By now, it’s no secret to anyone that crypto investing can be a pretty divisive topic.
On one end of the spectrum, you’ve got the skeptics. For them, crypto is nothing but a giant scam, long overdue for a spectacular collapse. It’s just a matter of time.
On the very opposite end, there are the zealots. All-in on the crypto bandwagon! Ditch your stocks, load up on meme coins, and wait to get rich. Wgmi!
Being a pragmatic type by nature, I find myself somewhere in the middle. Formerly a skeptic, I am now convinced there are good reasons to at least pay attention to crypto.
At the same time, I am extremely mindful of the risks involved. Many of the coins and tokens out there will go to zero at some point.
Some are just outright scams. Others will get disintermediated, blown out of the water by an even better technology and business model.
Many readers here seem to agree. As a matter of fact, my piece on Ethereum has quickly become one of the most-read and commented on posts in this blog’s history. And reading through the comments was reassuring in itself – because most people do realize we live in the real world, not a fairy tale with infinite yet risk-free returns.
Yes, crypto offers higher returns – but they come at a price of significantly higher risk, including the risk of losing your entire principal.
If you are in it for the long haul, you better think long and hard about your investing strategy in what is a nascent, highly volatile asset class.
In today’s post, let’s cover off a couple of key questions any sensible (read: non-speculative) investor should be asking themselves when it comes to crypto.
Off we go.
Figuring Out The Right Allocation
So just how much of your hard-earned money should you allocate to crypto?
Well, there are two ways to go about it.
The first one is to treat crypto as yet another investable asset class. That means putting it alongside equities, bonds, commodities, and real estate.
You then proceed to construct a portfolio that mirrors the proportion of each investable asset in the global “pool” of investable assets.
To quantify it, consider that crypto is now a c.$2 trillion asset class, while global investable assets are around $250 trillion. Hence, the “right” allocation is somewhere around 1%.
There is a big problem with the above logic, however. For example, the global bond market is about twice the size of the stock market. That doesn’t mean you should hold twice as much in bonds as you would in equities.
Quite the contrary, especially if you want to get rich.
Ditto for commodities. Some people love them. I personally have an allergy to non-productive assets that actually incur storage costs. As an aside, the non-productive part is why I prefer Ether to Bitcoin, though I am sure I’ll take some heat for this in the comments!
The second way to determine your crypto allocation is to pick a % that won’t really make a difference if your investment goes to zero – but will have a big impact if you 10x your money.
Based on that metric, somewhere between 2% and 5% could be the right number.
A loss won’t be catastrophic. A 10x gain will lift your overall net worth by anywhere from 20% to 50%.
Somewhat counterintuitively, younger individuals with lower net worth can actually afford a higher allocation to crypto.
If you have a $50k net worth and are saving $25k a year, even a hefty 50% allocation won’t kill you. Should things go south, you’ll make up for it in 12 months.
Equally, for someone with a $3m net worth trying to live off her portfolio, putting $150k into crypto might be a bridge too far. And even if you are not living off your portfolio (yet), putting $150k in a highly volatile asset class can be tough. It certainly would be for me.
In other words, treat the 2 – 5% range as a helpful starting point – but make sure to adjust for your circumstances.
By the way, for some people, the right answer will be 0% – and that’s perfectly fine. Nothing wrong with waiting things out until there’s a bit more maturity in the ecosystem. We are still in the early days here.
The Entry Strategy
Let’s say you picked 5% as the right allocation. The next logical question is – how do you actually get in? Go in guns blazing, or slowly buy your way in over the coming months and years?
I’ve previously written about lump-sum investing in the stock market. Theoretically, it’s the right way to go – but pragmatically it is way too risky, especially when significant amounts of money are involved.
There’s always a chance you will click “Buy” just before a nasty correction, which wipes out 20% – 50% of your investment.
If anything, that argument is amplified by crypto. Sure, it’s tough to sit on the sidelines while prices are constantly rising. Equally, we may well be close to the top of the current cycle, with yet another “crypto winter” right around the corner.
Do you really want to put your entire allocation to work in one go, only to see your portfolio lose 80% of its value overnight? If that were to happen, you’d need a 500% return just to break even. Not impossible (this is crypto) but can take a heck of a long time.
The other reason you don’t want to go all-in is that the entire ecosystem continues to evolve. It used to be all about Bitcoin. Then you had Ether. Now you have Solana and a host of other layer 1 blockchains – plus a myriad of other options like layer 2 protocols, DeFi protocols, gaming assets, etc.
Slowly deploying your crypto “pot” allows you to form an opinion on some of the emerging technologies in the space and to tweak your allocation appropriately – without incurring excessive rebalancing costs.
Which conveniently brings us to the question of the day:
What Crypto Assets Should You Buy?
Well, say hello to the million dollar coin question.
As I mentioned above, at some point it was a very easy question to answer (hello Bitcoin) – until it wasn’t. And things are only going to get more complex going forward.
The bottom line is that it’s time-consuming enough to form a proper investment thesis on any crypto asset. Then, you’ve got to stay on top of everything that impacts the value of your investment.
How is the technical evolution coming along? What is the competition doing? Are there any tectonic landscape changes that will render your investment worthless?
It’s a never-ending list of questions – which you now need to multiply by the tens and hundreds of investment opportunities across the blockchain space. On top of that, you also need to be convinced that your analysis will prove right in the end.
Inevitably, it all segways into active investing territory. One could build an argument that in crypto, the markets are less efficient. Thus, there’s far more room to generate alpha (i.e. market outperformance).
Perhaps – but what gives you the confidence you can do better than someone who lives and breathes the space 24 hours a day – and has been doing so for years?
The problem is that passive investing isn’t really an option either.
Yes, there are passive investments out there like C20 and KR1 – but they are far from perfect.
More than 10% of C20 is comprised of highly speculative assets like Dogecoin and Shiba Inu. I don’t know about you, but I feel mightily uncomfortable buying a fund in which 10% is bound to go to zero at some point.
KR1 is a slightly different beast, being more of a listed venture capital firm.
It may or may not be well managed. It may or may not have access to the best investments (there’s a number of other, deep-pocketed players in the space). But the share price, which has only moved up 16% since it listed, is hardly one that will knock your socks off.
Make no mistake – once there’s a truly diversified vehicle that doesn’t hold speculative assets and charges reasonable fees, I will be one of the first people to sign up. But until then, I have decided to stick with a handful of L1 solutions that I have conviction on.
Ether – because I believe it will become one of the key backbones of the DeFi ecosystem.
Solana – because I think the blockchain space is not a monopoly and Solana offers a great alternative to Ethereum.
Bitcoin – well, this is a tricky one. On one hand, I wouldn’t hold gold – for reasons described above. On the other hand, plenty of investors love gold. It’s only natural that in a digital-first society, investors will hold digital gold.
If that thesis pans out, I think there’s plenty of upside potential for Bitcoin. That being said, it only represents c.20% of my overall crypto holdings today – and that number will continue to decline.
The Journey So Far
Because I am a big believer in transparency (and putting my money where my mouth is), let me share where I am coming out on the questions above.
I first bought some Bitcoin and Ether in late June / early July. Overall, I put about $4.5k to work, taking advantage of the depressed valuations.
Then, in late August I bought about $2.5k worth of Solana. That investment doubled in what felt like days. Last time I checked Coinbase, the value of my “summer” crypto investments has grown to $15k. Feels good but frankly somewhat irrelevant in the context of the overall portfolio – and I am also mindful that the whole thing can go to zero in minutes.
Then I took a pause – things were just too hectic at work. But as of November, I started buying around $2k worth of crypto a month. For the time being, it’s evenly split between Ether and Solana. However, I may diversify into additional assets once I do my homework (FTX is high up on the list, but there are others).
In terms of overall allocation, I’ve settled at 2% of my net worth. Working my way up there will take a long time – and I am perfectly happy with that.
Crypto and blockchain will need years and decades to live up to their full potential. If they do, I’ll be pretty happy with the outcome. If not, I won’t be (materially) worse for it.
At the end of the day, it’s the best outcome an investor could ask for.
As always, thank you for reading – and happy (crypto) investing!
About Banker On Fire
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Banker On FIRE is a London-based M&A (mergers and acquisitions) investment banker. I am passionate about capital markets, behavioural economics, financial independence, and living the best life possible.
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