Crypto Trading 101 | Effect of Fees on Investment Returns

Discover how trading fees impact your crypto investment returns and learn effective strategies to manage them for maximizing profitability in crypto trading.

Cryptocurrency trading has become increasingly popular in recent years, attracting both novice and experienced investors looking to capitalize on the potential gains in the digital asset market.

While trading cryptocurrencies can be lucrative, it's essential to understand that various factors can impact your investment returns.

One of the most significant factors to consider is the effect of trading fees on your overall returns. In this blog post, we'll explore how fees can impact your cryptocurrency investment returns and provide some tips on how to manage them effectively.

Understanding the Types of Fees

Before we dive into how fees can affect your investment returns, let's first understand the different types of fees commonly associated with cryptocurrency trading:

Trading Fees: These fees are charged by cryptocurrency exchanges for executing buy and sell orders. They are typically expressed as a percentage of the trading volume. The exact fee structure can vary significantly from one crypto exchange to another.

Withdrawal Fees: When you transfer your cryptocurrency holdings from a crypto exchange to your personal wallet, you may encounter withdrawal fees. These fees are often based on the specific cryptocurrency you're withdrawing and the amount.

Network Fees: Network fees, also known as transaction fees, are required to process cryptocurrency transactions on the blockchain. These fees are paid to miners to validate and record your transactions. They can vary depending on network congestion and the cryptocurrency you're using.

Margin Trading Fees: If you engage in margin trading, where you borrow funds to increase your trading position, you'll incur interest charges on the borrowed capital.

The Impact of Fees on Investment Returns

Now that we understand the types of fees, let's explore how they can affect your investment returns:

Reduced Profit Margins: Trading fees directly reduce your profit margins. Even a seemingly small trading fee can add up over time, significantly impacting your overall returns, especially for frequent traders. It's crucial to factor these costs into your trading strategy.

Higher Break-Even Point: When you buy a cryptocurrency, it needs to appreciate in value enough to cover the trading fees before you can start making a profit. The higher the fees, the more the asset's price must increase to reach the break-even point.

Examples Fess Impact

First, let's examine a Simple Moving Average (SMA) crossover strategy on the 4-hour (4H) chart. This strategy relies on two simple moving averages: a shorter one and a longer one.

A buy signal is generated when the short moving average crosses above the long moving average, while a sell signal occurs when the short moving average crosses below the long moving average.

For our example, we'll use the classic pairing of the 50 SMA as the short moving average and the 200 SMA as the long moving average.

When applying this strategy to Bitcoin (BTC) from August 2011 to November 2023 on the 4H chart, it yields an impressive 218,000% return, assuming you trade the entire amount without incurring fees.

Now, let's introduce a 0.1% fee per trade into the equation. Under these conditions, your profit would be 189,000%, which is only slightly lower. This marginal difference arises because this strategy doesn't trigger numerous transactions—only around 150 in total.

Now, shift your focus to the 5-minute chart, maintaining the same strategy. Without any fees, this strategy delivers an astonishing 2,104,142% return.

However, once the 0.1% fee per trade is factored in, your profit dwindles to a mere 1,000%. This dramatic decline in profitability is primarily due to the 5-minute timeframe generating over 7,000 transactions.

It may sound like a substantial volume, but over time, this translates to just 1.5 transactions per day—a far cry from the activity of many traders.

Consequently, if your strategy involves even more frequent trading, the impact of fees on your profitability will become even more pronounced. It's imperative to bear trading fees in mind when designing and backtesting your strategy, as they can readily transform a profitable approach into an unprofitable one.

Managing Fees for Better Returns

To maximize your cryptocurrency investment returns, consider the following strategies for managing fees effectively:

Choose the Right Crypto exchange: Research and compare fee structures across different exchanges. Opt for crypto exchanges that offer competitive trading especially fees and preferably lower withdrawal fees.

Leverage Fee Discounts: Some crypto exchanges offer fee discounts for high trading volumes or loyalty programs. Take advantage of these discounts to reduce your overall trading costs.

Stay Informed: Stay updated on changes in fee structures and network fees for the cryptocurrencies you're trading. Network fees can fluctuate significantly based on demand and network congestion.

Bottom Line

Fees are an integral part of cryptocurrency trading, and they can have a substantial impact on your investment returns.

By understanding the types of fees, their effects, and implementing trading strategies to manage them effectively, you can enhance your chances of achieving profitable outcomes in the volatile world of crypto trading.

Always remember that every trading decision should be made with careful consideration of the associated costs to optimize your investment returns.