Are Cryptocurrencies the New Alternative Investment?

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After the financial crisis of 2008, many financial firms and their clients realized they needed more diversity in their portfolios. This led portfolio managers to add more alternative investments to their client asset allocation models. The latest alternative investment on the scene is cryptocurrency (crypto).

Learn how to gain exposure to crypto, and how institutions are trying to mesh alternative investments and cryptocurrencies.

Key Takeaways

  • Traditional alternative investments aim to hedge against market dips, and include assets that tend to perform in opposition to stocks and bonds.
  • There is some debate about whether blockchain-based technologies can be used as alternative investments in your portfolio.
  • Bitcoin may be the most well-known cryptocurrency, but there are many more, such as Ethereum and XRP.
  • The market for cryptocurrencies is still new and slightly volatile, but is becoming more mainstream in the form of ETFs and other products.


What Is an Alternative Investment?

If you're not familiar with alternative investments (also called alternatives), they are "non-correlated assets." They don't fall into one of the traditional methods of investing like stocks, bonds, cash, or cash equivalents.

This means that their performance doesn't follow that of the other asset classes. Because the price of these assets moves in different directions than other investments, they may be a way to hedge against market downturns.

A 2021 survey by PPB Capital Partners showed that most financial advisors were planning on boosting or keeping their clients' involvement in alternative investments. Many advisors were expected to recommend increasing alternatives exposure to 5%–10% of the portfolio.

Alternatives can be used to balance risk in your portfolio. They can provide a "cushion" in case a stock or bond meltdown happens. They can also fit into a small portion of your overall portfolio.

You may not be aware that you have alternatives in your portfolio. For example, ETFs, mutual funds, and other large institutional funds such as pensions or retirement funds can have alternatives in them.

Some management firms might have allocation models for clients with alternatives near or above 20% of a portfolio. Every client is different, and allocations will vary based on their needs.

Many people believe a hedge fund is the most common alternative. This is only partly true: most hedge funds only offer access to people with large account balances. Hedge funds also have very large buy-ins and high fees, which make them inaccessible to most people.

You can gain exposure through liquid alternatives such as mutual funds, ETFs, and closed-end funds. These types provide daily liquidity but have complex strategies that seek to retain their non-correlated status.

Many alternative investments, such as fine art, may be challenging to find appropriate valuations for. Cryptocurrencies trade on exchanges, making their pricing visible but whether they have intrinsic value is still being debated.

Cryptocurrencies Beyond Bitcoin

If you're the type that can take some risks, you may want to look at other cryptocurrencies besides Bitcoin. As of October 2021, there are more than 6,000 cryptocurrencies listed on CoinmarketCap.

As with any investment, some are making money with crypto, while others are losing money with it. These investments are not for the faint of heart, but it's a growing and very real opportunity.

The Future of Crypto as an Alternative

Bitcoin, cryptocurrencies, and blockchain-based technologies getting wider acceptance as alternative investments is nearing. In May 2021, Goldman Sachs declared Bitcoin and other digital currencies as a separate alternative asset class.

Consider your financial goals and situation to assess if there's a place for crypto in your portfolio if your strategy includes alternatives. As investment opportunities open up, you'll need to recognize the different classes that will be created and allocate them appropriately within your portfolio.

Many people will dismiss these products at first, even your advisor. As progress (and profits) are made, you'll likely start hearing much more about crypto-based investments and how they might fill the alternative investment portion of your portfolio.

Do I Need Alternative Crypto Investments?

If you're thinking about investing in some type of cryptocurrency, it helps to know that it is likely to be a bumpy ride until the cryptocurrency market matures. Your returns will vary based on how you choose to invest in cryptocurrency.

You can buy Bitcoin and other cryptocurrencies on cryptocurrency exchanges such as Coinbase or Kraken. To do that you would need to open an account with the exchange. You may also purchase crypto through brokerage accounts that allow such transactions, such as those offered by Robinhood.

If you don't want to go through the hassle of opening a separate account and managing a cryptocurrency wallet, you may have some other options to get cryptocurrency exposure.

One way, is to buy stocks of a company that develops blockchain technology or in firms that mine cryptocurrency. Another is by investing in futures with the cryptocurrency as the underlying asset. Bitcoin and Ether futures trade on the CME.

Important

Futures are considered risky investments. Cryptocurrency futures are futures contracts based on an inherently risky underlying security. That means they may not be suitable for every investor.

The third way to gain exposure to cryptocurrency is through investment trusts such as those offered by Grayscale. These private funds often have high minimum investment requirement and annual fees.

Lastly, the first Bitcoin Futures ETF began trading on the NYSE in October 2021. This exchange-traded fund offers investors a chance to get in on the crypto craze but with the help of a professionally managed fund.

Whether you should have crypto-based alternatives in your portfolio depends on your risk tolerance, strategy, and goals. Talk to your financial advisor to see if there is a place for crypto or crypto alternatives in your investment plan.