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Bitcoin Allocation to a Traditional 60-40 Portfolio

In the evolving landscape of asset management, this article explores Bitcoin’s emergence as a critical component within global investment portfolios. Amid diminishing returns from traditional assets and rising inflation threats, Bitcoin’s integration into the classic 60/40 portfolio model symbolizes a strategic adaptation to these shifts. This piece highlights the growing recognition of cryptocurrencies’ value by institutional investors and presents empirical evidence from leading financial studies to understand this trend.

The comprehensive analysis presented in this chapter underscores a significant paradigm shift in asset management, highlighting the growing importance of Bitcoin as an alternative investment within a global stock and bond portfolio.

This shift is driven by the evolving financial landscape, characterized by diminished returns and diversification benefits from traditional assets, alongside the rising threat of inflation. The incorporation of Bitcoin into the 60/40 portfolio model is not just a fleeting trend but a strategic response to these changing dynamics.

Sharpe Ratio Contribution of 2.5% Bitcoin Allocation to a Traditional 60-40 Portfolio (Yearly Rebalancing)

Source: Cointelegraph Research, CryptoResearch.Report

Institutional investors, as evidenced by the strategic allocations of entities like the Yale University Endowment, are increasingly recognizing the value of diversifying their portfolios with alternative investments, including cryptocurrencies like Bitcoin.

The empirical data from various studies, including those conducted by Fidelity Investments, Cointelegraph Research, and the CFA Institute, reveal a significant tilt toward Bitcoin, reflecting its potential to enhance returns while offering a hedge against inflation and currency devaluation.

This chapter has shown that adding Bitcoin to a traditional portfolio can significantly improve its performance metrics, including cumulative returns and Sharpe Ratio, without disproportionately increasing risk or maximum drawdowns.

The optimal allocation, time horizon, and rebalancing strategies for Bitcoin investment have been thoroughly examined, providing valuable insights for institutional investors and fund managers. However, it’s important to acknowledge the challenges associated with Bitcoin investments, such as volatility, the need for specialized infrastructure, regulatory uncertainties, and limited historical data.

This review underscores Bitcoin’s increasing importance in asset management, reflecting a broader acceptance amidst financial volatility and changing market dynamics. Despite the potential for enhanced portfolio performance and inflation hedging, challenges such as regulatory uncertainties and the asset’s inherent volatility are noteworthy. The article concludes that Bitcoin’s inclusion in diversified portfolios signifies a pivotal shift in investment strategies, advocating for innovation and flexibility in the face of evolving financial landscapes.

Bitcoin and Economic Trends

In the 2024 Outlook, André Dragosch, PhD., alongside the ETC Group, thoroughly examines the relationship between global economic trends and Bitcoin’s valuation. By analyzing key indicators such as the U.S. unemployment rate and housing market conditions, the report reveals how an impending economic downturn in the United States could paradoxically boost Bitcoin’s price. It also dives into investment strategies to mitigate Bitcoin’s volatility and discusses the evolving landscape of digital asset trading, highlighting IMC’s strategic moves in this space.

The ETC Group’s 2024 Outlook written by André Dragosch, PhD., is an exceptional report on the relationship between global macroeconomic conditions and Bitcoin’s price. Reviewing leading indicators such as the U.S. unemployment rate, the NAHB Housing Market Index, and the regional Fed manufacturing surveys, the report indicates that the U.S. economy might already be sliding into a recession. However, Dr. Dragosch explains that a recession may push Bitcoin’s price even higher, “any material economic weakness, especially in U.S. employment, is likely going to induce renewed monetary easing by the Fed.”

Using data from Bloomberg, the annual maximum drawdowns and returns were calculated between 2010 and 2023. The results show that the maximum drawdown can be pretty significant in Bitcoin’s bear market years. The worst 2022 drawdown saw Bitcoin lose 67% of its value. However, Bitcoin’s annual return was only negative 3 out of the last 13 years, 2022, 2018, and 2014, all coinciding with Bitcoin’s predictable 4-year halving cycle.

Investors can incorporate dynamic or static rebalancing strategies to help avoid the maximum drawdowns associated with Bitcoin’s performance, which ETC Group discusses in their recent report. One example is the rebalancing strategy utilized by the Bitcoin Alternative Investment Fund in Liechtenstein, the Digital and Physical Gold Fund by Incrementum. The strategy automatically rebalances between two uncorrelated assets, Bitcoin and gold, once either asset surpasses a target threshold. 

“This report shows that as a fund manager, it makes sense to attribute part of your investments to digital assets, and as a high-frequency trading firm, you should attribute part of your resources to crypto as well. At IMC, we invest capital, time, and people to become as dominant in this space as we are in traditional markets.

Trading in digital assets is evolving rapidly. In some ways, it’s moving towards traditional market trading. At IMC, we particularly love the crypto-specific characteristics, notably the Decentralized Finance space and trading in perpetual futures, a new addition to our portfolio.  

IMC is committed to trading crypto and we’re in it for the long run; given the size of our company, the long-term strategy forms the basis for everything we do. Particularly because it takes a lot of time to adapt our systems to new markets and products, as everything we do is automated.

Sharpe Ratio Contribution of 2.5% Bitcoin Allocation to a Traditional 60-40 Portfolio (No Rebalancing)

At IMC, we are excited about the crypto space and we’re looking forward to the next bull run. By making markets more professional and competitive, both on and off chain, and therefore a lot more attractive for everybody, we play our part in building the ecosystem and increasing the chances of that run.”

Michiel Knoers sits on the Board of IMC as the Global Head of Trading. He started at IMC in Chicago in 2012 and worked there for seven years before moving to Amsterdam to lead the European trading team. In early 2021, IMC started trading crypto after acquiring FRIJT Trading and, more recently, Tensor Technologies in Switzerland – both companies set up by former IMC employees.  

Sharpe Ratio Contribution of 2.5% Bitcoin Allocation to a Traditional 60-40 Portfolio (Monthly Rebalancing)

Throughout the sample portfolios in the backtest, the impact of a 2.5% allocation to Bitcoin to the Sharpe Ratio varied in magnitude, but the average influence was significant at 21.25 percentage points. Crucially, the beneficial effect of including Bitcoin in the investment portfolio did not result in increased volatility. This is evidenced by Figure 22 – 25, which illustrates the enhancement of the Sharpe ratio of a conventional investment portfolio during the same rolling three-year periods.

Similar to the case with cumulative returns, incorporating Bitcoin consistently improved the overall Sharpe ratio of the traditional portfolio for every three-year interval examined in our research. Our study’s results confirm those found by BitWise in their 2023 and 2022 reports on adding Bitcoin to a traditional portfolio.  

The ETC Group’s 2024 Outlook, authored by Dr. André Dragosch, provides valuable insights into the dynamics between macroeconomic trends and Bitcoin’s market performance. Offering a forward-looking perspective, the report not only anticipates Bitcoin’s price resilience in the face of economic challenges but also outlines strategic approaches for navigating the crypto market’s volatility. Furthermore, it presents the case for incorporating Bitcoin into diversified portfolios, demonstrating its positive impact on risk-adjusted returns without adding volatility. This comprehensive analysis underpins the growing synergy between traditional finance and cryptocurrency, emphasizing innovation and strategic investment as key drivers for success in the evolving digital asset landscape.

Optimal Rebalancing Strategy

In the evolving landscape of investment strategies, the integration of digital assets like Bitcoin into traditional portfolios has sparked considerable interest and debate among investors. This analysis ventures into the realm of portfolio management with a specific lens on the impact of including Bitcoin, with a modest allocation of 2.5%, on the overall performance and volatility of a traditional investment portfolio over nearly a decade, from January 1, 2014, to November 23, 2023.

By employing a meticulous approach that examines the three-year rolling cumulative returns day by day, this study illuminates the outcomes of various rebalancing strategies – or the lack thereof – in enhancing portfolio returns while managing risk. Through the clear graphical representation and comprehensive summary statistics, our investigation seeks to offer valuable insights into the optimal integration of Bitcoin in diversifying investment strategies, navigating the trade-offs between return maximization and volatility control.

In the following analysis, we assume a 2.5% allocation to Bitcoin and look at the three-year rolling cumulative return for the period between Jan. 1, 2014, and Nov. 23, 2023. This means that we calculate the cumulative return for three years and then move forward day by day. As depicted in Figure 20, no rebalancing provided the best results historically when measured by cumulative return.

No rebalancing provided a 178% return compared to a portfolio with no Bitcoin, which provided a 75% return. However, rebalancing strategies can reduce risk, especially when combined with uncorrelated assets. Historically, the best rebalancing frequency for Bitcoin was yearly (143%), followed by quarterly (111%), followed by monthly monthly (97%). Essentially, this points out that letting the Bitcoin position breathe as much as possible within the portfolio has historically provided the best results.

Figure 1: Comparing Rebalancing Strategies for Bitcoin in a Traditional Portfolio

Source: Cointelegraph Research, Crypto Research Report

The summary statistics chart shows that the lowest volatility rebalancing strategy for Bitcoin was monthly with a 10.88 annualized standard deviation. Interestingly, the traditional portfolio without Bitcoin had more volatility than a portfolio with 2.5% allocated to Bitcoin and rebalanced monthly, quarterly, or yearly. The lowest maximum drawdown rebalancing strategy was monthly as well. Therefore, a conservative approach to Bitcoin would include a single-digit allocation to Bitcoin with a monthly rebalancing strategy.

Alternatively, investors could avoid transaction fees associated with selling Bitcoin on a time-based trigger such as a month or quarter and instead set a target range for the Bitcoin allocation to move between. Once the Bitcoin allocation surpasses a certain threshold, for example, 5%, the excess Bitcoin could be sold on the spot or with covered call options. Dynamic rebalancing strategies for Bitcoin have outperformed time-dependent strategies historically. 

Figure 2: Summary Statistics of Bitcoin Rebalancing Strategies

Source: Cointelegraph Research, Crypto Research Report

The exploration into the strategic allocation of Bitcoin within traditional portfolios reveals a nuanced landscape where the balance between risk and return is delicate. The empirical evidence suggests that a laissez-faire approach to portfolio rebalancing, particularly concerning Bitcoin, has historically yielded superior returns compared to more active rebalancing strategies. However, the allure of higher returns does not come without its counterpart of increased risk, prompting a deeper consideration of rebalancing frequencies and strategies to mitigate volatility.

Notably, the analysis underscores the efficacy of dynamic rebalancing strategies over their time-dependent counterparts, offering a compelling case for a more nuanced, threshold-based approach to managing Bitcoin allocations. In this intricate dance of numbers and market movements, investors are guided towards informed decisions that align with their risk tolerance and investment goals, marking a significant step forward in the sophisticated integration of cryptocurrencies into diversified portfolios.

Optimal Time Horizon for Bitcoin Investors

Exploring the dynamic intersection of traditional investment strategies and the burgeoning world of cryptocurrencies, this article draws inspiration from the seminal Bitwise report to investigate Bitcoin’s utility within a classic 60-40 investment portfolio. Cointelegraph’s researchers have embarked on a detailed analysis to uncover the ideal duration for holding Bitcoin, ranging from one to three years, focusing on its impact on portfolio returns through the lens of rolling cumulative return and Sharpe ratio metrics. This inquiry, rooted in a scenario where Bitcoin constitutes a 2.5% portfolio allocation with quarterly rebalancing, promises to offer invaluable insights into the strategic incorporation of cryptocurrencies in traditional investment paradigms.

Paying Homage to the original Bitwise report, “Bitcoin’s Role in a Traditional Portfolio,” Cointelegraph researchers studied the historical optimal time horizon for holding Bitcoin by calculating the rolling cumulative return and Sharpe ratio measures for holding durations ranging from one to three years. This was done using a benchmark scenario of a 2.5% Bitcoin allocation and conducting rebalancing quarterly.

Figure 15: One-Year Rolling Cumulative Return: Contribution of a 2.5% Bitcoin Allocation to a Traditional 60-40 Portfolio (Quarterly Rebalanced)

Source: Cointelegraph Research, CryptoResearch.Report

Figure 16: Two-Year Rolling Cumulative Return: Contribution of a 2.5% Bitcoin Allocation to a Traditional 60-40 Portfolio (Quarterly Rebalanced)

Source: Cointelegraph Research, CryptoResearch.Report

As can be seen in Figures 15 through 17, the contribution of 2.5% Bitcoin to a traditional portfolio’s return remains positive throughout most of the sample period. The same holds for the two-year and three-year rolling returns. This can also be seen in Figure 11, where the median contribution over three years stands at 12.88 percentage points. The three-year holding period also features a higher win/ loss ratio compared to other holding periods. Let’s look at the three-year rolling cumulative return. The win rate is 99.94%, meaning that nearly every three-year holding period between Jan. 1, 2014, and Nov. 23, 2023, provided positive returns for investors.

Figure 17: Three-Year Rolling Cumulative Return: Contribution of a 2.5% Bitcoin Allocation to a Traditional 60-40 Portfolio (Quarterly Rebalanced)

Source: Cointelegraph Research, CryptoResearch.Report

This shows that even investors who bought in at the top of the market can still have positive performance as long as they wait at least three years to sell. An alternative to waiting three years to sell is to avoid buying in at the top. This may sound difficult, but it’s easily achievable. Investors can dollar cost or value cost average their investment over time to avoid going all in at one point in time. 

Figure 18: Contribution of a 2.5% Bitcoin Allocation to a Traditional 60-40 Portfolio Summary Statistics

Source: Cointelegraph Research, CryptoResearch.Report

Dollar-cost or value-cost averaging over time is an easy and prudent approach to building a position in Bitcoin. Selling puts on CME or Deribit can also be used to build a position in Bitcoin while simultaneously earning premiums. For investors who want to build a position quickly without staggering their investment over a few months, Bitcoin’s price has often seen significant spikes in the fourth quarter of the year, suggesting a seasonal trend. 

Figure 19: Bitcoin’s Best Quarter Has Been Q4 Historically

The research presents a compelling case for including Bitcoin in traditional portfolios, showcasing its positive influence across various holding periods, especially over three years. This period notably offers significant returns, emphasizing the advantage of strategic patience and investment timing. It also highlights practical methods like dollar-cost averaging and strategic put selling as effective risk management and investment strategies. In essence, the study provides actionable insights for those looking to meld the realms of cryptocurrency with traditional investment approaches.

Correlation of Bitcoin with Traditional Assets

Amid the whirlwind of market fluctuations, Bitcoin stands out as an enigmatic player, challenging the conventional wisdom that guides investment strategies. Despite its well-documented volatility, Bitcoin surprisingly does not mimic the movement patterns seen in traditional asset classes like stocks and bonds. This divergence is primarily attributed to its low correlation with these assets, a phenomenon that has intrigued investors and analysts alike.

Leveraging detailed analysis, this article aims to unravel the mystery behind Bitcoin’s unique behavior in the financial ecosystem. By examining the rolling 90-day correlation of Bitcoin with traditional assets, we uncover insights into how and why Bitcoin’s market movements offer a distinct narrative from that of conventional investment options.

The limited increase in standard variation and maximum drawdown might be surprising since Bitcoin itself jumps around a lot in value. But Bitcoin doesn’t usually move up and down in the same way as stocks or bonds do due to the low correlation. The figures in this article show the low correlation between Bitcoin and traditional asset classes. 

Rolling 90-day Correlation of Bitcoin with Traditional Assets

Source: Cointelegraph Research, CryptoResearch.Report

“Classifying Bitcoin has always been a conundrum. Bitcoin’s correlations with traditional assets have perplexed investors with their variability. From inception to 2020, Bitcoin was largely uncorrelated from any asset class, lending the asset a meaningful role as a portfolio diversifier. After the liquidity injections and inflationary impulse in 2020-22, Bitcoin behaved like a risk asset. And more recently, its correlations with risk-on assets have broken down as it has behaved more like gold. So, determining Bitcoin’s nature alongside other asset classes has been fiendishly difficult. Bitcoin’s purest correlation of late has been to changes in the broad money supply, making it a gauge of liquidity of sorts.

As the U.S. nears a reckoning on the debt, and foreign buyers of Treasuries appear ever more scarce, alongside high and growing deficits, a monetization of the debt and a reliquification from central banks seems more likely. Amid these circumstances, Bitcoin would be a clear beneficiary. The likely potential for a spot ETF in the U.S. in Q1 2024 is another potent catalyst, alongside the highly touted quadrannual halving event. While many institutions have been disillusioned by crypto markets amid the credit crunch of 2022 and the subsequent drawdown, much of the largesse has been purged from the markets and the industry is quietly rebuilding. While Bitcoin is in the doldrums today, it endures as a global monetary asset of consequence, and brighter catalysts lie ahead.” – Megan Nyvold, Head of Brand, BingX

Bitcoin has had an unprecedentedly low correlation with traditional asset classes enabling investors to increase their portfolio risk-return ratio. Over the last ten years, Bitcoin’s correlation has stayed low to moderate with traditional asset classes.

Bitcoin Correlation Matrix

Source: Cointelegraph Research, CryptoResearch.Report

The exploration of Bitcoin’s relationship with traditional asset classes reveals a complex and nuanced picture that challenges preconceived notions about market correlations. The data presented in this article, supported by expert commentary from Megan Nyvold of BingX, highlights Bitcoin’s atypical response to market trends and global economic shifts. This peculiar behavior, characterized by low to moderate correlation with traditional assets, positions Bitcoin as a potentially valuable component for diversifying investment portfolios. However, the evolving nature of Bitcoin’s correlations, influenced by factors such as legislative developments, global monetary policies, and internal crypto market dynamics, points to an unpredictable future.

These findings underscore the importance of a nuanced understanding of Bitcoin’s role in the financial landscape, especially considering upcoming catalysts like the potential approval of a U.S. spot ETF and the anticipated Bitcoin halving event. As the crypto industry moves beyond recent setbacks and continues to mature, Bitcoin’s journey remains a compelling case study for investors seeking to navigate the intricacies of modern financial markets with agility and informed insight.

Mitigating Risk and Enhancing Returns with Bitcoin

In the rapidly evolving world of investment, diversification has always been a key strategy for mitigating risk and enhancing returns. With the advent of digital currencies, particularly Bitcoin, investors have found a new asset class to consider adding to their portfolios. This article delves into the impact of incorporating Bitcoin into a traditional 60/40 stock and bond portfolio.

By examining various metrics through detailed figures, we explore how different levels of Bitcoin allocation can affect the overall performance, risk, and return ratio of an investment portfolio. From marginal additions to significant inclusions, we unravel the nuanced relationship between risk and return in the context of Bitcoin investments.

The first line on the left is what happens when you don’t add any Bitcoin to your investment, and the lines that follow show what happens when you gradually add more, up to 10%. These lines aren’t about time moving forward; they’re just about how much Bitcoin you add. What stands out immediately is that the more Bitcoin you added historically, the higher your return was. 

Figure 1: Three-Year Rolling Cumulative Return by Bitcoin Allocation (Quarterly Rebalanced)

Source: Cointelegraph Research, CryptoResearch.Report

While adding Bitcoin to a global 60/40 stock and bond portfolio increased the cumulative return, there’s a catch: it can also make things more unpredictable or risky. Figure 2 shows what happens to the volatility when Bitcoin is added. Although the risk increases, it doesn’t just go up in a straight line. Instead, there is a curvature in the line. This means that if you only add a little bit of Bitcoin, like between 0.5% and 2%, it doesn’t make your investment much riskier. But as you add more Bitcoin beyond that, things can get unpredictable pretty quickly.

Figure 2: Three-Year Rolling Standard Deviation by Bitcoin Allocation (Quarterly Rebalanced)

Source: Cointelegraph Research, CryptoResearch.Report

In Figure 3, we mix the info from Figure 1 to look at the portfolio Sharpe ratios. The shape of this graph is pretty interesting: it goes up quickly at first and then levels off as you put more Bitcoin into your investment. This chart says that when you add some Bitcoin to your investment, it usually means you’re getting more return for the risk you’re taking. But there is no such thing as a free lunch: once you start adding more and more Bitcoin, especially after about 5% of your total investment, this extra benefit doesn’t increase as much as the risk does. So, adding a bit of Bitcoin can be helpful, but after a certain point, adding more comes at the cost of significantly higher risk. Based on historical returns and mean-variance optimization, the optimal amount of Bitcoin to add to the portfolio ranged from 3% to 5%.

Figure 3: Three-Year Rolling Sharpe Ratio by Bitcoin Allocation (Quarterly Rebalanced)

Source: Cointelegraph Research, CryptoResearch.Report

Figure 4 shows how different amounts of Bitcoin affect the biggest drop, or ’maximum drawdown,’ in an investment’s value. Similar to the Sharpe Ratio chart, the green line on the graph indicates that, on average, adding a little bit of Bitcoin, like between 0.5% and 4.5% of a 60/40 stock and bond portfolio, doesn’t change the maximum loss much over three years. Allocation over 5%, the effect on the biggest drop starts to grow a lot. For institutional investors with a low-risk appetite, sticking to a Bitcoin amount of 5% or less of the total investment may be the best from a risk-adjusted and maximum drawdown perspective. 

Figure 4: Three-Year Rolling Maximum Drawdown by Bitcoin Allocation (Quarterly Rebalanced)

Source: Cointelegraph Research, CryptoResearch.Report

In conclusion, the exploration of Bitcoin as a component of a diversified investment portfolio reveals a delicate balance between risk and return. The data presented through various figures underscores the potential for enhanced cumulative returns with the strategic addition of Bitcoin, albeit with an accompanying increase in volatility. The sweet spot, according to historical data and mean-variance optimization, appears to be within the 3% to 5% range of total investment allocation.

Beyond this threshold, the risk-return trade-off becomes less favorable, highlighting the importance of cautious and informed decision-making when integrating Bitcoin into investment strategies. For investors seeking to navigate the complexities of adding digital assets to their portfolios, these insights offer valuable guidance on achieving a risk-adjusted approach that aligns with their financial goals and risk tolerance.

The Optimal Allocation into Bitcoin for an Institutional Portfolio

In an era marked by rapid technological advancements and shifting economic landscapes, the traditional investment portfolio has seen its fair share of transformations. Among these, the integration of digital assets, particularly Bitcoin, into conventional portfolios has sparked considerable interest and debate within the investment community. This article delves into the empirical evidence provided by Cointelegraph Research and CryptoResearch.Report, examining the impact of adding Bitcoin to a traditional 60-40 stock and bond portfolio. Through a comprehensive analysis spanning from 2014 to 2023, the study sheds light on the potential benefits and risks associated with diversifying into Bitcoin, offering valuable insights for both seasoned investors and newcomers to the crypto space.

As the figure shows, a traditional 60-40 portfolio with quarterly rebalancing and no exposure to Bitcoin would have yielded a cumulative return of 71% between 2014 and the end of 2023. This would have increased to up to 157% had the portfolio allocated 5% to Bitcoin. Meaning Bitcoin gave over double the total return achieved by the traditional portfolio.

How Adding Bitcoin to a Traditional Portfolio Would Have Impacted Returns

Source: Cointelegraph Research, CryptoResearch.Report

However, not all investors had the foresight or ability to invest in January 2014; therefore, the Cointelegraph Research team constructed a backtest that does not rely on arbitrary start and end dates. Instead, a rolling analysis was done on over 6,000 unique portfolios with one-, two-, and three-year holding periods. The rolling analysis also shows a doubling in the total return. A 5% allocation to Bitcoin in a 60/40 global stock and bond portfolio returned 46.26% on average compared to 22.26% for traditional portfolios without Bitcoin. 

The next figure shows that these phenomenal returns did not come at the cost of significantly higher risk or higher drawdowns due to Bitcoin’s low correlation with traditional assets. Traditional stock and bond portfolios held for 1 to 3-year time horizons between 2014 and 2023 had an average Sharp Ratio of 0.63 and an average drawdown of 16.74%. Adding a 5% allocation to Bitcoin with quarterly rebalancing increased the Sharpe Ratio to 1.15 and the maximum drawdown to 18.30%, meaning that the portfolio’s risk-adjusted return increased by 82.5%.

Portfolio Performance Metrics

Source: Cointelegraph Research, CryptoResearch.Report

In November 2023, Coinbase conducted a research survey in collaboration with Institutional Investor to gain a comprehensive understanding of the attitudes and future perspectives of institutional investors regarding digital assets. Using an online questionnaire, the study asked questions to 250 institutional investors from the U.S. including hedge funds, asset managers, and allocators with $1B+ in AUM and $50M+ in some cases.

The survey revealed that 64% of existing investors anticipate boosting their investments in digital assets over the next three years. Additionally, 45% of the surveyed institutional investors who currently do not have crypto investments are planning to allocate resources to them in the coming three years. In terms of market outlook, 57% of the institutional investors surveyed are optimistic about cryptocurrency prices increasing in the next 12 months, a significant increase from just 8% who held this belief in October 2022. Moreover, the respondents expressed a belief in the potential of blockchain technology to supplant traditional payment and trade settlement systems in the future.

The exploration into the effects of incorporating Bitcoin into traditional investment portfolios reveals a compelling narrative of enhanced returns without proportionately escalating risk. The data, meticulously gathered and analyzed over various periods and through different portfolio configurations, underscores the substantial upside that a modest allocation to Bitcoin can contribute to overall portfolio performance. Furthermore, the positive sentiment among institutional investors, as highlighted by the Coinbase and Institutional Investor survey, signals a growing acceptance and optimism towards digital assets. As the financial landscape continues to evolve, the findings presented in this article serve as a critical reference point for investors contemplating the integration of cryptocurrencies into their investment strategies, highlighting the delicate balance between innovation and prudence in the pursuit of superior returns.

The Statistical Impact of Adding Bitcoin to a Traditional Portfolio

In the dynamic and often unpredictable world of cryptocurrencies, Bitcoin has emerged as a standout performer, demonstrating remarkable resilience and profitability over the years. Despite facing significant price fluctuations and criticisms, Bitcoin has managed to maintain an upward trajectory, proving itself as a viable asset for investment portfolios. With an annualized return of 50% since 2014 and a total return of 5,751.74%, Bitcoin has not only recovered from its lows but also significantly outperformed traditional investment options. This article explores the various benefits of incorporating Bitcoin into a traditional investment portfolio, drawing on recent research and data analysis to provide insights into optimal allocation strategies and the potential impact on portfolio performance.

In 2023, Bitcoin experienced a phase of recovery. Bitcoin often receives media coverage relating to its price volatility. The value of Bitcoin has indeed fluctuated dramatically since its inception in 2009. Occasional collapses have attracted the allegation that Bitcoin is a Ponzi scheme. On aggregate, however, there has been a solid upward trend, and the asset has recovered from price drawbacks. Bitcoin’s annualized return has been 50% per year since 2014, and a total return of 5,751.74%, as reported by Bloomberg. Using data going back to 2010, Bitcoin’s annual return rate stands at an impressive 230%, dwarfing the Nasdaq 100 Index, the second-best performer, by tenfold. Comparatively, large U.S. stocks yielded a 14% annual return, high-yield bonds grew by 5.4%, and gold saw returns of 1.5% in the same period.

Bitcoin Annualized Return Has Been 50% Since 2014

Source: Bloomberg Terminal

Including Bitcoin in a traditional investment portfolio can enhance performance in various ways. Here are the main benefits covered in the subsequent sections:

  1. Improved Performance: Research suggests that small allocations of Bitcoin can have a positive impact on risk-adjusted returns when compared to other assets.​1
  1. Diversification: Bitcoin is recognized for its low correlation with traditional markets, which can provide superior risk-adjusted returns.2
  1. Hedge Against Inflation: Investors might be interested in adding Bitcoin to their portfolios for purposes such as hedging against inflation​3​ and global financial uncertainty due to its properties as a scarce, secure, and price-inelastic digital commodity. It also has portability features that allow it to function similarly to money.​4

Each of these points suggests different ways in which including Bitcoin in a traditional investment portfolio can influence its performance. The overall impact on an individual’s portfolio could vary depending on multiple factors, including the proportion of Bitcoin, the rest of the portfolio’s composition, and the broader economic and market conditions. It’s advisable for investors to carefully consider their own risk tolerance and investment goals and perhaps consult with financial advisers before making the decision to include Bitcoin in their portfolio.

Bitcoin Price 2010 – 2023

Source: Glassnode

To understand the statistical impact of adding Bitcoin to a traditional portfolio, Cointelegraph’s research department replicated the 2020 Bitwise study, “The Case for Crypto in an Institutional Portfolio,” which was later updated in the 2023 Bitwise report, “Bitcoin’s Role in a Traditional Portfolio.”

Using the most recent data, Cointelegraph’s researchers answer three key questions that investors ask when allocating a portion of their portfolio to Bitcoin:

  1. How much Bitcoin should be added to a portfolio?
  2. How long should the position be held before selling?
  3. How often should the portfolio be rebalanced?

In the analysis we look at the three-year rolling cumulative return for the period between Jan. 1, 2014, and Nov. 13, 2023. We consider rolling analyses advantageous as they address worries about selective time period choices and offer a more comprehensive understanding of how frequently and significantly a Bitcoin allocation affects a portfolio across various market conditions. In rolling analyses, rather than selecting random start and end dates, we establish a specific duration for the holding period (one year, two years, or three years) and examine every possible holding period of that length within our data. The sample portfolios allocate up to 60% to the Vanguard Total World Stock ETF (VT), up to 40% to the Vanguard Total Bond Market ETF (BND), and a range of 0 to 10% in Bitcoin. The analysis used the 3-month treasury rate of 5.45% as the risk-free rate.

The inclusion of Bitcoin in a traditional investment portfolio offers a unique opportunity to enhance overall performance, diversify investment holdings, and hedge against inflation and economic uncertainty. The compelling data and research findings presented throughout this article underscore Bitcoin’s potential as a strategic asset capable of contributing positively to risk-adjusted returns. While the decision to allocate a portion of one’s portfolio to Bitcoin should be made with careful consideration of individual risk tolerance and investment goals, the evidence suggests that even modest allocations can yield significant benefits. As the financial landscape continues to evolve, Bitcoin’s role in investment portfolios is likely to grow in importance, providing investors with new avenues for achieving their financial objectives.

1Butterfill, James. “Bitcoin’s role in an investment portfolio.” CoinShares, 9 September 2020, https://coinshares.com/research/Bitcoins-role-in-an-investment-portfolio.

2“Should Bitcoin Be A Part Of Your Portfolio? Backtest, Allocations, And Simulations – Trading Strategies – Quantified Strategies.” Quantified Strategies, 2 October 2023, https://www.quantifiedstrategies.com/should-Bitcoin-be-part-of-your-portfolio/.

3“How Bitcoin may impact your portfolio.” Fidelity Investments, 23 January 2023, https://www.fidelity.com/learning-center/trading-investing/Bitcoin-investment-considerations.

4“Bitcoin in a Portfolio: The Impact and Opportunity.” Galaxy Digital, 2 October 2023, https://www.galaxy.com/insights/research/Bitcoin-in-a-portfolio-impact-and-opportunity/.

Is Bitcoin an Asymmetrical Risk Asset?

The digital age has introduced Bitcoin as a standout investment opportunity, combining unique growth potential with significant risks. This analysis explores network growth principles, specifically through Metcalfe’s Law and Sarnoff’s Law, and their relevance to Bitcoin. It also highlights Greg Foss’s insights on Bitcoin as an asymmetric investment opportunity, emphasizing its scarcity and potential as an economic downturn hedge.

In the study of the growth of networks, many scientific theories have emerged. Two that relate to the growth of networks like Bitcoin are Metcalfe’s Law and Sarnoff’s Law. Both theories state that the value of a network is proportional to the number of users on a network. Sarnoff’s law states that there is a direct linear relationship between the number of users (nodes communicating with the entire network). While Metcalfe states there are other factors (externalities) to take into account, and therefore, one has to take the number of users and square it to get exponential growth. In either case, the underlying point is that the growth of a network provides some signal to the potential growth in value, be it directly linked or exponential. 

Greg Foss, executive director of strategic initiatives at Validus Power Corp, who has spent over 30 years in high-yield credit trading and analysis, often says that a Bitcoin investment is the most “asymmetric opportunity” of all time. In an interview from the spring of 2023, he said:

“[Bitcoin] is the best asymmetric upside opportunity I have ever seen in my career of managing risk. We know that fiat debasement is 100% certain. How do you protect yourself against that? Well, we could run through the different asset classes that do, but one of the things that really doesn’t protect you against that is bonds. It’s just about everybody in the world… all pension plans, all high-net-worth individuals, all family offices, everybody owns bonds. Well, that is a fiat contract. It is a contract that will debase alongside the fiat because it’s a fiat contract. So my biggest goal having spent my entire life in bonds is to try and convert some of that money into Bitcoin to hedge the downside you’re going to have on your bonds with the upside that you have on Bitcoin.” 

What asymmetry means is that the asset, Bitcoin, is the hardest asset in terms of scarcity. Gold’s total supply on the earth is unknown, and increased prices could justify greater mining, increasing the amount above ground. Even land can be expanded if the demand is high enough. This cannot happen to Bitcoin. No amount of money, desire, or price increase can create more than 21 million. This means that all the demand has to go into the current asset supply, which has a deflationary admittance schedule. At the time of this writing, the next Bitcoin halving event will occur around April 2024 at block height 840,000, and 96.9% of all the existing BTC will have been mined. With 3.1% left over the next 117 years (the halving cycle greatly diminishes in 2140), owning some of the hardest assets at attainable fiat prices makes sense. 

The asymmetrical opportunity is conversely asymmetrical risk. This newfound paradigm shift into the alternative asset of Bitcoin as it grows, according to Metcalfe’s law or Sarnoff’s law, would mean that having no position in the asset is a risk that outweighs that of holding a position. If a firm allocates 0.5% of its liquid holdings into BTC, and the price goes to zero, it can survive. However, if that 0.5% of its liquid holdings grow to 40% due to the CAGR of BTC, and a firm does not get involved, it risks being substantially behind competitors and other firms in the market. A firm investing in Bitcoin can gain a fiat financial increase on its balance sheet if market conditions stay status quo in the next decade or so. However, if those conditions worsen into recessions or depressions, Bitcoin investment may mean the difference between having tradable, valuable assets and having diminished staying power with traditional financial instruments.

However, there are many challenges for investors considering Bitcoin that we touch on in the following chapters, including:

  • Volatility of Bitcoin compared to traditional assets.
  • Need for specialized infrastructure and custody solutions.
  • Regulatory uncertainties.
  • Limited historical data compared to traditional assets.

Bitcoin’s comparison with traditional network growth theories reveals its distinctive potential and challenges. Its scarcity and deflationary nature set it apart, offering an asymmetric opportunity for investors, as noted by Greg Foss. However, navigating Bitcoin’s volatility requires a careful balance between recognizing its growth potential and managing investment risks. As the financial landscape evolves, Bitcoin’s role as a digital asset offers a complex but promising avenue for strategic investment.

Bitcoin and the Lindy Effect

In the evolving realm of global finance, Bitcoin, a pioneering digital currency, has emerged as a popular alternative asset class. As per the 2022 CFA Institute Investor Trust Study, numerous financial entities including endowments, sovereigns, pension funds, and institutional investors, are gradually diversifying their portfolios to include cryptocurrencies like Bitcoin. This article delves into this shift in investment strategies, referencing a survey by Coalition Greenwich that reveals two-thirds of institutional investors’ exposure to cryptocurrencies. Furthermore, we explore the Lindy Effect, a concept that helps understand the perceived value and future stability of an asset class based on its longevity, and how it applies to Bitcoin.

One of the most researched alternative assets is Bitcoin, a pioneer in the world of digital currencies. According to the 2022 CFA Institute Investor Trust Study, endowments, sovereigns, pension funds, and institutionals are already allocating a portion of their investments to cryptocurrencies like Bitcoin, showcasing a gradual yet significant shift in asset allocation strategies.

For the study, Coalition Greenwich surveyed 3,588 retail investors and 976 institutional investors in October and November 2021 from 15 markets across the globe. The survey revealed an astonishing two-thirds of institutional investors have exposure to cryptocurrencies. 

“Bitcoin is a compelling asset for institutions seeking diversification and inflation protection, and I expect adoption to accelerate in 2024.” Paul Tudor Jones, Founder of Tudor Investment Corporation (October 2023)

Percentage of Organizations Currently Investing in Cryptocurrencies

The Lindy Effect

It is conventional wisdom that humans look to staying power to judge if something is reliable in the future. If the ground shifts, builders would be weary to build a house upon it instead of looking for solid footing before the start of construction. In the same way, people look to the longevity of an asset class to judge its potential future stability as well. This has led the modern risk manager to look at things like an S&P 500 Index or government-backed bonds as a means of investing today’s capital for “safe” future returns.

The Lindy Effect puts into layman’s terms what economists describe by way of the Regression Theorem. In short, individuals look to the collective subjective value of something in the recent past and project that value to the current and short-term future times. However, this is often a recency bias which can lead people to invest in what has worked before believing it will always work in the future. 

The Lindy Effect is often the barometer for commodities like gold and silver, as they have had thousands of years of documented history as a medium of exchange, stores of value, and industrial use. In the same breadth, Bitcoin has only been around since the Genesis Block was launched on January 3rd, 2009. To many, this remains an unproven medium of exchange or store of value as the asset itself lacks longevity in comparison to other asset classes.

To some, Bitcoin is a fad that will burn out like the pet rock. To others, there is an asymmetrical risk involved with flagrantly brushing aside Bitcoin instead of taking an educated look at the potential evolution of money. 

The pivot into Bitcoin has yielded phenomenal returns in contrast to other salient investments, such as Nvidia and Tesla, as shown in the next figure. 

Bitcoin’s Return on Investment Since 2016

The perception of Bitcoin as an asset class is varied, with some considering it a short-lived trend while others view it as a significant evolution in the financial system. The Lindy Effect, used as a measure for the reliability of commodities like gold and silver, presents a challenge for Bitcoin due to its relatively short existence since its inception in 2009. However, the increasing interest and investment in Bitcoin by institutional investors indicate a potential shift in this perspective. As we move forward, it will be interesting to observe whether the financial world embraces Bitcoin as a reliable medium of exchange and store of value, or if it succumbs to the test of time.