The growth is fast in both number of users and accepting establishments, and if this continues, there is room for crypto’s value to increase from the network effect.
Now let’s move on to the term “decentralized and digital”. Digital, to put it simply, means there’s no physical bill or coin - it’s a little like a checkbook that’s distributed across countless computers around the world. Decentralized refers to not being directly affected by policies of a central bank like the US Federal Reserve or the Bangko Sentral ng Pilipinas. The appeal of a decentralized currency rings well for countries like Argentina and Venezuela where printing money has led to very high inflation (that’s when a local currency loses value and can buy fewer and fewer goods).
Lastly, blockchain is a system of recording information in a way that makes it difficult or impossible to change, hack, or cheat the system. It is essentially a digital record of ownership and transactions that is duplicated and distributed across the entire network of computer systems on the blockchain. Remember the ending of the movie ‘Fight Club”? They bombed multiple buildings where credit records are held to “reset” the financial system. Imagine what would happen if something like that would happen to bank records, real estate registration records and other registries where our ownership of wealth are kept.
Another appeal of cryptocurrencies is that it is very difficult to steal. Our bank accounts can get hacked, the cash we’re carrying can be taken from us at gun point, and in an extreme post-apocalyptic possibility, we can even be forced away from our houses by warlords. But taking away our ownership of cryptos would be very difficult – you have to practically edit all the records across the whole network.
“It seems that everything you said about cryptocurrencies are positive, does it mean I should invest in them?” you are probably thinking.
Let’s not jump to conclusions yet. Earlier, I said one of the key drivers of cryptos would be the network effect – how many users and establishments accepting this as a form of payment--but there is one roadblock here for it to become totally mainstream: crypto’s high volatility. Put simply, volatility refers to how much prices can swing either up or down. Crypto’s prices can drop by 15% or more overnight or in a matter of hours. Cryptocurrencies are usually 3x to 6x more volatile than the S&P500 (stocks). Going back to money’s role in facilitating trade and day to day expenses – it would be challenging to go to the supermarket and find that the value of your money changed significantly in a short amount of time. It would mean that the basket you’re taking home will also have to face this uncertainty of value.
Is crypto the right fit for you and your portfolio? With the balanced discussion above, I see 3 ways you can incorporate cryptocurrencies into your investment strategy (to make this write-up simple, we didn’t tackle specific cryptocurrencies, each of which also have their inherent advantages and disadvantages, but I leave it up to you to take the responsible route to study them properly).
1st is the simplest approach. Invest only in what you understand. If you’re not yet familiar with crypto’s investment thesis, then don’t include it in your portfolio. If you have an estimate of crypto’s potential return, risk, and even how correlated it is with other assets in your portfolio, I’m sure you already have a set target allocation of crypto in your investments (good for you! I doubt you need any help from me).
The 2nd approach is to put into crypto only the amount that you’re comfortable losing. As a rule of thumb this should only be 1-2% of your overall wealth and that your investment positions are already well diversified.
The last approach is to trade crypto actively. This requires trading skill, time, and above all, emotional intelligence. If you’re doing this, I highly recommend having a trading log, reviewing your entries and exits regularly, having a stop-loss, take-profit, and position sizing rules.
IMPORTANT NOTICE: This document is for general information purposes only. It is not an investment advice and does not constitute any offer, or a solicitation to buy or sell any investment product. Further, any opinion stated by the author does not necessarily reflect the position of Allianz PNB Life.