tribulations of the market for themselves), I’ve often found it helpful to develop a process that eliminates unnecessary decisions. Below are a couple of mental hacks / lessons learnt from someone who has been studying the crypto markets for the past 18 months.

Simplification is key

For 99% of investors, annual performance can be attributed to 2-3 specific decisions. Long $SOL or $LUNA in January? Discover Axie at $1? Rotate away from DeFi 1.0 after the Q1 2020 pump? Each of those decisions could have easily been enough to make your year if you were a professional money manager, or 10x your net worth as a retail investor. Hindsight is 20/20 but the point remains - there are only a few crucial crossroads every investor faces that reflect the lion’s share of their returns.

The tricky part then is to identify these crossroads in real time. Everyday we make countless decisions and thus, it is impossible to know for sure when one of these decisions is upon us. However, exceptional investors / traders eventually grasp some this in some form (be it conscious or subconsciously). I by no means have a crystal ball or a differentiated edge, but often I find that pruning decision trees will allow for a clearer mindset - one that has a better chance at realizing opportunities that present themselves when they appear.

Thinking in bets

At it’s core, open market investment positions reflect a contrarian commitment to a particular idea. They express the belief that the market is wrong, but that over time the market will reprice the asset in accordance to the investor’s expectations. Each investment has 3 main stages, each with its own set of decisions.

• Stage 1: Entry - Is this a good investment? How large do we size this position?

• Stage 2: Monitoring - Is the thesis playing out? Should we be changing our position in light of new information?

• Stage 3: Exit - Should I cut the position because I’m wrong? Should I cut the position because I’m right and the thesis has played out? Should we sell the entire position or only a portion?

The simplest way to reduce the # of decisions is to minimize the number of active positions within a portfolio. A good rule of thumb is to not have more than 10 active positions open. By doing so, you force concentration and conviction amongst your holdings via an element of scarcity.

• Is Token A a better investment than my current top 10 positions?

This direct comparison provides a clearer risk / reward framework for evaluating new opportunities. Apart from # of bets, bet sizing is equally important. A good framework I fall back on is the 2/20 rule:

• Exploratory - 2% of the portfolio

  • Imagine you first discovered a promising new token and believe it is the future of finance. You do a bit of DD, sum up what you know and what you need to find out, and in general feel pretty good about the bet.

  • 2% is enough to keep you engaged (10x = 20% return), but small enough that if you’re wrong, it’s a bee sting to your overall pf.

• Balls Deep - 20% of the portfolio

  • After getting more excited about your new position, you go down the rabbithole hard and cover all the due diligence bases. You’ve developed a clear thesis with actionable catalysts and are ready to make life changing wealth.

  • Whilst you can always go larger than 20%, a 10x results in doubling your pf. If you hit a homerun (50-100x), this one bet is enough to make your year.

  • In the off chance you’re wrong, you lose a limb but live to fight another day - and that’s what is most important. No single bet will take you out of the game.

The impulse to long

The cryptocurrency markets are a tricky thing. When every moment is spent in search for dopamine highs, we often blind ourselves to the bigger picture. Aside from continuously battling the PvP markets, you’re also battling your inner demons, Greed & Fear. For me, being exposed 24/7 has left undesired side effects to both mental and physical health. I’ve found that in order run at peak capacity, mental breaks away from markets are necessary. Personal experience has shown me that a 2 - 3 day break yields the best results. Long enough for the mind to settle, but short enough such that you don’t miss an entire crypto bull and bear cycle.

Our goal as investors is to maximize return over the long term. This does not mean that we need to maximize returns every waking moment. Mental breaks are key in resetting dopamine levels and emotional highs / lows, which allow clarity of mind & discipline for optimal decision making.

Discipline

One of the most underrated aspects of investing. You can have the most detailed plan or the most well thought out framework and it’s worthless if you cannot stick to the plan. This is a topic I’m still grappling with and have paid the price for recently. Execution of the plan is almost as important as the plan itself. Long something and it’s hit your stop loss? Cut the trade. Catalyst over and the price has not moved up? Kill the position. It’s easy to construct bullish narratives and price targets. It’s hard to develop and execute fallback plans if things go south. Funnily enough, this is also the most important process to have that will save you when markets turn against you.

In crypto, we are often trained to think ‘What is the moonshot scenario?’. We fixate on the potential returns of an investment (10x? 50x? 100x?) because it’s the most exciting thing to focus on. However we must also plan for undesirable outcomes. ‘What if I’m wrong?’ is a question I’ve noticed market participants don’t ask nearly enough. Do you have a framework for processing what happens if prices move against you? Can you reliably cut positions when you need to? Nobody really likes to admit when they’re wrong, but in this game even the best investors are wrong ~40% of the time. Failing to have a plan for 40% of outcomes is setting yourself up for eventual disaster.

The Journey, not the Outcome

At the end of the day, investing is a long term process. Crypto markets often skew this fact with remarkable 1000x moonshots that deceive the common man. Lucky market participants will come and go, but the ones who focus on the methodology, consistently iterating frameworks and perfecting the process will stand out over time. The seeds you sow today will be reaped multifold in the future.