Beyond Bitcoin, Diversification Can Help Manage Cryptocurrency Investment Risks
When it comes to investing, diversification is key. By spreading your wealth, you are less likely to suffer a major financial blow if one of your investments does not materialize.
This is especially true for cryptocurrency, an asset class so new and often volatile that some financial advisers are warning their clients to avoid it.
Jesse Proudman, chief executive of crypto investment platform Makara, said those interested in buying cryptocurrency could learn from wealthy “angel” investors. These buyers, who finance start-ups, are used to dealing with projects that may or may not succeed.
âWhen you’re an angel investor, you make a lot of different investments, and a lot of them fail, some of them have moderate success, and some of them are incredibly successful,â Proudman said. âIt is this combination that makes your portfolio attractive. Diversifying here is smart for the same reason. “
But the novelty of crypto makes diversification more complicated than it would be for more traditional investments, such as stocks. For example, there are no widely available mutual funds with broad exposure to the digital asset space.
Nonetheless, there are some strategies savvy investors can use to mitigate their risk.
A handful of products have emerged that seek to make cryptocurrency more accessible to those most comfortable with traditional investment tools.
An exchange traded fund, for example, can be held in a brokerage account or used as part of a retirement fund, unlike crypto alone. But these funds also have fees and give investors less control over their digital assets.
As it stands, the Securities and Exchange Commission has not approved an ETF that holds Bitcoin, nor any that invests directly in other digital assets.
An ETF option for curious crypto investors is a fund that focuses on the underlying ‘blockchain’ technology of cryptocurrencies. These funds buy shares of companies with an emphasis on this sector. These, however, are not direct investments in cryptocurrency.
The lack of fund options available in the digital asset market is primarily due to SEC skepticism.
This fall, the first Bitcoin-linked ETF debuted on the New York Stock Exchange. But the fund does not buy Bitcoin itself. Instead, it invests in futures contracts linked to the crypto asset.
Other funds have more direct exposure to multiple cryptocurrencies, but these have been limited to private placement for accredited investors. Grayscale and Bitwise are among the financial companies that have created such products.
A downside to funds is that investors do not have direct ownership of their portfolios. For this reason, creating a wallet on your own can be attractive, especially when it comes to crypto, which can offer special advantages.
For example, cryptocurrency holders may want to participate in “staking,” a process available with certain cryptocurrencies that rewards participants for helping to maintain the computer networks that support their tokens. Or they may just want more control over their investment strategy.
Typically, cryptocurrencies are considered high risk investments, which should only be a small portion of your portfolio – a rule of thumb is no more than 10%.
For this reason, financial advisers often advise caution when it comes to crypto and some are reluctant to make detailed recommendations on how to build a portfolio.
âFinancial planners haven’t done a good job participating in this process,â said Justin Pullaro, a Florida-based certified financial planner who advises clients on cryptocurrency.
For people who don’t have a relationship with an advisor, there are some online offerings that help people put together their crypto wallets.
While major online crypto exchanges such as Coinbase do not offer such services, new entrants to the field are trying to fill the void.
Makara, for example, allows customers to choose from eight different “baskets” of crypto assets allocated for different purposes. One, for example, includes first-rate blue chip cryptos, while another targets “Web3” projects focused on decentralized internet technologies.
Rosen writes for NerdWallet.