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Catherine Dowling provides an analogy that may be helpful to investors who are thinking about buying a cryptocurrency such as Bitcoin and are wondering what the appropriate amount is.
It’s “like cayenne pepper,” said Dowling, general counsel and chief compliance officer at Bitwise Asset Management, a cryptocurrency money manager. “Little goes a long way” in a portfolio, she explained earlier this month at Financial Advisor Magazine’s annual Invest in Women conference in West Palm Beach, Florida.
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Ivory Johnson, a certified financial planner and member of the CNBC Council of Financial Advisors, said that description fits.
“The more volatile an asset class is, the less of it you need,” said Johnson, founder of Washington, D.C.-based Delancey Wealth Management.
An allocation of 2% or 3% is “more than enough.”
Cryptocurrencies are digital assets, a category that should be considered an “alternative investment,” Johnson said.
Other types of alternatives may include, for example, private equity, hedge funds and venture capital. Financial advisors typically view them as separate from traditional portfolio assets such as stocks, bonds and cash.
Allocating 2% or 3% of your investment portfolio to cryptocurrency is “more than enough,” Johnson said.
Let’s say the asset grows by 50% this year, and the investor holds a position of 1%. That’s like having a 5% position in another asset that’s up 10%, Johnson said.
Whether investors buy cryptocurrency and how much they hold will depend on their tolerance and risk tolerance, Johnson said.
For example, long-term investors in their 20s can afford to take on more risk because they have plenty of time to recoup losses. According to Johnson, such a person could survive significant financial losses and would be wise to keep 5% to 7% of their portfolio in cryptocurrency.
However, such an allocation would likely not be suitable for a 70-year-old investor who cannot afford to expose his savings to large losses, he said.
“Bitcoin and other cryptocurrencies are highly speculative investments and involve a high degree of risk,” investment strategists at Wells Fargo Advisors wrote in a report. note last year. “Investors must have the financial capacity, knowledge/experience, and willingness to bear the risks of the investment, as well as the potential total loss of their investment.”
Cryptocurrency is an “incredibly volatile asset”
Cryptocurrency prices have been rising rapidly lately.
BitcoinFor example, it reached an all-time high in early March. It topped $73,000 at its peak but has since fallen to less than $69,000.
Bitcoin prices have collapsed ahead of 2022, falling about 64% this year to below $20,000. By comparison, the S&P 500 stock index lost 19.4%.
Prices have since quadrupled from their lowest point in November 2022 as of Wednesday evening. They’re up more than 50% year to date, while the S&P 500 is up about 9%.
Bitcoin is about eight times more volatile than the S&P 500, Johnson wrote in a December 2022 Journal of Financial Planning article, citing data from the Digital Asset Council for Financial Professionals.
Cryptocurrency volatility index was about six times higher than CBOE Volatility Index as of Wednesday.
“It’s still an incredibly volatile asset,” said Bitwise’s Dowling. “It’s not for everyone.”
Cryptocurrency investing has become easier for many investors after the Securities and Exchange Commission approved a slew of bitcoin spot exchange-traded funds in January, a first for the asset class.
Investors may want to consider dollar-cost averaging across cryptocurrencies, Johnson said. This entails buying little by little until the target allocation is achieved. Investors should also rebalance periodically to ensure that large gains or losses on cryptocurrencies do not change the target allocation over time, he said.