Are your crypto investments truly diversified? What's missing?
Every investor that wants a diversified portfolio should have exposure to cryptocurrency assets — or digital assets as they are sometimes called. Digital assets make up an asset class that has more volume every year and has shown to be uncorrelated to the stock market. One digital asset in particular, Bitcoin, has outperformed the S&P 500 since its inception, and is the best performing asset of any type over the past 10 years. Even Mike Novogratz the Founder and CEO of Galaxy Digital has said every Hedge Fund should hold 1% of their entire Portfolio in Bitcoin as a hedge to the systemic market risks.
In all markets, being correlated with how well the economy is performing has distinct advantages and disadvantages. If the economy is doing well, it often has low unemployment rates, strong productivity and controlled inflation. In these periods of economic boom, it’s good to have assets that perform accordingly. But when the economy starts to slow down and sentiment from markets shift, it is important to have a portion of your portfolio that takes advantage of the market downturn. Traditionally this is achieved through derivatives of underlying assets; however, in recent times cryptocurrencies have provided another way to add non-correlated assets to any portfolio.
What is Modern Portfolio Theory?
Modern Portfolio Theory suggests that the return of an asset should follow the amount of risk that asset has. This means that if an asset has a lot of risk then you should be expecting a higher return from that asset.
Those who subscribe to Modern Portfolio Theory target the best performing assets in multiple industries and asset classes including stocks, bonds, commodities, and in today’s market, digital assets such as cryptocurrencies and smart commodities. These types of investors aim to reduce correlation among the assets they choose for their portfolio, so that they can target high returns, but hopefully hedge downside by choosing assets that move in an unrelated (or uncorrelated) fashion to each other. Investors then weigh their allocations of each asset in their portfolio to maximize returns, as well as to additionally hedge their risk by securing assets that have different levels of correlation to the broader economy.
In today’s market, there is a new opportunity to introduce a diverse asset that has it’s own unique risk/reward profile and a brand new level of correlation to traditional asset classes. That new opportunity is, of course, digital assets like Bitcoin. Having digital assets in a portfolio can add a previously unattainable level of asset mix to an investor’s holdings, and can impact the level of risk and exposure an investor has in a potentially positive way. It’s also quite realistic for retail investors to be able to attain digital assets if they so desire. Digital assets like Bitcoin, Ethereum and other altcoins have provided the first opportunity in recent history for retail investors to add unique assets to their portfolio without requiring them to meet minimum net worth thresholds.
But what is uncorrelated with Bitcoin?
With the critical role uncorrelated assets play in modern portfolio theory, it’s important to hold assets that perform in an uncorrelated way to their broader asset grouping. In the digital asset world, we’re currently in a period of time where price discovery is a metric that gets a lot of attention by the media and it outlines an approach that a majority of crypto investors attempt to use to value and evaluate digital assets. Within the digital asset bucket, it’s important to have alternatives. This is because historically, virtually all digital assets follow Bitcoin’s price movements closely. Investors in digital assets need to have an alternative to current day cryptocurrencies in order to hedge and perform well when the broader asset class is down. With a redundancy in performance from cryptocurrencies following Bitcoin’s price movements, where can we find a digital asset that performs in an uncorrelated way?
Enter Ampleforth. Ampleforth is the first sound money with an elastic supply. The unit is called the AMPL. AMPLs are a completely different crypto model that spreads price information into supply. The Ampleforth protocol aims to achieve price-supply equilibrium, and it does this by expanding or contracting the amount of AMPL for every wallet holder at the same time every day: 4pm EST. This daily expansion or contraction is rules-based and transparent you can find the expansion or contraction rate at the AMPL dashboard. This daily event can lead to a different movement pattern for AMPL than Bitcoin and other cryptocurrencies. Should AMPL show to be uncorrelated over time to other digital assets, that could make it a very interesting tool for portfolio construction. This is because finding digital assets that are uncorrelated with Bitcoin can be advantageous in every crypto portfolio, in the same way that crypto can be advantageous in every asset management portfolio.
Out of all of the industries where investors hope for high returns, where risk and return run hand in hand, digital assets are at the top of the list for many of today’s investors. As the world continues to innovate, and digital assets add to and improve on the options we have for transacting, storing value and even creating new synthetic commodities, it’s important to consider assets that not only capture potential upside, but also include some assets that have their own price movements uncorrelated with Bitcoin. Should AMPL generate movements that differ from Bitcoin in a random way, AMPL could very well be the tool institutional and retail investors need to achieve the risk/reward balance missing from the digital asset space today.