What percentage of the portfolio should a neutral investor invest in cryptocurrencies?

Cryptocurrencies have taken a step further towards their institutionalization, following the launch of the regulated spot bitcoin ETFs in the United States.

With regulated investment vehicles available worldwide, it is now virtually impossible for investment professionals to dismiss the asset class as a whole. As with any other asset class, it is now necessary for investors and portfolio managers to develop their own opinions and assign a “underweight” or “overweight” rating to Bitcoin, Ethereum and the rest.

1% in cryptocurrencies is a neutral investment

Given that cryptocurrencies are a relatively new asset class and many investors are still not familiar with them, it would be easy to think that the neutral position is a 0% investment and that anything above zero is an overweight. But this is not the case.

A good assessment of an asset’s neutral positioning in a multi-asset portfolio involves observing the market portfolio, that is, the portfolio that simulates the entirety of all liquid assets accessible to investors. Chart 1 shows the current market portfolio.

With a total market capitalization of liquid assets of approximately 191 trillion dollars and cryptocurrencies representing about 2 trillion dollars, they constitute around 1% of the total. This market is now comparable in size to high-yield bonds, inflation-linked bonds or small emerging market capitalizations.

Chart 1: Current market portfolio

In other words, currently, the neutral position for a multi-asset manager is to invest 1% of their assets in Bitcoin and cryptocurrencies. The 1% is the rational choice for investors in the absence of a solid and backed investment thesis that supports the disappearance of the crypto space. It is a safe position that allows benefiting from the continuous growth of the field in positive scenarios and that allows limiting losses (to 1%) in more negative scenarios.

Not investing in cryptocurrencies is to assume a negative asymmetric risk against the field

By not investing in digital assets, investors are, by definition, actively betting against this asset class. For this, they would need a solid and clear investment strategy that supports opting for such underweighting.

A short-term investment in crypto assets presents an asymmetric nature in which the asymmetry plays against the investor. They have a downside limit, as the asset can only lose 100%, and an unlimited upside. Therefore, the risk of a portfolio manager underweighting an asset is much greater than if they overweight it, as the asymmetry plays in favor of the investor in a long position. For this reason, investors tend to consider that the conviction and backing of an underweighting should be stronger than in the case of an overweighting.

With highly volatile assets like cryptocurrencies, it is even more important to take this into account. In terms of performance, Bitcoin has been the most profitable asset in 9 of the last 12 years, recording increases above 100% in six of those years. These disproportionate returns are not a thing of the past, as just last year, Bitcoin achieved a return of 157%. This highlights the advantage of considering the possibility of allocating a percentage of the portfolio to crypto assets, instead of completely omitting them, positive for an investor who overweights and really negative for one who underweights.

Conclusion

If we focus solely on the characteristics of cryptocurrencies, it is clear that they can add value to a multi-asset portfolio. With their growth potential, diversification credentials, and ease of investment through regulated investment vehicles, it is increasingly difficult for investors to ignore them. With a 1% investment, investors would be adopting a neutral stance in the field, willing to benefit from potential rises and managing risk by limiting the downside risk to a single percentage.

For more information on the impact of adding small amounts of cryptocurrencies to a multi-asset portfolio, please see our latest research paper on the subject.

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