Why technical analysis won’t work for Bitcoin

By the Australian Bitcoin Review

Before we get started, this isn’t your average Bitcoin trading strategy, but rather a lesson on market sentiment and why it rules the current cryptocurrency space. Many believe that technical analysis applies to cryptocurrencies, and they are right to a certain extent. Although, technical analysis requires years upon years of data in order to apply it to an asset, a history we simply don’t have with bitcoin.

Technical analysis was engineered on the back of years of historical data. If we take a look at the early 1800’s , when the stock exchange was first developed, there was no form of technical analysis. There was no true way to predict the market because there was limited historical data. Add to the mix limited regulation and price manipulation, and you get a very similar result to the cryptocurrency market we have today.

To trade in the 1800’s you needed to find a stock broker to carry out the trade manually, papers were signed and you went home with your paper stock. Because of communication and transport boundaries, the data from that sale would take a long time to translate itself into the market price. What this meant is that the Data could be hours or days behind what the current market was showing, so people could not rely on a stock price as actual fact. So what data do you rely on when you don’t have valuable historical data to conduct market analysis ?

The answer is market sentiment

Market sentiment is the overall attitude of investors toward a particular security or financial market. Market sentiment is the feeling or tone of a market, or its crowd psychology, as revealed through the activity and price movement of the securities traded in that market.

This attitude is what ultimately drove markets in the early days of trading, crowd psychology could be derived from casual conversation with friends, the newspaper, coffee shops, large gatherings. To many, market sentiment was the only market data available. If the crowd mentality was bullish on a particular stock, you could bet your bottom dollar that this would eventually be reflected in the market price, with the exception of manipulative influences. This is why some of the best early traders where philosophers or economists, to them, judging market sentiment was second nature.

When applying sentiment to the market, you are using a form of fundamental analysis. Don’t know the difference between fundamental analysis and technical analysis? Read below:

Fundamental analysis attempts to evaluate the intrinsic value of a security. This is derived from the study of everything from the overall economic and industrial conditions, to the financial condition and sentiment. Fundamental analysis is one of the earliest forms of analysis.

In Technical analysis, the stock’s price and volume are the only inputs, with the assumption that all fundamentals are already factored into the price. Technical analysts ignore intrinsic value and focus on charts to identify patterns and trends. Reliable Technical analysis indicators did not come into fruition until there was years of historical data to model against.

The Technical analysis indicators we use today were designed for the stock market by analysts trading on the stock market, so how can we consider these reliable when applying them to crypto-markets?

Simple answer? You can’t. The cryptocurrency market has only been around for 9 years, and therefore, there is no possible way to test modern day models against the cryptocurrency market.

Why use sentiment?

Below is a chart that illustrates market sentiment through google trends and the bitcoin price chart for the last year. Both charts are from June 2017 to current. What we can begin to see is that while bitcoin sentiment grew, so too did the bitcoin price. In fact in some instances the google trends chart leads the bitcoin price chart.

Another chart illustrating 7 year history

7 year sentiment of bitcoin

As you can see, if you were to use the sentiment of bitcoin from google trends and action a trading decision, you would of made a nice profit, if you pulled out before the market slumped, but google can tell you this in realtime.

Tools for evaluating market sentiment

So what tools do we have for evaluating the current sentiment of bitcoin?

Luckily we live in an era where the internet is full of useful tools that can depict data derived from social media and search engines. I have listed some of these tools below.

Social Mention

Social Mention is a pretty basic tool that can evaluate the amount of times a specific term is mentioned on the internet. It can process this data and produce a sentiment rating in the form of a ratio. This can be useful in gaining an insight into how many times the term bitcoin is mentioned.

Google Trends

As illustrated above, google trends is useful because it can produce search term data in the form of a table which you can then use to evaluate market sentiment. The beauty of google trends is that you see the data in realtime and get a feel for the current market sentiment.

Sentiment Viz

Sentiment Viz is a twitter data analysis tool that can show you the sentiment of a current phrase on twitter. Input the term “Bitcoin” or “crypto” and get realtime twitter sentiment.

Keyhole

Keyhole is similar to sentiment viz, in that it evaluates twitter mentions for a specific term, the difference being that it can produce charts and tables to illustrate if the current sentiment is neutral, positive or negative.

Conclusion

Hopefully you have learnt something from this article and can understand why fundamental analysis and market sentiment will be a more valuable form of market analysis when assessing the crypto market. Technical analysis does have its uses, especially in the stock market, and I am sure it will have its use in the cryptocurrency market once the market is mature enough to backtest any technical models. Until then, use the above tools and please always do your own extensive research before investing in any asset class. Want to learn more strategies? Visit the Australian Bitcoin Review.