Is now an opportune moment for bitcoin investment?

Bitcoin reached a fresh peak above $72,000 this Monday, driven by a surge in digital currency demand that even caused the cryptocurrency trading platform Coinbase to experience a crash the previous week.

Following the challenging period of the crypto winter that commenced in 2022, Bitcoin is poised to break its previous records, propelled by increased investments in newly established bitcoin spot ETFs (exchange-traded funds).

Simultaneously, the price of ether, the native token of the ethereum network, has also risen to levels unseen since April 2022. This surge is fueled by investor speculation that ethereum ETFs may eventually gain approval from the U.S. Securities and Exchange Commission (SEC).

With billions of dollars flowing daily into bitcoin ETFs, the question arises: Is it an opportune time to join the trend? However, caution is advised.

Should Bitcoin Be Included in an Investment Portfolio?

Given the considerable excitement surrounding Bitcoin, it's natural to feel the urge to invest. However, before attempting to capitalize on the surging prices, it's essential to acquire comprehensive knowledge about the cryptocurrency.

It Remains a Speculative Asset

Bitcoin and various cryptocurrencies are considered speculative investments, representing assets where individuals invest with the hope of rapid price increases. These speculative assets are often referred to as nonproductive because they do not generate income, such as interest, dividends, or earnings. Investors in speculative assets typically aim to capitalize on short-term price fluctuations.

Michael Finke, a professor of wealth management at The American College of Financial Services, highlighted the unconventional nature of Bitcoin as a financial asset. Unlike traditional investments where capital supports companies in creating products or services, Bitcoin does not produce anything, making its valuation entirely speculative.

While the rising price of Bitcoin might seem enticing, it's crucial to consider that, unlike a company with tangible products or services, Bitcoin's utility is limited, even as a payment method. The stock market's historical success often results from reinvestment and compounding rather than solely relying on rising stock prices. Around 69% of the S&P 500 index's total return from 1960 to 2022 came from dividends, emphasizing the importance of reinvestment for long-term wealth growth.

Bitcoin and other cryptocurrencies do not provide dividends, meaning any returns hinge solely on price appreciation. Finke pointed out the allure of recent price increases, cautioning against the fear of missing out, a common sentiment among investors attracted to assets with recent upward trends.

It No Longer Functions as the Diversifier It Once Was

However, one prevalent motive for investing in bitcoin and other cryptocurrencies is to achieve portfolio diversification. Spreading risk across various asset classes is a strategy to mitigate the overall risk of significant losses.

The connection between stock and cryptocurrency prices has been a subject of ongoing debate. Recent research indicates an increasing correlation between stock and bitcoin prices, suggesting a tendency for them to move in tandem. A 2023 working paper from the International Monetary Fund notes that bitcoin and stock prices were "fairly uncorrelated before 2020, then increasingly correlated from the second half of 2020." One plausible explanation is the heightened likelihood of institutional investors having exposure to both bitcoin and stocks.

Georgetown University researchers observed a rising correlation between bitcoin and the S&P 500, particularly during times of crisis. The paper highlights that this correlation "significantly increased during COVID, the Russian invasion of Ukraine, and the crypto winter, indicating that bitcoin failed to serve as a hedging asset during these events."

The Volatility of Bitcoin's Price Persists

Bitcoin exhibits significantly greater volatility than the broader stock market, offering an exhilarating experience during upward price trends, as observed in recent months. However, during market downturns, Bitcoin tends to endure more substantial declines compared to traditional stocks. An illustrative example is the year 2022, marked by a challenging period for stocks, witnessing a roughly 19% drop in the S&P 500. In contrast, Bitcoin experienced a more drastic decline, losing over 60% of its value during the same year.

Despite acknowledging Bitcoin's speculative nature and historical volatility, Edelman contends that its potential justifies its inclusion in a long-term investment portfolio, suggesting a prudent allocation range of 1% to 5%. Emphasizing the high risks involved, he asserts that a modest single-digit allocation would have minimal impact if Bitcoin fails, while the potential for substantial returns makes even a small allocation influential in overall investment performance.

Bitcoin Likely Excluded from Integration into 401(k) Plans

Anticipate a delayed introduction of bitcoin into your 401(k) plan. While Fidelity and a smaller administrator, FORUSALL, have provided employers the option to allow plan participants to invest a small portion of their retirement funds in cryptocurrency, widespread availability is not foreseen by Finke, even with the introduction of new bitcoin ETFs. This reluctance is attributed to plan sponsors' fiduciary duty, mandating them to act in participants' best interests and minimize the risk of substantial losses.

Finke emphasizes the cautious stance of plan sponsors and their consultants regarding the addition of investment options to a plan's core menu. In fact, the U.S. Department of Labor has issued a warning to 401(k) plan administrators, urging caution before incorporating crypto assets into retirement plans. The department highlighted in a March 2022 memo that evaluating these assets and distinguishing facts from hype can be exceptionally challenging, even for seasoned investors.

What Makes the Newly Launched Bitcoin ETFs Significant?

Less than 12 months ago, 75% of Americans familiar with cryptocurrency expressed reservations about its safety and reliability, as per a survey by the Pew Research Center.

However, the trajectory of the world's largest cryptocurrency shifted in late 2023 when a federal appeals court ruled that the SEC had wrongly rejected Grayscale Investments' application to transform its Grayscale Bitcoin Trust into a spot bitcoin ETF. The SEC, opting not to appeal the court ruling in October, marked a turning point.

In January, the SEC granted approval for nearly a dozen new spot bitcoin ETFs, distinguishing them by directly owning the underlying asset—such as gold, silver, or now bitcoin—and closely tracking its price, minus associated trading costs or fees.

Ric Edelman, founder of the Digital Assets Council of Financial Professionals, highlighted the uniqueness of these ETFs, emphasizing that, unlike previous options, they directly invest in and own bitcoin. The SEC's decision has enabled investors to gain direct exposure to bitcoin without the complexities of navigating a crypto exchange or addressing storage and security concerns. Instead, investors can conveniently access bitcoin exposure by holding shares in their brokerage accounts, including individual retirement accounts (IRAs).

Edelman emphasized the perceived safety of the new spot bitcoin ETFs from a custody standpoint, attributing it to SEC regulation and their role in managing the safeguarding of investors' bitcoin.

Is Bitcoin Investment a Wise Decision?

Ultimately, the decision to invest in bitcoin, whether through ETFs or actual digital coins, is a personal one. If you choose to invest, it's advisable to already have a diversified portfolio that includes assets like index funds. Investing in speculative assets should be done cautiously, with funds that you can afford to lose.

Prior to purchasing bitcoin, it's crucial to reflect on your motivations. Consider whether you perceive bitcoin as having long-term investment potential or if your decision is driven by FOMO (fear of missing out).

Michael Finke warns against investors being lured by recent surges in value, cautioning that those drawn to investments simply because they've recently gained value often face consistent setbacks. The recent rise in bitcoin's value serves as an example of an enticing investment that may not necessarily perform well in the future.