Should I Invest in Bitcoin?
Whether or not you should invest in Bitcoin, Ethereum or other cryptocurrencies depends on two factors 1) your belief in future cryptocurrency demand and 2) your tolerance for volatility.
Cryptocurrency prices are based purely on supply and demand, like all other currencies. Currencies don’t have underlying assets or cash flows; they are simply stores of value that the holder believes will be exchangeable for goods or services later. If more people need a given currency, it increases in value and vice-versa. Is it possible cryptocurrencies become more mainstream and increase in value materially? Sure. Is it possible that regulation, institutional demand or even the development of a digital dollar eliminates demand for cryptocurrencies? Sure.
That brings us to point 2, volatility. Most investors are familiar with the S&P 500 as a measure of the stock market. The top chart shows the S&P 500 and the Bloomberg U.S. Aggregate, a broad bond index.
Most investors see the stock market as relatively risky, its prices move up and down materially based on expectations about the economy and company earnings. Cryptocurrencies make the stock market look rather pedestrian. In the next chart, the S&P 500 becomes the green line, and you can see the price of Ether and Bitcoin swinging wildly compared to the S&P 500. In fact, the volatility of bitcoin is 12x the S&P 500 over the last 3 years. No other institutional investment comes anywhere close to that level of volatility.
If you consider demand and volatility and still believe investing is prudent, you should treat cryptocurrencies like high-risk start-up companies. Invest only what you are prepared to lose and only small amounts of your total portfolio. Work with your advisor on what level of exposure makes sense in the context of your larger investment portfolio.
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