Adding Bitcoin to your investment portfolio can have a positive impact on your long-term returns, but it’s all about timing.
A report by the CFA Institute Research Foundation examined Bitcoin’s impact on a diversified portfolio between January 2014 and September 2020. During this period, a quarterly rebalanced allocation of 2.5% to Bitcoin improved the return of a traditional portfolio by nearly 24%.
That’s a massive impact from a small allocation. This is hardly surprising: Bitcoin appreciated by about 2,875% during the period.
Be very careful with finds like this, which can make it seem like the more crypto you buy, the better. This really only applies to early adopters – for example, if you had added the same amount of crypto in December 2020, the impact until July 2022 would have been around zero.
You can have too much of a new thing, and this is especially true of cryptocurrency. Let’s look at how much crypto you should have in your wallet.
How Much Crypto Should You Own?
Most experts agree that cryptocurrencies should not represent more than 5% of your portfolio.
This amount is “small enough to keep an investor comfortable during periods of high volatility, but also large enough to have a really positive impact on the portfolio if crypto prices rise,” says Bruno Ramos de Sousa, head of global expansion at Hashdex.
Some experts, like Aaron Samsonoff, chief strategy officer and co-founder of InvestDEFY, allow allocations of up to 20%. But how much crypto should be in your wallet ultimately depends on your risk tolerance and beliefs about crypto.
In addition to great long-term returns, cryptocurrencies tend to have excessive volatility.
In the case of the CFA Institute study, the greater the allocation to Bitcoin, the higher the return and the greater the volatility. Between January 2014 and September 2020, the non-Bitcoin traditional portfolio returned 6.26%, compared to the traditional portfolio with a 2.5% allocation to Bitcoin, which returned 8.6% annualized, which also saw increased volatility.
“The potential for large returns combined with the significant risks of this new asset class means that a very small allocation is enough,” said Ric Edelman, founder of the Digital Assets Council of Financial Professionals and author of “The Truth About Crypto.”
Experts say that a small amount can dramatically improve your overall returns without putting you at risk of financial damage if your cryptocurrency investment drops significantly or even drops to zero.
“Adding some to your portfolio can be a great way to really reap the long-term rewards of knowing that if you don’t go big, you won’t run out of your entire investment portfolio,” says Callie Stillman, partner at Ascenseur Financier.
What should my crypto wallet look like?
Once you have decided how much cryptocurrency to own, the question becomes which cryptoassets to buy and how much to hold.
Edelman suggests four crypto wallet options. First, you can only own Bitcoin. It is the oldest and largest digital asset in the dominance of the crypto market.
“When institutions invest, they usually only buy Bitcoin. It may not bring the highest gains, but it will be the last to fall to zero,” he says.
As Bitcoin’s market dominance fades, it’s increasingly important to diversify your position to capture the full set of crypto opportunities, said Martin Leinweber, digital asset product strategist at MarketVector Indexes.
“Different assets offer notably different patterns of returns and respond heterogeneously to Bitcoin payouts,” says Leinweber. “While short term correlations may be high, in the long term ‘Bitcoin is nothing like a gaming token such as Axie Infinity or an exchange token such as Binance Coin (BNB).’
A popular alternative to Bitcoin is Ethereum, the second largest cryptocurrency by market capitalization, with a market dominance of 18%. “Many believe it has much greater utility for global trade and will therefore continue to grow in importance,” Edelman said. Many other coins and tokens are also based on the Ethereum blockchain.
You can also have a wallet that includes a mix of Bitcoin and Ethereum. “They’re the Coke and Pepsi of crypto,” Edelman says. Between them you have over 60% of the crypto market share.
Edelman suggests a 50-50 or 60-40 split favoring your favorite coin. “Otherwise you are making a big bet” and “betting should be avoided as this asset class is already very risky”.
While major coins like Bitcoin and Ethereum can make up a larger share of your portfolio, holding smaller shares of other crypto assets can improve your long-term returns, Leinweber says.
Discover Crypto ETFs
Owning crypto outright is no longer your only option for investing in the space. There are a variety of Bitcoin ETFs and blockchain ETFs that offer an easy way to gain crypto exposure in your portfolio.
Edelman points to the Bitwise 10 Crypto Index Fund (BITW), a market-cap-weighted ETF of the 10 largest digital assets. Being weighted by market cap means that Bitcoin and Ethereum make up the bulk of the fund with over 90% of the total portfolio.
“Most passive crypto investors would be better placed to focus on Bitcoin, Ethereum and/or a crypto index fund,” says Samsonoff. “Blockchains and single-name projects, even the biggest ones, still have a lot of tail risk, and on a risk-adjusted basis, it’s hard to beat Bitcoin, Ethereum or an index unless you’re an active researcher in the space.”
Leinweber proposes a multi-token fund that replicates a market cap-weighted index to ensure you get the returns from the crypto market.
“You’re implicitly buying the winners and selling the losers,” he says, as the asset manager does the work for you, replicating the index.
Some crypto ETFs invest in listed companies engaged in the crypto industry, such as the crypto exchange Coinbase, the crypto bank Silvergate Bank and the Bitcoin mining company Riot Blockchain, instead of buying cryptocurrencies directly.
Investment companies also offer separately managed accounts (SMA), which are like custom mutual funds that hold up to two dozen different cryptocurrencies.
“The account is run specifically for you with a truly personalized approach to rebalancing and harvesting tax losses that you can’t manage with funds,” says Edelman. The challenge with SMAs is that they usually have a minimum investment of INR 1,000.
The composition of a good crypto wallet
Stillman says your crypto portfolio should look like any other part of your investment portfolio. It must be diversified and match your risk tolerance.
You should use cryptocurrencies that you’ve researched and feel comfortable investing in. “Read white papers about them to better understand how they work and what they’re for,” she says. “Find out who’s behind them and know their background.”
An important question is why you are buying crypto and your plans. Are you buying because your friends asked you to? Is it for short or long term gain? What do you plan to do with the winnings you earn? “Some cryptos are liquid, some aren’t,” Stillman points out. “How important is it to you?
A good crypto wallet allows you to stick it out through bear and bull markets without losing sleep at night. “If the crypto portion of your portfolio is too large or concentrated in speculative altcoins, you risk having paper hands,” says Samsonoff.
“Conversely, if you are undersized, you risk getting greedy as confirmation bias kicks in after the crypto rally and you potentially buy a top after feeling exposed to the upside,” he said.
Keeping a long-term perspective, meaning years and decades, is key to managing your crypto portfolio. “It’s a new asset class, so highly volatile, and you have to focus on the earnings potential over decades, not weeks or months,” Edelman says.
Leinweber says portfolios over a period of four years or more are generally profitable. “It’s an investment in new technology, not a get-rich-quick scheme.”
Many experts recommend using a rupee cost averaging strategy where you buy or sell a fixed amount of rupees no matter what. This can take emotion out of the equation.
“Trying to time the market perfectly or checking your portfolio every day generally leads to more stress and bad decisions. Instead, it’s better to have periodic reassessments of your positions and rebalances based on your changing view of the market, not much different than a stock portfolio ,” de Sousa says.
Otherwise, your cryptocurrency allocation can overwhelm your portfolio and increase your overall risk.
“If you’re not an active trader, you should have a consistent percentage allocation to crypto and rebalance your target weights monthly or quarterly,” says Greg King, founder and CEO of Osprey Funds.
Keeping track of your crypto wallet can be a challenge.
The most important tip when tracking your crypto portfolio is to align your thesis timeline, says Samsonoff. Know your entry and exit trigger before you begin.
“Without a clear plan, you will have your convictions – or lack thereof – tested and succumb to emotional decisions based on the volatility of the crypto space,” he says.