It seems like everywhere you go these days, people are talking about bitcoin and cryptoassets.
If you’ve tried to discuss bitcoin and cryptoassets with your financial advisor, you’ve probably been dismissed with comments about Ponzi schemes, tulips, and fraud. Aside from the disruptive nature of these assets to the current financial status quo, many of these dismissals are due to Wall Street’s inability to recognize the depth of work and talent involved with these assets and the companies working on them, concerns about compliance and regulation, and the reality that investment firms haven’t yet figured out how to make money from these assets.
This is unfortunate for investors who, along with missing out on potentially huge investment returns, are missing out on an asset that can effectively be incorporated into their portfolio.
In 2013, I was a financial journalist writing about retirement who became very interested in the concept of bitcoin (I wrote one of the first books on the topic, What’s the Deal with Bitcoins in 2014). After learning about the concepts of the blockchain, distributed ledger, and the potential for digital currencies to help many people across the globe who are unbanked or must pay high costs for sending money home, my interest focused on the potential for bitcoin to be included into an investor’s portfolio.
Personally, I’m a prudent investor and someone who is closer to the distribution phase of retirement than his accumulation phase, so I wanted to do this from the context of an investor and not as someone simply looking for a “moon shot” speculation. So, I decided to focus my attention on understanding how bitcoin could fit into my current asset allocation to help me hit the goals I had for my retirement accounts, and thus began my long journey into cryptoassets.
At the time, just considering bitcoin as its own asset class was a stretch. This was well before Chris Burniske and Adam White produced their white paper on bitcoin as a new asset class (published in 2016 and updated in 2017). In their white paper, the authors made the case that bitcoin fit the classification of being an asset class based upon these aspects. They wrote: “…we think that an asset class must be sufficiently investable, providing ample liquidity and opportunity to invest. Second, it should have a distinct politico-economic profile that arises from its basis of value, governance, and use cases. Third, an asset’s market value should fluctuate independently of other assets in the marketplace, exhibiting low correlation of returns. Lastly, the prior three characteristics should lead to a differentiated risk-reward profile, which can be broken down into absolute returns and volatility. Combined, these four characteristics clarify which assets belong in each class.”
My journey to find a place for bitcoin, and ultimately other cryptoassets, in my portfolio back in 2014 didn’t have the benefit of Burniske and White’s insights. Instead, my focus was on the aspects of identifying what constituted an alternative asset, which had become a growing portion of investors’ portfolios. At the time, there had not been much written about bitcoin as an investment for one’s portfolio nor was there many investment options. Thus, my journey began to find a potential investment to place in my retirement account. Ultimately, I placed my actual SEP contribution into the Bitcoin Investment Trust in 2014 when it was solely available to accredited investors and a year before it would be available to all levels of investors. You can read the full series of articles on this here.
Much of the increase in alternative assets in investor portfolios was due to the focus of many investment firms to incorporate assets into asset allocation models that provided non-correlation to traditional assets such as equities and fixed income.
After the crash of 2008, many investors wanted options to protect their overall portfolio from future drastic swings in these assets. Alternative assets had proven to provide non-correlation to traditional assets, and included such investments as gold, real estate, fine art, and hedge funds. Many hedge funds had achieved extraordinary returns in the downturn of 2008. These investment vehicles allowed high net worth individuals and endowment funds to invest in the portfolios of Paulsen and Simons, which although illiquid and lacked transparency, achieved above market returns along with high fees.
Morgan Stanley and Merrill Lynch produced asset allocation models for both high net worth and traditional investors that provided recommendations for around 20% of a portfolio to be positioned into alternative assets. The growth of the ETF model and the inclusion of gold, energy resources, and real estate into these holdings provided an easy way for all investors to gain access to alternatives in their portfolio. A survey in 2015 among financial advisors found that they had placed 73% of their clients in alternative investments and that three quarters of advisors planned to maintain these allocations for their clients.
So, could bitcoin fit the model of being an alternative asset? One of the major functions of an alternative asset is to provide a level of non-correlation to other assets, which would then provide a lower level of risk in a portfolio. In the book, Cryptoassets: The Innovative Investor’s Guide to Bitcoin and Beyond, which I co-authored with Chris Burniske, we look at not only how bitcoin can provide non-correlation with other assets to lower overall portfolio risk (special thanks to Harry Markowitz and his work on Modern Portfolio Theory), but also how well we would be rewarded for taking on the risk of bitcoin itself by examining the Sharpe Ratio.
Ultimately, what we found was that bitcoin is an asset that’s non-correlated with other asset classes, including equites and bonds. However, the good news doesn’t stop there. Portfolios with even a small percentage exposure to bitcoin, would have been rewarded for taking on this risk with higher beneficial Sharpe Ratios than even the FANG stocks. (Those would be Facebook (FB – Get Report) , Amazon.com (AMZN – Get Report) , Netflix (NFLX – Get Report) , and Alphabet/Google (GOOGL – Get Report) .
In 2014, I invested my own SEP funds in the Bitcoin Investment Trust, which now trades as GBTC and is available for all investors. In 2016, I wrote of how that investment had become the best investment in my portfolio. After a 1000% gain just during 2017 alone, it’s clear that the investment has significantly helped me to bridge any gaps that may have existed for me in my retirement funding goals
Since that time, I’ve been focused on further examining the concept of bitcoin and the rising numbers of cryptoassets (there are over 1,000 of them) as investment vehicles. This has led me into exploring ICOs, or Initial Coin Offerings, which are ways in which small blockchain related start-ups can fund their efforts and reward investors who invest in these coins (similar to the IPO process).
Along with direct investments in bitcoin and ICOs, I’ve been an angel and early stage investor to numerous startups in the crypto space. I mention this not to tout any returns I’ve had (like other investments, I’ve had winners and losers), but to remind readers that there are many ways to get involved in the cryptoassets market.
These are opportunities that your financial advisor or investment firm will probably not bring up to you; they are still involved in dismissing it all as a Ponzi scheme or another Tulipmania (in our book we address these criticisms directly). However, opportunities abound for those we refer to as innovative investors — those individuals who personally do their own due diligence, utilize time tested portfolio and planning tools like MPT and asset allocation, and are willing to see potential in investments that can have a significant impact on the current status quo (let’s include autonomous cars, AI, and virtual reality into the mix as well).
Watching the developers and business models entering the cryptoassets space over the past two years has made me tired of hearing the Jamie Dimons of the world protect the financial status quo with uneducated remarks about “blockchain, not bitcoin” and simply call it a fraud. Ultimately, this is not productive for investors and advisors as it detracts them from recognizing the valid business models and use cases being built around bitcoin and the blockchain model. These dismissive distractions will lead an investor to miss not only the rise in the value of bitcoin, which is a disruptive force to the financial systems of today, but also the growth of ICOs which are disrupting the entire capital market funding method for startups.
Banks and investment firms protecting their own turf may make news with their dismissive comments, but at some point, investors will begin discussing with their advisors why they weren’t told about an investment (yes, it’s an investment) that has risen 1,000% since January of this year. They’ll also wonder why a firm like Fidelity is willing to include bitcoin balances as part of a client’s net worth, while the rest of Wall Street chuckles at any mention of it.
The addition of trading bitcoin futures is one method for investors to get involved in the investment opportunities available for cryptoassets. As 2018 approaches, I’ll venture to say that the possibility is good for other investment vehicles for all levels of investors around bitcoin and cryptoassets will come to market. The long wait for a bitcoin-based ETF may be over, as well as ETFs that go beyond bitcoin to include investments in other cryptoassets. The high net worth investor will find many avenues to invest in start-ups, ICOs, and hedge funds as accredited investors. Whether they are brought to you by your financial advisor or not, recognize that there are currently a growing number of options for accredited investors.
Since I began my bitcoin journey in 2013, I’ve heard the same old tired calls from banks, investment firms, and advisors dismissing it as a fraud and a fad. It’s wearing thin, and frankly, is not fair to investors. If you’re willing to do your own work and understand the risks involved, I invite the innovative investor to get off the sidelines and take a jump down the cryptoassets rabbit hole. In addition to the increased availability of investment vehicles, you’ll find some of the most innovative technology companies are using the blockchain and cryptoassets to solve real life use cases that will change the way the world does business, and potentially make you some money.
The year 2018 will be an interesting time for investors to take advantage of the many opportunities that will exist. If you wait for your financial advisor to bring them up to you, you may end up waiting a long time.
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