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Should You Put Out Feelers For Bitcoin and Other Cryptocurrencies?

2021-08-24

Main Takeaway

  • Institutional investors are showing more interest in cryptocurrencies following long-term price appreciation and mainstream adoption of Bitcoin. 

  • Asset managers plan to increase their exposure either by directly buying cryptocurrency or by investing in firms and stocks that benefit from cryptocurrencies.

  • In this article, we address some of the popular questions that many retail investors have. Should you dip a toe into Bitcoin and other cryptocurrencies?

For a long time, the major players in the cryptocurrency industry were retail investors, but today, the question making the rounds amongst asset managers is: who is yet to add cryptocurrency to their portfolio?

Several factors contributed to this change of view. Traditional finance, historically, has been unfriendly to cryptocurrency. Ten years ago, most hedge funds didn’t consider cryptocurrency as a viable investment option. Contrary to the stability and manageable risks offered by the stocks and bonds that they were used to, Bitcoin looked complicated, was new, extremely volatile, and unknown in financial circles.   

It wasn’t that trust managers were averse to new technologies; it was just wise to avoid new, untested, highly volatile technologies following the burst of the dot-com bubble a decade earlier. Bitcoin didn’t conform to the norms of traditional finance, and although its potentials were much touted by enthusiasts, support and global adoption were not commensurate with this sentiment.  

Today, a lot has changed in the industry. For one, adoption has improved significantly. There is widespread usage of cryptocurrencies for transborder payments, and an increasing number of people see Bitcoin as a store of value and a hedge against inflation, as well as the pandemic-induced weakness in traditional currencies. Monthly crypto trading volume hit $2.3tr for May 2021, up from the high of $346bn recorded in December 2017, figures from TheBlockCrypto show.  

In addition, more mainstream entities have embraced cryptocurrencies and are providing crypto services to their customers. Enterprise firms like Tesla hold Bitcoin while Microsoft, Overstock and Starbucks now accept cryptocurrency as a payment method. Money merchants such as Paypal and Square also allow users to buy cryptocurrencies via their platforms and the US Office of the Comptroller of the Currency (OCC) has granted banks the permission to offer crypto custody services to customers.

There’s more coverage about cryptocurrencies on mainstream media. Tech bigwigs Elon Musk and Jack Dorsey openly state their support for Bitcoin, and a number of crypto critics have changed their minds about the technology. 

Getting started with cryptocurrencies is easier than ever today. The cryptocurrency ecosystem has expanded significantly, but there are still existential risks in crypto investments, mainly due to its volatility and vulnerability to speculations. 

However, cryptocurrencies have posted steady, positive growth in their brief existence, making them a suitable option for long-term investors. It was only a matter of when, not if, institutional investors would start giving cryptocurrencies a serious thought.  

Should I invest in crypto? 

It is common knowledge that people have made money with cryptocurrencies. Bitcoin’s year-to-date price has risen almost 400%. From just over $9,000 in mid-2020 to $32,000 in July 2021, after hitting an all-time high of more than $64,000 in April 2021. An investment of  $1,000 during this period would have yielded close to $3,000 in profits alone.

Recent events indicate that asset managers and hedge funds have realized this opportunity for profit because there has been a fresh inflow of institutional money into cryptocurrencies since the start of the year. 

An annual report by PwC and Elwood Asset Management found out that half of the hedge funds around the world are now invested in cryptocurrencies. The total value of crypto assets under management by hedge funds increased globally from US$2 billion in 2019 to nearly US$3.8 billion in 2020, the report said. It added that the average crypto hedge fund made a 128% return in 2020 as against +30% in 2019.  

MicroStrategy, GrayScale, Tesla and Galaxy Digital Holdings have all extended their portfolios to include cryptocurrencies and a sizable number of institutional investors who were experimenting with crypto assets plan to increase their exposure, a research of wealth managers commissioned by European investment firm Nickel Digital Asset Management says. 

In the international survey of 100 institutions, 82% said that they will increase their holdings of cryptocurrencies and digital assets by 2023. Fifty-eight percent of respondents cited long-term capital growth prospects as the main reason they’re increasing their allocation; 38% said they’d become more comfortable holding cryptocurrencies and 34% put it down to the improving regulatory environment surrounding cryptocurrencies. 

These noteworthy findings are a testament to the impressive journey cryptocurrency has taken since Satoshi Nakamoto published the Bitcoin whitepaper, but when examined with current reality, it is obvious that cryptocurrency is still in its early days. 

Recent figures compiled by The Carfang Group showed that US corporations had cash holdings amounting to $3.82 trillion on their balance sheets at the end of 2020. If only 1% of this total - $38.2 billion, were allocated to cryptocurrencies, it would be an almost 600% increase from the current $6.5 billion in corporate Bitcoin holdings.

Furthermore, even if corporate, hedge fund and institutional investor crypto accumulations remain less than 5% for years to come, inflows could significantly outstrip the $38.2 billion previously mentioned.

How much should I invest? 

Although cryptocurrencies have huge profit potentials, it might still be worth it to dip in a toe to test the waters. Crypto prices are still volatile and vulnerable to speculations despite improving in several areas in the last decade.

The ideal amount an investor should put into cryptocurrencies depends majorly on their tolerance for risk and their financial capacity to absorb losses. Most asset managers who use crypto for some clients recommend sticking to a small allocation, say 0.5-1% of the total portfolio. Considering that cryptocurrency is worth just 0.5% of global stocks and bonds, anything above 2% looks aggressive.

Those who feel confident about handling the risks should start small and buy a fixed amount of cryptocurrency at regular intervals until they have accumulated enough crypto assets to fill their targeted quota. This method of crypto investment, called Dollar Cost Average, reduces the chances of buying crypto at a market high.

Also, having substantial knowledge about the crypto sphere and a good dose of exposure to best practices in the industry goes a long way in helping to manage the risks posed by exposure to this volatile class of asset. 

What should I buy to get exposure to cryptocurrency? 

The easiest and quickest way to gain exposure to cryptocurrencies is to create an account on leading cryptocurrency exchanges like Binance and buy Bitcoin. You can also patronize a trading platform that offers it, such as eToro or Robinhood. 

To buy $1000 worth of Bitcoin on Binance, an investor would have to pay about $1 in fees, and if they choose to pay the fees with the platform’s native token, BNB, they will get a discount on the fees. They can fund the transaction with fiat via a debit card or a bank deposit. Buying cryptocurrencies on traditional trading platforms like Robinhood usually involve middlemen, which according to critics, limits the gains of customers.  

Another way to get exposure to cryptocurrencies is to purchase the shares of crypto-based enterprises or trusts and funds that invest in cryptocurrency. Grayscale Investments LLC holds nearly 650,000 BTC and allows investors to trade its shares just like they would any public asset. The trust charges a 2% annual fee and can trade at a premium or discount to the value of the Bitcoin it holds.

Big brokerage firms like Fidelity Investments don’t allow their clients to purchase cryptocurrencies directly, but they can do this. This way, they will get an asset whose value mirrors the value of cryptocurrencies and, at the same time, avoid the risks associated with dealing directly with cryptocurrencies. 

Investors can also get exposure to cryptocurrency through Bitcoin futures. These can be purchased from derivatives providers CME Group and CBOE. They are a useful way to test the crypto market and attract clients who are interested in crypto assets. Asset management firm BlackRock has a small percentage of its holdings - 0.03%, in Bitcoin futures. 

Should I diversify among cryptocurrencies? 

Some cryptocurrency enthusiasts prefer Bitcoin because of its superior network size and first-mover advantage. Others take a lesson from the dot-com shakeout and choose to see the good in crypto projects that came later. 

As scams are common in the crypto space, it is wise to conduct adequate research and invest just a token in relatively unknown cryptocurrencies.  

In PwC’s report, 92% of crypto hedge funds trade Bitcoin; 67% are interested in Ethereum, while 34% and 30% trade Litecoin and Chainlink, respectively. It also discovered that some of the altcoins considered by hedge funds are considerably more popular than their market capitalization suggests. 

To make the most from crypto diversification, it is pertinent to know key industry players and understand the linkages between Bitcoin and macro fundamentals, while also recognizing Bitcoin sentiment in correlation with other crypto assets through price cycles. 

However, Bitcoin’s history is too short and there are too many variables influencing it for traders to predict a price action with good accuracy. 

How often should I rebalance? 

The recommended approach towards managing a diversified portfolio is to buy and hold assets while rebalancing it annually after a performance evaluation. But it is wiser to rebalance more often if volatile assets like cryptocurrency are a part of the portfolio.

Rebalancing on a consistent basis, say monthly, or when your allocation drifts away from your target by one percentage point, looks ideal. 

Conclusion

The crypto industry moves at a very fast pace, and although no one can predict for a certain how things will pan out in the space, many will agree that Bitcoin adoption will continue to go up. 

With adoption and recognition fueling value, more institutional money will flow into cryptocurrencies for the foreseeable future. However, for those bold enough to dip a toe in, making maximum gains depends majorly on making use of the best trading infrastructure available and getting important information about the industry.

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Disclaimer: Cryptocurrency investment is subject to high market risk. Binance is not responsible for any of your trading losses. The opinions and statements made above should not be considered financial advice.

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