It’s no secret that it’s essential to include alternative assets in an investment portfolio; countless speciality articles and research papers recommend it. Nowadays, cryptocurrencies are alternative assets, together with stocks and bonds, and millennial and Gen Z investors usually consider them worthy additions to their portfolios. Digital currencies have drawn the attention of the public and media over the last few years, and many wonder which one of them offers the best investment opportunity.
Bitcoin has been the most successful digital currency since its introduction on the market. Its security features have made it the most profitable and marketable cryptocurrency, despite being highly volatile. Even if it has registered abrupt price fluctuations over the years, the first digital coin ever launched on the market has become a good store of value and a suitable medium of exchange. Despite its volatile nature, investors continue to add it to their portfolios because it allows them to accumulate considerable returns. At the end of the day, investing in the oldest digital currency is an effective way to diversify an investment portfolio.
This article presents some arguments in favour of approaching Bitcoin as an investment. Let’s dive deeper into the subject.
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What should investors know about Bitcoin
Bitcoin has gained a reputation as a transformative technology which could revolutionise entire sectors. The impact it had on the financial industry triggered such intense enthusiasm around it that many describe it as being similar to religious fervour. Not few compared Bitcoin with religion because it has a unique set of acolytes, regulations, processes, and even a doctrine.
Bitcoin enthusiasts argue that because the blockchain will only produce 21 million tokens, its value will always remain higher than digital currencies that produce an unlimited supply. Many crypto investors see Bitcoin as an alternative to gold, which also has a limited supply. However, it’s easier to define gold’s value because it has several industrial applications, is a tangible asset, and is widely used for jewellery. Cryptocurrencies like Bitcoin, on the other hand, have a different set of perks because they enable anonymous micropayments, secure international transactions, and low-cost asset transfer. Bitcoin is described as a potential hedge against inflation because a limited number of tokens will ever be in circulation.
Bitcoin could play a crucial role in portfolio diversification, but its impact depends on the period the investors store it. The percentage of cryptocurrency in a portfolio also affects its profitability because many people would think the more profitable asset, the better. However, it’s crucial to remember that digital currencies are highly volatile assets and the key to securing a portfolio against market fluctuations is to limit the amount of risky assets. A 10% Bitcoin would boost a portfolio’s deviation by a moderate amount. If you want to buy Bitcoin, approach it as any other investment that requires a plan to increase the probability of gaining returns. In the process, expect to lose some money and a portion of your principal asset because welcoming a new asset to your portfolio impacts all the other actors.
What should investors do to manage their portfolios?
Ensure they’re comfortable walking away from their principal asset
Seasoned investors know that when an asset doesn’t have a history of being a trustworthy store of value, it’s categorised as high-risk. However, not all high-risk assets offer high returns, and there’s always the chance that the profit comes at the expense of a high probability of loss.
The majority of cryptocurrencies have been created as utility tokens, and there’s nothing to back them. Their value relies solely on the blockchain network effect (how many traders use them and how many active users are on the network). Their core characteristics make them inherently volatile, and Bitcoin makes no exception. The volatility is multiplied by the fact that several altcoins compete with Bitcoin.
In the beginning, have no more than 5% of their net worth in crypto
It doesn’t really matter if the investor decides to buy only Bitcoin or several cryptocurrencies to diversify their portfolios; they should ensure their crypto allocation is below 5% of their net worth. They could later increase the percentage of cryptocurrencies in their portfolio if they decide they’re open to taking on more risk. But in the beginning, it’s best to maintain the amount of risky assets to a minimum because they must identify their risk preferences. Research is also crucial because it provides them with knowledge on how to trade digital coins and how much of their funds they should allocate to each of them. Assuming the remaining 95% of their assets are well-diversified across the asset classes, they should experience no dramatic losses.
They should remember to rebalance
What should an investor do if, one day, Bitcoin’s value spikes and they have more than 10% of their net worth in crypto? They should follow the same rule as with any other asset, sell off the earnings and rebalance their asset allocation by investing the funds in other assets to ensure they maintain the established asset allocation across their portfolio. Following this advice is crucial because it prevents concentration risk (an investment can compromise the overall portfolio’s well-being). It’s crucial to evaluate all assets in the portfolio half-yearly to ensure you maintain the established balance.
Never borrow money to buy crypto
Borrowing money to buy Bitcoin or invest in another asset is a double-edged sword because it can magnify losses or returns. Bitcoin has high volatility, and the market can move up or down at any given moment. When the token experiences several consecutive days of losses, the market faces a drawdown. Investors should use only the money they afford to lose to buy cryptocurrencies and diversify their portfolios. While diversifying the portfolio with a digital asset can strengthen its defences, it can also weaken them. Bitcoin is a volatile security, and it’s never wise to put money into it if the investor isn’t comfortable with losing it.
