Diversification, they say, is the only free lunch. In this piece I’ll talk a bit about what diversification means in the crypto market and all asset markets in general. The rich invest their money in assets like stocks, bonds, real estate, art, and private companies. The poor spend their money on depreciating assets like cars (which sit idle for 95%+ of their life), and clothes (which may only get worn a few times a year). For how small of a space cryptocurrency is, (a market cap under $2T) it has already made a score of billionaires and many times that millionaires. Sweet.
I don’t want to work forever
As someone who’s in the workforce pedaling hard everyday, I’ve noticed as the years have gone by I tolerate other people’s BS a bit less with each passing year. Nagging and micromanaging bosses- coworkers who offload their work onto you- and clients who always want more whatever they get. I know I have energy and enthusiasm to deal with all of it now, but I know it won’t be that way forever. Call me a fool, but I see crypto as one of the things that can help carry me to financial freedom.
Why I got into crypto
My original motivation for getting into cryptocurrency investing was to realize some of those outsize returns I had been reading about and help pay off my student debt I accrued during undergrad and my MBA. I currently carry a debt load that is about 2x my annual gross income, which is an uncomfortable amount for just about anyone, even though during the pandemic we’ve seen an 18 month moratorium on federal student loan payments. It was only after reading about crypto daily for 2 months that I realized how truly revolutionary decentralized technology really is. Cryptos can do things for small fractions of the time and cost that institutional finance does. Some things in our society have lagged far behind the digital transformation. I had always wondered about the almost religious-like zeal of crypto believers, and now that I see the world through their lens, I get it. It was enough for me to start a blog and start writing about it 3x per week!
Dartmouth- home to my MBA program and birthplace of hundreds of thousands of my student loan debt
I’m sure regardless of your age you’ve heard about the tradeoffs between risk and reward. I have friends who are financial advisers (which I am not), and basically they tell me they have to repeat themselves 1000x over with that statement to their clients: there is potential for higher rewards with certain assets, but risk is higher as well. Early in my crypto investing career I learned that even within the volatile crypto space there are assets that are relatively more stable like Bitcoin compared to small-cap coins. On my small-cap coin investments (cryptos outside the top 50), I have lost nearly 60% of their original value. Thankfully, I have most of my crypto investment money in large caps and that have offset those losses.
Source: The Millennial Investor
The above chart Illustrates that there’s a sweet spot for everyone when it comes to risk and reward, and its main takeaway is that you should be diversified away from just a few assets. I strongly recommend Financial Samurai’s Recommended Net Worth Allocation by Age and Work Experience. His thesis is this: the younger you are, the riskier your portfolio can be, because you’ll have more time to recover those losses. So the closer you are to retirement, the less you should be allocating to Bitcoin and other blockchain assets. I love crypto, but I’m definitely not going to be calling my 66 year-old dad and telling him to throw 50% of his 401k into the Grayscale Ethereum Trust. Side note- an annoying thing about this trust and other Grayscale investments is that there are significant deviations in the price of the trust and the actual price of Ethereum due to supply and demand dynamics of the shares.
There’s no such thing as a diversified crypto portfolio
As we’ve seen, a bit of FUD can have a huge negative impact on crypto prices. At least for now, there is a fundamental truth about cryptocurrencies- they are a small asset class relative to gold, the S&P 500, FTSE 100, real estate, bonds, art, etc- basically any other investment class you can think of. Think of crypto as a tugboat, while stocks and bonds are massive cruise liners. Even small waves will be felt by the asset class. What this means for crypto is that all of it moves together, and it mainly follows Bitcoin. Diversification is meant to be your body armor- it will protect you from the stupid investments you will make over the course of your life. Some of those coins you think are a sure thing will turn out to be duds and some other coins you didn’t suspect will flourish. I personally stick to large cap coins primarily in my crypto portfolio- with Bitcoin, Ethereum, and Cardano making up at least 85% of my crypto holdings. When the market dips or crashes, these coins tend to go down the least, while the smaller caps get utterly destroyed. In May 2021 for instance, Bitcoin fell 40%- but most of the small caps I held fell 70-80%. Warren Buffett’s first two rules of investing are:
- Don’t lose money
- See rule #1
Only invest in crypto what you can lose
The crypto asset class is so small and volatile that there is a nonzero chance of complete capitulation- whether it be a worldwide crackdown, attacks that completely compromise crypto networks, or that the technology proves to not do what it says it can do (like bringing banking to the unbanked). While I happen to believe this is very unlikely, it does affect my total asset portfolio allocation to digital assets, which is less than 20% of my overall investment portfolio. Regardless of all this, I still live frugally and drive a shit car so I can DCA into crypto. I go in with the mindset that my investments in crypto will underperform and not be there in the future- and up until this point I have been pleasantly surprised and remain bullish.