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Posted by Greg Taylor on May 1st, 2024

Crypto for Advisors: A Guide to Creating a Cryptocurrency Investment Thesis

Investing in cryptocurrencies is not right for every investment strategy, but they are becoming an asset class that looks to be here for the long term. Bitcoin and Ethereum now have a combined market cap of over $2 trillion. This means that the two largest cryptocurrencies’ value is currently 25% larger than that of silver

With the recent approval of US spot Bitcoin ETFs further entrenching the legitimacy of digital assets into the mainstream, it’s clear that every financial advisor should have a well-thought-out thesis on how to use crypto assets to best service their clients’ investment goals.  

In this guide, we will examine some of the arguments for cryptocurrency and consider the potential impact of a cryptocurrency allocation on portfolio performance.  

Key takeaways  

  • With the contemporary investment landscape evolving, Bitcoin and Ethereum can be effective tools to improve a portfolio’s returns through diversification.
  • Not all cryptocurrencies are created equal; focusing on the leading digital assets like Bitcoin and Ethereum will be the best option for most investment strategies.
  • Given Bitcoin and Ethereum’s historic performance and growth potential, a small allocation to these digital assets can have a significant positive impact on a portfolio with minimal downside risk.
  • A 3% allocation to cryptocurrency, with 2% of this Bitcoin and 1% Ethereum, has historically shown to be the right mix of growth potential and downside risk management for most portfolios.

Not all cryptocurrencies are created equal 

Bitcoin and Ethereum have very active, resilient networks and have showcased an ability to emerge stronger and more valuable from bear markets.

Currently, thousands of cryptocurrencies are available to be traded on digital currency exchanges (DCE). While some of these have real-world use cases and vibrant communities of developers and users behind them, many more have, at best, dubious utility. At worst, they are straight-up scams. For most portfolios looking to allocate to crypto, sticking to leading cryptocurrencies like Bitcoin and Ethereum is the most prudent strategy.  

Bitcoin and Ethereum have very active, resilient networks and have showcased an ability to emerge stronger and more valuable from bear markets. They’re also the most institutionalized cryptocurrencies, with spot Bitcoin ETFs available in Canada, the US, Europe, and Brazil and spot ether ETFs available in Canada, Europe, and, with increasing likelihood, the US. Exposure to these assets can come via some of the most accessible, transparent, and safe investment vehicles on the market, making it much more practical to incorporate them into a traditional portfolio. 

The Bitcoin and Ethereum value test 

“What is the value proposition of Bitcoin and Ethereum in a portfolio?”  

This is a question that every advisor will have to ask themselves when assessing if these digital assets are suitable for their investment strategy. On a granular level, there is much to consider when answering this question. That being said, whether Bitcoin and Ethereum investing makes sense for an advisor’s investment strategy does not have to be overly complex. A lot can be gleaned from understanding the core purpose of Bitcoin and Ethereum and asking a few important questions.  

Understanding the purpose of Bitcoin
Bitcoin was designed to be a digital and decentralized alternative to traditional currencies.

To get clarity on whether Bitcoin’s unique value proposition is compelling from an investment standpoint, ask the following: 

What is the likelihood that over a long time horizon, a growing percentage of the market will value a decentralized, transparent, secure, finite, and disinflationary digital asset that offers an alternative to, or hedge against, fiat currency? 

If the likelihood seems high, Bitcoin may warrant deeper consideration as an allocation.  

Understanding the purpose of Ethereum
The Ethereum network was designed as a platform for decentralized applications (dApps). These dApps are an alternative to traditional, centralized applications that operate on servers run by a single entity (e.g., Google or Facebook) and require trusted third parties to function. Ether, the native cryptocurrency of the Ethereum network, is used as fuel and currency within the Ethereum ecosystem.  

To get clarity on whether Ethereum’s unique value proposition is compelling from an investment standpoint, ask the following: 

Will a platform that enables developers and companies to build and deploy an array of decentralized products and services (e.g., decentralized exchanges, peer-to-peer lending, peer-to-peer marketplaces, etc.) become increasingly important to users and builders? 

If this reality seems high, then Ethereum may be a valuable way to diversify a portfolio.  

Contemporary investment challenges for advisors 

The current generation of investors is dealing with unique macroeconomic headwinds that need to be addressed in new and innovative ways.

Constructing a portfolio in the modern world is different than 50 years ago. The current generation of investors is dealing with unique macroeconomic headwinds that need to be addressed in new and innovative ways. Listed below are some of the main issues facing contemporary portfolio construction. These issues are important to understand at a high level so that an investor can fully understand what problems a crypto allocation could potentially solve.  

Negative correlations are diminishing Diversification is a key component of many investment strategies. Yet, with an ever more globalized world, North American equity performance is also increasingly linked with its global counterparts. As macroeconomic dynamics continue to evolve, many portfolios are also noting the increased correlation between stocks and bonds.  

The growing importance of private markets Over the past decade, institutions have moved large parts of their portfolios over to private markets. However, access to these investments and the higher return profiles that they can be associated with are generally much more limited to retail investors and advisors.  

Changing macroeconomic headwinds What investors must grapple with now is a changing macroeconomic landscape, which is shaping up to be very different from the 20-30-year period preceding the COVID pandemic. Declining interest rates, low inflation, mild recessions, the unchallenged geopolitical dominance of the US… these are no longer givens that everybody can base their investing assumptions on.  

 The investment cases for Bitcoin and Ethereum 

If we zoom out and look at Bitcoin’s 15-year life, there is no fiat currency on the planet that has maintained or grown its purchasing power to the extent Bitcoin has over the same time period.  

Keeping in mind some of the challenges listed above, it will be useful to look at some of the common investment theses surrounding Bitcoin and Ethereum allocation. This may help better contextualize why or if these digital assets would make sense to be included in a given portfolio.  

Digital gold or “gold 2.0” (Bitcoin)
One of the most common ways to view Bitcoin is as digital gold or “gold 2.0.” – like gold, Bitcoin does not rely on a centralized authority like a central bank to issue it. Nor can its supply be manipulated by any institution, government, or person. Bitcoin’s programmed scarcity mimics the scarcity of precious metals like gold. This scarcity, coupled with the fact that Bitcoin has steadily grown in popularity since its inception, is why many proponents view it as a potent long-term store of value. 

Unlike gold, though, Bitcoin is inexpensive to store, can be transferred across the world in minutes, and can be easily divided among multiple parties. These added benefits are where the gold 2.0 narrative comes more into focus. 

Asymmetric bet/Bitcoin and Ethereum as growth assets (Bitcoin, Ethereum)
Another argument for Bitcoin and Ethereum is the “asymmetric bet” argument, in which the potential upside (gains) vastly outweighs the downside (losses). While it can be tempting for naysayers to shrug off cryptocurrencies as overly volatile failed internet money, the reality is that there are very few asset classes or billion-dollar companies built in a few years – Bitcoin and Ethereum only came into existence as operational protocols in 2009 and 2015, respectively.  

While these two cryptocurrencies have grown enough in market capitalization to make the days of 10,000x growth unlikely to repeat, when compared with other entrenched asset classes, there still seems to be potential for a very high return profile.  

For context (at the time of writing): 

As Bitcoin and Ethereum mature as asset classes and continue to entrench themselves as legitimate stores of value and alternatives to traditional currencies, even a small inflow of capital from other asset classes could seriously impact their price.  

For Ethereum, being the first and largest platform for dApps in the world means that it has the potential to benefit meaningfully from network effects. As Ethereum attracts more developers, projects, and users, it could create a virtuous circle that reinforces its value and utility. Its place at the forefront of Web3 also means that it stands to benefit the most from individuals and institutions looking for alternatives to Web2 services.  

A hedge against inflation and currency devaluation (Bitcoin, Ethereum)
This narrative has been one of the foundational arguments for Bitcoin’s value proposition by its proponents. Because Bitcoin’s supply follows a deflationary trend, this case outlines how holding an asset like Bitcoin can act as a hedge against inflationary pressures and the devaluation of national currencies through central bank money printing. 

However, the efficacy of this argument largely depends on when an investor entered their Bitcoin position, how long they held it, and in which country they reside. For example, if an investor bought Bitcoin at the height of the 2021 bull run, sold it when the market crashed in 2022, and lived in Canada, then Bitcoin proved to be a horrible hedge against inflation or the Bank of Canada’s money printing.  

On the other hand, if an investor bought it in 2017, has held onto it until the present and lives in Argentina, then Bitcoin has proved to be an incredibly potent counterweight to currency devaluation. 

That being said, if we zoom out and look at Bitcoin’s 15-year life, there is no fiat currency on the planet that has maintained or grown its purchasing power to the extent Bitcoin has over the same time period.  

While Ethereum wasn’t created with the sole purpose of being a “hard” money like Bitcoin, its growth in value since its inception has positioned it as an excellent inflation hedge as well.  
In the chart below we can see that $100 of Bitcoin and ether bought when the protocols were launched, would have outpaced $100 invested in gold or the S&P 500 by many multiples.  

Inflation-adjusted returns
Source: Purpose Investments, Yahoo Finance, Bloomberg

Uncorrelated asset (Bitcoin)
As Bitcoin has a unique inception story and characteristics behind it, some investors view it as a way to diversify portfolios with an uncorrelated asset. There have been times in Bitcoin’s history when it diverged significantly from stocks, bonds, and other commodities. The most recent compelling example was in July 2023, when the correlation between the 90-day rolling average of Bitcoin’s spot price and the S&P 500 went down to almost zero. As the chart below illustrates, it would be unwise to view Bitcoin as a completely uncorrelated asset. Still, it has proven to be a good hedge against equity sleeve returns several times over the course of its history. As Bitcoin matures and continues to carve out its own unique investment narrative, we could also see this correlation decrease over time. 

S&P 500 & BTC Correlation
Source: Purpose Investments, Yahoo Finance, Bloomberg

Historical Bitcoin and Ethereum performance  

Bitcoin and ether’s price performance is a good reminder of how volatile new asset classes can be. Still, it also highlights that if a cryptocurrency position is entered at the right time and is viewed as a long-term play, it can seriously impact a portfolio’s positive returns.  

Bitcoin and ether since 2015
Source: Purpose Investments, Yahoo Finance, Bloomberg

The 3% case study for the mass affluent  

When discussing cryptocurrency allocations in a traditional portfolio, a good percentage to play with as a case study is 1-3%.

When discussing cryptocurrency allocations in a traditional portfolio, a good percentage to play with as a case study is 1-3%. Due to the high volatility of Bitcoin and Ethereum, a 1-3% portfolio allocation means that if the price appreciates greatly, it will have a meaningful positive impact on portfolio returns; if prices crash, the overall health of the portfolio will not be significantly affected.  
For this case study, we will look at a 3% allocation, of which 2% is Bitcoin and 1% is Ethereum. As these two leading cryptocurrencies were designed to achieve two very different outcomes, we feel a mix of the two is important to diversify a portfolio’s crypto allocation properly. 3% is, of course, not “the” number for everybody; it’s simply a valuable reference point to evaluate the potential impact of Bitcoin and Ethereum on an average equity and bond-based portfolio. And it is likely the percentage that will be the most suitable for the average mass affluent investor.  

Moving on, to see the potential impact of a 3% allocation, we can look at recent market numbers from 2023 and 2022. 2023 was a year in which Bitcoin and Ethereum performed very well compared to traditional equities and bonds. Meanwhile, in 2022, Bitcoin and Ethereum performed much worse. A traditional 60/40 portfolio returned approximately 13.2% over the course of 2023. Over the same time period, Bitcoin returned roughly 154%, and Ethereum returned nearly 90%. In 2022, a 60/40 portfolio returned approximately -13.6%. Bitcoin and Ethereum, on the other hand, were down close to 64% and 67%, respectively. 

As many cryptocurrency proponents view it as a long-term investment or portfolio hedge, looking at the 3% allocation from a longer-term perspective may also be valuable. The chart below outlines the annualized returns of a 60/40 portfolio as compared to a 60/40 portfolio that has allocated a small percentage to Bitcoin and ether. As can be seen, a small cryptocurrency sleeve can go a long way.  

BTC and ETH annualized returns over a long time horizon
Source: Purpose Investments, Yahoo Finance, Bloomberg

The ultra-high net worth case study  

We also think it is important to note that as the asset class matures, volatility levels off, and investors become more educated about cryptocurrencies, many portfolios will reflect increasing conviction in the dominant cryptocurrencies.

While a 3% allocation may make sense for a large swathe of investors, we have to acknowledge that as we go farther away from the bell curve, this percentage could change significantly depending on client needs and investment goals. We know that in the case of ultra-high net worth (UHNW) investors, portfolios generally emphasize looking for higher return profiles while, at the same time, placing a lot of importance on diversification and wealth retention. This is reflected in the fact that many UHNW portfolios have a 50% allocation to alternatives and a much lower allocation to public markets, fixed-income, and money market funds as compared to the average investor. In these circumstances, a cryptocurrency allocation as high as 5% would not be entirely unreasonable, as this investor segment tries to diversify a portfolio for wealth preservation while, at the same time, looking to take calculated risks for growth.  
UHNW investor strategies can be highly personalized, which can make it challenging to give a broadly relevant analysis of their capital allocation. Still, some high-level observations can be made. In this pot of 50% alternatives, private equity makes up approximately 27%. As a rule, private equity does tend to outperform public markets. 

Still, even in a historically high-return asset class like private equity, a conservative crypto allocation in line with the 3% suggested above for the mass affluent investor, still has the potential to make a compelling difference in a UHNW portfolio.  

Even in the high-return environment of private equity, having a crypto sleeve can boost returns
Source: Purpose Investments, Yahoo Finance, Prequin

We also think it is important to note that as the asset class matures, volatility levels off, and investors become more educated about cryptocurrencies, many portfolios will reflect increasing conviction in the dominant cryptocurrencies. Using gold as a reference point, we can see that many long-term investment strategies carry a 4-5% gold weighting – it does not seem unreasonable to assume that similar allocations to Bitcoin and Ethereum will become increasingly common in UHNW and mass affluent portfolios as the assets entrench themselves into the traditional financial system.  

Final thoughts  

Cryptocurrency investing is not for everybody. However, even for the most severe cryptocurrency skeptics, it is now impossible to ignore the reality that the two dominant cryptocurrencies have a market cap of well over $1.5 trillion. In a world of increasing uncertainty, having a small exposure to an emerging asset class that has the potential to protect against rapid inflation and currency devaluation is something everyone should consider. Responsible investors should have a well-thought-out thesis on Bitcoin and Ethereum one way or another.  

–Greg Taylor, CFA, Chief Investment Officer at Purpose Investments  

Commissions, trailing commissions, management fees and expenses all may be associated with investment fund investments. The prospectus contains important detailed information about the investment fund. Please read the prospectus before investing. There is no assurance that any fund will achieve its investment objective, and its net asset value, yield, and investment return will fluctuate from time to time with market conditions. Investment funds are not guaranteed, their values change frequently, and past performance may not be repeated. 

This information is provided for illustrative and discussion purposes only. This material is not intended as a formal research report and should not be relied upon as a basis for making an investment decision. Historical trends do not imply, forecast or guarantee future results. Information is as of the date indicated and subject to change without notice. Nothing herein constitutes a prediction or projection of future events or future market behavior. 

The information is not investment advice, nor is it tailored to the needs or circumstances of any investor. Information contained in this document is believed to be accurate and reliable, however, we cannot guarantee that it is complete or current at all times. The information provided is subject to change without notice. 

Funds mentioned in this story

Greg Taylor, CFA

Greg Taylor is the Chief Investment Officer of Purpose Investments. A data-driven manager with a focus on managing risk through active-trading strategies, Greg specializes in finding and exploiting pockets of volatility in the market to drive returns. He spent more than 15 years managing pension and mutual fund assets at Aurion Capital Management. He also held a role of senior portfolio manager at Front Street Capital and LOGiQ Asset Management before coming to Purpose Investments.

Greg serves on the investment committee for the MS Society of Canada and advises the finance program’s portfolio management course at Bishop’s University. He has won numerous Brendan Wood International “TopGun” awards and is a regular host and guest on BNN Bloomberg and Toronto’s all-news radio station, 680News. Greg is a CFA Charterholder and has a BBA in Finance from Bishop’s University.