The introduction of spot Bitcoin ETFs has brought Bitcoin closer to the center of the traditional investing world. No longer does one need to know how to set up and manage a crypto wallet in order to invest in or trade the senior cryptocurrency. And no longer do traditional mom and pop investors need to worry that someone is going to hack their crypto exchange and take their assets along with everyone else’s. Because we expect to see more regular investors interested in Bitcoin, we also expect to see a smaller proportion of crypto true believers intent on holding Bitcoin through thick and thin with the belief that it alone will survive as a viable investment asset into the distant future. That being the case, where does Bitcoin fit into a balanced investment portfolio?
Bitcoin ETFs and Portfolio Sector Rotation
A traditional investing strategy is to “rotate” funds out of one stock market sector and into another based on how the economy is expected to affect different types of businesses. For example, when interest rates are likely to go up prices of many stocks will fall while bank stocks commonly go up. This is because higher rates commonly depress the economy and reduce corporate income. A common exception is banks which can charge higher interest rates and make more money in such economic times. Thus an investor may “rotate” part of their portfolio out of what they consider to be riskier investments and put their money in big bank stocks like Bank of America or Wells Fargo. When rates are expected to go down the opposite will often occur. So, where do Bitcoin ETFs fit into this picture?
Rotation Out of Spot Bitcoin ETFs
A Bloomberg article noted that there had recently been the biggest Bitcoin funds outflows since these investment vehicles came on the scene. Part of this rotation out of Bitcoin is mom and pop investors and much of it is big investors moving large chunks of crypto assets. In both cases the investors apparently think that the Bitcoin recovery has exhausted itself and that their investments do better in other sectors. In the last month or so Bitcoin has fallen by $10,000 from $71,000 while the S&P 500 and Nasdaq have been cruising along at all-time highs. Nvidia briefly became the most valuable company in the world, passing Apple and Microsoft to be the most valuable company in the world by market cap. It is now one of three companies with more than $3 trillion in total stock value. While folks who invested in Bitcoin at the start of the year have seen gains of about 33%, folks who bought Nvidia’s stock have tripled their money! Folks who think that Nvidia, which occupies the prime position in the AI world, has more room to grow are likely rotating out of Bitcoin and into investments like Nvidia.
Where Do Volatile Investments Fit in a Balanced Portfolio?
Balanced portfolios traditionally consist of equities, bonds, and even commodities. The idea is to “balance” risk with income potential for optimal performance over the long term. Most folks who invest do not “play the market” like we referred to in our article several years ago about intrinsic stock value. What they want is to put money away for retirement or simply put their savings in some sort of vehicle that makes a better return than passbook savings at their local bank. What most folks do not have the time for or the expertise to do is time the market to make optimal profits.
During periods of low interest rates, like most of the time from 2010 to 2020, interest bearing investments merely marketed time against inflation or even lost ground. Meanwhile, stock investments like ETFs that tracked the S&P 500 did much better. Bitcoin and much of the crypto world were also a great place to put your money until they were not. Folks who went the S&P 500 ETF route did pretty well as they tripled their invested money in three years at the start of 2020 and are up five-fold today. Because the upward movement of the S&P has been steady, except for the Covid crash and correction due to the Fed raising interest rates, folks could have invested at any given moment and expected to see their investments keep going up.
The problem with Bitcoin and other crypto assets in an otherwise-balanced portfolio is that they add a large measure of short term risk. Folks who have paid attention over the years to Bitcoin performance are concerned about the price spike in 2017 followed by a collapse and the two spikes and collapses in 2021. They may be forgiven if they look at the current price spike and worry about there bring another collapse before Bitcoin recovers again.
As such if one believes that over the long term Bitcoin will simply keep going up despite its price volatility, the best approach for investing one’s money is probably a dollar cost averaging approach in which one puts a set amount of money into a spot Bitcoin ETF every payday, month, or quarter and leaves their investment alone. To the extent that one may need to use their investments soon for retirement, kids going to college, or a new business, it would be wise to put a strict limit on what proportion of one’s portfolio is invested in this potentially risky asset so that the majority of one’s portfolio value does not simply disappear exactly when one needs it!
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