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How to diversify a crypto portfolio

An explosion in crypto players means there are new and different ways to buy in during a downturn. 

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Most traditional finance experts view cryptocurrency as a “risk-on asset,” a category of volatile investments—including tech stocks, commodities, and high-yield bonds—whose success often depends on investors’ access to cheap capital. When central banks like the US Federal Reserve signal plans to raise interest rates, investors are more likely to dump risk-on assets for stabler options.

For seasoned traders, moments of volatility are a feature of crypto, not a bug. When coin prices rise or drop precipitously, price differences across crypto exchanges make for great arbitrage trading. But crypto is also full of unseasoned traders, who are getting an education in the recent crash. Diversification, long a talking point in “TradFi,” has entered the chat.

The first rule of any crypto portfolio is to only put in what you can afford to lose: If you’re a novice investor, that’s no more than 3% of your net worth, says Eric Ervin, chief executive of crypto hedge fund Blockforce Capital. But the recent explosion in crypto players does provide options for buying in without just buying bitcoin.

Retail investors can purchase exchange-traded funds (ETFs) that are based on publicly traded crypto companies—like popular exchange Coinbase (COIN) or bitcoin miner Marathon Digital (MARA)—or invest in household names with blockchain interests, like IBM and Nasdaq. They can also explore decentralized finance (DeFi) protocols, non-fungible tokens (NFTs), and the metaverse. Professional traders can take advantage of derivatives, which allow them to bet against crypto.

Crypto’s last bear market was in 2018, when the initial coin offering (ICO) bubble popped after the US Securities and Exchange Commission determined many were illegal securities. At the time, the crypto industry was still nascent, and the downturn kneecapped many companies that were just getting off the ground. Four years later, the sheer number of crypto outfits means a correction is more likely to shake out winners than decimate the sector.

“Unlike the [last] bear market, where things continued to descend into oblivion, this is a good opportunity to figure out which protocols really didn’t build much and lose steam very quickly,” Ervin says. “So just by not being in those, you can take advantage of it.”

The backstory

  • The crypto market lost 53% of its value in the past three months. Crypto boomed during the pandemic, but fell precipitously from an all-time high in November, losing $1.4 trillion in market capitalization.
  • The downturn wiped $7 billion off corporate balance sheets. At least 26 publicly traded companies own a collective 217,240 bitcoin, roughly 1% of all bitcoin in circulation. More than half of that is owned by one firm: software company MicroStrategy.
  • Crypto isn’t a safe haven. A combination of high inflation, planned interest rate hikes, and a selloff in the traditional stock market seems to be behind the crypto crash. That undercuts one of cryptocurrency advocates’ central arguments: that it acts as a hedge against inflation and central bank policies for fiat currencies.

A Bitcoin boom

Bitcoin’s pandemic rally was fueled in part by loose monetary policy, which has made it easier for investors to pour money into risk-on assets. Now that the Fed is tightening things up, those same investors have less access to cheap capital.

Bitcoin plunged below $33,000 on Jan. 24, the lowest it's been since July 2021.

What we’re asking next

  1. How do you track crypto feels? One of the most popular indicators is the relative strength index (RSI), which aims to inform investors if an asset is overbought or oversold relative to its “true” value. There’s also the crypto fear and greed index, which factors in volatility, buying volume, Google search trends, and social media.
  2. Can NFTs survive the dip? Non-fungible tokens are seen by crypto advocates as a way to create value for cryptocurrencies without selling people on Austrian economics or bitcoin-as-inflation-hedge. Despite an overall weaker crypto market, volumes on leading NFT platforms are still strong, and prices for the leading collections are holding up or increasing, says Noelle Acheson, head of market insights at Genesis Trading.
  3. Will altcoins go mainstream? Plenty of altcoins have much higher swings than bitcoin and ethereum in bull markets, but they also go through tougher crashes. Crypto financial advisors, who haven’t exactly been putting altcoins at the top of their “buy” list, might change their thinking as more mainstream coins lose value and altcoins quickly add new features.
  4. How long can meme coins last? Meme coins don’t really have a business purpose; they just exist for the lulz. Since November, Dogecoin (DOGE) has lost half of its value while Shiba Inu coin—a meme coin based on a meme coin—is down a whopping 70%. Will a coin’s silly origin story start mattering more or less to investors?
  5. What’s up with El Salvador? Last year, president Nayib Bukele championed a vote to adopt bitcoin as legal tender. Now he’s betting the economy on buying the dip, alienating citizens and sowing distrust in the process.

One 🗽 thing

New York City mayor Eric Adams promised to take his paycheck in bitcoin and ethereum, but what he really meant was he’d take his paycheck in US dollars and then buy crypto. (It’s kind of like blowing your paycheck on Pappy Van Winkle and saying you got “paid in bourbon.”)

The crash is further souring Adams’ bizarre promise. The New York Post estimates that if the mayor converted his $5,900 biweekly post-tax paycheck evenly into bitcoin and ether on Jan. 21, he lost more than $1,000 by Jan. 24, as the cryptocurrencies fell 16% and 24%, respectively. Someone should’ve waited to buy the dip.

A GIF of New York City mayor Eric Adams saying I didnt say woe is me, I say why not me.

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Thanks for reading! And don’t hesitate to reach out with comments, questions, or topics you want to know more about.

Best wishes for a diversified weekend,

—Nate DiCamillo, economics reporter (only buys the dip for chips)

—Scott Nover, emerging industries reporter (a bored ape without a yacht club)

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