Amid speculation that the Securities and Exchange Commission (SEC) is finally warming to the idea of approving a spot bitcoin exchange traded fund, the largest cryptocurrency by market value jumped more than 18% for the seven days ending Oct. 26.
With that in mind, it wouldn’t be surprising if once again, registered investment advisors are fielding more client inquiries regarding whether bitcoin exposure is appropriate and how the largest digital currency by market capitalization fits in traditionally balanced portfolios.
Speaking of traditional portfolio construction, that phrase conjures up thoughts of the 60% stocks/40% bonds portfolio mix. For decades, that was considered the “gold standard” of portfolio construction, though 60/40 incurred significant damage last year when stocks bonds fell in unison. Things aren’t much better on the fixed income front this year.
As advisors know, 60 and 40 aren’t hard and fast and portfolios should have exposure to other asset classes. Increasingly, bitcoin is part of that conversation. In fact, data suggest that even modest allocations to bitcoin would have boosted outcomes for 60/40 portfolios in recent years.
Bitcoin Benefits 60/40
In a recent report to clients, Citi analyst Alex Saunders confirmed that dating back to 2014, five years after bitcoin went into use, 60/40 portfolios would have benefited in significant fashion from exposure to the digital currency.
“Historically speaking, an allocation to Bitcoin would have enhanced portfolio returns,” Saunders wrote.
To be specific, the Citi analyst points out that a standard 60/40 portfolio returned an average of 6.95% annually starting in 2014. That percentage increased to 7.42% with a 1% allocation to bitcoin and surged to 9.3% with a 5% allocation to bitcoin. Obviously, those are significant differences.
“As crypto market cap has grown, so too have equity betas and the percentage of the variation in returns that can be explained by macro factors,” Saunders added.
Not a Free Lunch, But…
As many advisors and crypto-enthused clients know, bitcoin is often volatile, but it’s also frequently referred to as “digital cold.” Regarding the cryptocurrency’s penchant for turbulence, that’s confirmation there’s no free lunch and including the asset in 60/40 portfolios may not be appropriate for risk-averse clients.
As Citi’s Saunders points out, since 2014, some of the worst months for stocks have also been among the worst months for bitcoin. However, that scenario could be changing. In recent months, bitcoin’s correlations to the S&P 500 and other widely followed equity benchmarks is declining and none too soon because stocks are faltering. Conversely, bitcoin’s correlations to gold are increasing and that’s a positive because bullion has been trending higher as of late.
“We [view]bitcoin as an investment being a non-sovereign store of value which had potential exposure to economic and internet growth, whilst being largely uncorrelated to other asset classes,” according to CoinShares. “We also find that in the context of a portfolio, it behaves in a similar manner to other alternative assets in providing diversification, with the exception that its portfolio diversification benefits are far greater than its competitors.”
Bottom line: If bitcoin continues behaving more like gold and less like equities, it could become increasingly pertinent in 60/40 portfolio construction.