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Portfolio diversification

Amongst the list of disruptive innovations of the century, Bitcoin has been the most impactful one. This emerging digital asset has revolutionized money, payments and transfer of assets. Its strong selling point lies in the fact that it transfers value in a secure way via a distributed and decentralized network. Owing to the increase in its adoption, Bitcoin stands as the best performing asset and currency of 2015. Portfolio diversification is turning out to be another key use of Bitcoin.

Last Year witnessed many macroeconomic issues that hit the global economy hard. During this phase heavy funds have flown into the Bitcoin market when most assets plummeted under speculation. While this was supposed to be a short term boost, the crypto-currency continued to rise with higher trading volumes. This new found confidence in Bitcoin is due to factors which also make it an effective tool for portfolio diversification. Let us look into these factors in detail:

Bitcoin is non-correlated asset

The ideal characteristic of a portfolio is that every component should be non-related. When one asset takes a hit, the other components should be chosen such that the losses are minimized. Additionally, these components should be able to provide potential to improve returns for that level of risk. Most of the asset classes are related owing to some or the other fundamental factors. But over the past year, with so many tumultuous events, while most asset classes were dislocated, Bitcoin was unaffected. This is majorly because Bitcoin has very little or no correlation with any of the other asset classes. In comparison with fiat currencies and other assets around the world, Bitcoin had very little correlation (<0.3). Hence we believe that bitcoin could do well as a diversifier in a globally allocated portfolio.

Reduction in volatility levels

2015 saw tectonic shifts in the Bitcoin ecosystem with heavy investments till date. This included global banks, credit card issuers and hedge funds. As Bitcoin gains further acceptance and the underlying technology is adopted furthermore, we can see stability in the price levels. The recent reduced volatility levels are the testament to the fact that adoption has positive influence. As further applications of the currency and technology are found, we can see volatility on par with stable currencies. The three month average volatility for Bitcoin has been around 2% which is far better than devalued currencies of 2015.

Owing to these factors, we can see that Bitcoin serves as a really good portfolio diversifier. With growing adoption and more stability in prices, it is sure to be a major component of portfolios to come.

2015 was the year of Bitcoin

In 2015, Bitcoin managed to outperform all the asset classes and made a lasting mark on the global markets. With heavy return on investments and high transactional volumes, it has now become a strong contender for portfolio diversification. Throughout the year, the economy cramped with global issues of great apprehension. While most currencies struggled to strengthen against dollar, Bitcoin comfortably gained a strong 40% making it the best performing currency. It is a very strong uptick as Bitcoin won over the second best currency by a margin of 25%.

Performing Asset Class:

Bitcoin not only performed well in comparison to other currencies but also with major asset classes. It can be treated on par with stocks, bonds, precious metals, or currencies and hence can be considered as an asset class. This idea was popularized by Max Keiser in early 2013. The FinTech blog ‘TheBankwatch’ backed this idea defining why “Bitcoin is an asset class, not a currency.” Later in May 2015, NYSE launched a Bitcoin Price Index and declared it as an asset class.

Portfolio Diversification with Bitcoin:

Diversification is the trademark of an exemplary investment portfolio. This traditionally meant keeping a host of bonds, stocks and metals side by side. When one asset takes a hit, the others will compensate for the loss. Bitcoin has very little correlation with any of the asset classes. It portrays completely independent set of characteristics and that is what makes it an ideal tool for diversification. In 2015, heavy concerns clouded the global markets which made all the asset classes underperform. Probably having Bitcoin in one’s portfolio would have provided the potential to improve returns for that level of risk.

Volatility:

Traditionally known to be very volatile, Bitcoin has seen some amount of stability in terms of price fluctuation past year. This can be attributed to increase in the trading volumes owing to big market players taking long term positions in Bitcoin. In 2015, the average 30 day volatility for Bitcoin has been around 3.18 %. While on this front, it is still higher than 30 day average of US Dollar which is around 1-1.5%. It is still lower than major currencies in the world, especially those facing devaluation whose volatility measure typically around 25-30%.

Expectations in Years to follow:

While the price of Bitcoin is impossible to predict impeccably, with the mining reward halving in June of 2016, record highs have been predicted. This is because the supply of new bitcoin would be reduced by 50% pushing up the demand. Few technical factors indicate that primarily, the highs of 2013 ($1,100) would be tested in 2016. If the sentiment persists, a speed rise to $4,400 can be expected.

Hence as compared to the previous years, Bitcoin had an excellent run in 2015 and has carried it deep into the 2016, standing good on all expectations.