Bitcoin crested $50,000 for the first time in three months on Sunday as cryptocurrencies show signs of life again. You might be wondering how you can invest in cryptos now.
Let’s cover how to trade these unique assets within the context of a proper portfolio.
Before I get into how to invest in cryptos, I want to make a quick point. There is nothing — absolutely nothing — wrong with straight-up gambling in cryptocurrency. So long as you aren’t risking money you can’t afford to lose, it’s fine to make concentrated bets on Bitcoin and its peers. People have made fortunes doing just that.
But if you want to make cryptos a permanent part of your asset allocation, you need to take a different approach. You need to think about them the way a professional portfolio manager would.
How to Invest in Cryptos
Step 1: Allocation
The first step is the hardest by far… You have to decide how much of your portfolio to dedicate to cryptos like bitcoin. A popular baseline portfolio might be 60% stocks and 40% bonds. A portfolio that included crypto might be:
- 59% stocks.
- 39% bonds.
- And 2% cryptos.
Or maybe you want to allocate more toward digital currencies. There isn’t a “right” number here or an official industry standard. The truth is, investing in cryptos is still new, and we’re all making this up as we go. That’s what makes it both fun and challenging.
I could write a book about position sizing and not fully do the subject justice. But I tend to share the basic view of Bridgewater’s Ray Dalio and his risk parity. In a nutshell, you should weigh asset classes according to their volatility. The more volatile the asset, the smaller it should be as an allocation.
Well, crypto is volatile. It may be the most volatile asset class I’ve seen in years. So it shouldn’t be a huge position. These are really broad suggestions, but I’d say that a conservative investor might be fine putting 1% to 2% of their portfolio in cryptocurrency. A more aggressive investor might go as high as 5%. It comes down to how much volatility you can stomach.
Once you have your target allocation down, the rest is easy.
Step 2: Rebalance Your Cryptos Often
The price of cryptocurrencies is constantly in flux, which means it pays to actively rebalance your portfolio.
Let’s go through an example: Cryptocurrencies are a 2% core portfolio holding for you. And let’s say that, after a nice run, the position moved to a 4% allocation.
Great! You sell the position back down to 2% and use the proceeds to top up some of your other portfolio weightings.
Or let’s say the opposite happens. Let’s say crypto hits a rough patch, and your position drops from 2% to just 1%.
No problem. You just sell down a small sliver of another asset class, like stocks or bonds, and then use the cash to top up your crypto position.
I could write another book on rebalancing … but there are essentially two schools of thought here.
- You can rebalance based on set time intervals — such as quarterly or annually.
- Or you can rebalance when your portfolio positions drift a little too far off target.
I’m a fan of doing both. In a traditional portfolio, rebalancing once per year is fine in most cases. But if you’re going to include crypto in your portfolio, I would rebalance once per quarter at a minimum.
Given how quickly the price can move, rebalancing after major moves is also a good idea. For example, the recent surge in the price of bitcoin was an excellent trigger to rebalance.
Taking an active approach to investing in cryptos like this ensures that you’re always buying low and selling high. That’s exactly what you want to do. But it only works if you’re disciplined and you actually do it!
To safe profits,
Co-Editor, Green Zone Fortunes
Charles Sizemore is the co-editor of Green Zone Fortunes and specializes in income and retirement topics. He is also a frequent guest on CNBC, Bloomberg and Fox Business.
Story updated on August 23, 2021.