Investors nervous about the stock market might be looking for alternative investments like Bitcoin. When considering cryptocurrencies, though, it’s important to assess your overall portfolio goals and risk tolerance.
Learn about investing in Bitcoin over stocks in a way that may help you decide whether adding the cryptocurrency to your portfolio is the right move for your situation.
Bitcoin Risk vs. Stock Risk
Investments carry risk. The market could crash for various reasons. Companies could go bankrupt. Or, in a positive sense, a stock could soar over time. Weighing risk is important when you decide to add different assets to your portfolio.
“With an individual stock, there are risks,” Kirk Chisholm, a wealth manager and alternative investment specialist at Innovative Advisory Group, told The Balance via phone. “There’s a risk that it won’t grow, dividends might be cut and many people compare performance to the S&P 500, which means you run the risk of trying to keep up with the Joneses.”
However, he pointed out, these are risks common with many investments. Stocks are different because there is some guidance you can use to get an understanding of where a price might go.
You can account for things like the ratio of a company’s stock price and its earnings (the price-to-earnings, or P/E, ratio) to understand a company’s financial health.
David Stein, a former chief investment strategist and portfolio manager for an investment fund, also told The Balance via phone that Bitcoin lacks the predictors that stocks do.
“Cryptocurrency is speculative, completely based on supply and demand,” Stein said. “All currencies are, to some degree, based on what people are willing to pay, but it’s different with a crypto like Bitcoin. Unlike other currencies like the dollar or gold, it’s a much smaller market with regard to its overall size, so it’s more subject to big swings.”
Both Chisholm and Stein agreed that Bitcoin is a relatively new development and isn’t yet widely adopted. That adds a different layer of risk because it could be replaced by other more efficient digital currencies, or it could be regulated out of existence.
Bitcoin History vs. Stock History
While you can’t base future performance on the past, it’s useful to take a look at how different investments have fared over time.
In 2015, Bitcoin’s price fluctuated between $200 and $500 per coin. However, during 2017, the price suddenly rose, reaching a high of $19,891 in December, before dropping below $3,500 in December 2018. In 2020 alone, Bitcoin’s price bounced between $3,858 on March 12 and $9,074 on July 5.
Stock growth hasn’t been as dramatic, but it’s also been more stable since 2015. The S&P 500 index remained at right around $2,000 in early 2015. While there have been ups and downs since then, the S&P 500 was around $3,100 as of July 2020.
The Dow Jones Industrial Average (DJIA) hovered between $17,000 and $18,000 in early 2015. In December 2017, when Bitcoin was peaking at nearly $20,000, the DJIA was at about $24,000. As of July 2020, the DJIA was around $25,000.
“Bitcoin has been volatile since it was created since there was no natural way to value it,” Chisholm said. “It went to $20,000 because everyone was hearing the news and people didn’t want to miss out. Then it went to $3,000 and now it’s almost back to $10,000.”
With stocks, even though there are ups and downs and some volatility in the short-term, there’s more long-term and historical support.
“There is an expectation that the stock market will be propped up,” Chisholm said. “That expectation isn’t there for Bitcoin. Because stocks are more established and expected to do well, they have been historically supported.”
Historically, the stock market has provided around 10% annual returns (6% to 7% when you account for inflation). The same can’t be said for Bitcoin.
Who Is a Good Fit for Bitcoin?
Bitcoin may make sense if you’re looking for a little extra diversity in your portfolio. Cryptocurrencies like Bitcoin provide alternatives to more common assets.
“Bitcoin is helpful if you want to have some assets that aren’t denominated in the dollar or other home currency,” Stein said. “It’s a way to hold some assets away from the dollar.”
In general, even if you feel like Bitcoin is a good fit for your portfolio, Stein and Chisholm agreed that it probably shouldn’t be the main focus of your investment strategy. It’s mostly about how much risk you have and can tolerate, and whether you’re comfortable with losing that amount in your portfolio.
“If you like the numbers and the calculus behind (Bitcoin), then consider that it could go to $0 or up twentyfold,” Chisholm said. “So what percentage of your portfolio are you willing to lose? I think you limit it to 1 to 5% of your portfolio, depending on your risk tolerance.”
Who Is a Good Fit for Stocks?
For most people, stocks are likely to be appropriate for the bulk of any portfolio.
“Stocks should be the main focus of a portfolio for most people,” Stein said. “You can come up with a value based on profits and it’s a more stable investment due to its underlying characteristics.”
Plus, Stein said it’s reasonable to suppose that, even with some short-term volatility, most companies will likely exist in the future and, therefore, provide stability. By investing in a broad-based index fund or exchange-traded fund (ETF) made up of stocks, there’s a good chance that you’ll be fine in the long run.
Is It Still Worth Investing in Bitcoin?
Gone are the early days of Bitcoin when you could buy one coin for less than $1,000. With that in mind, along with the dangers involved, you may wonder if it’s too late to invest.
“If you believe in the thesis of Bitcoin, there’s still good reason to consider it, but be careful about how much of your portfolio you devote to it,” Chisholm said.
Stein said he has about 3% of his portfolio invested in cryptocurrencies, so he thinks it’s worth making an investment if it fits your goals. Plus, if you think that it will gain ground in the future due to the limits placed on production as well as potential adoption, it could be worth an investment.
What Are the Dangers of Bitcoin?
When investing in Bitcoin, one of the biggest dangers is that it could disappear, Stein said. It’s easy to replace Bitcoin with an alternative, as there are thousands to choose from.
Additionally, stock markets have been around in the U.S. since the late 1700s. Bitcoin is, on the other hand, a relatively new asset originating in the late 2000s. The history just isn’t there for Bitcoin if you like a long-term track record.
Another danger is that Bitcoin does not undergo the same Securities and Exchange Commission (SEC) scrutiny that regulated securities markets, like the stock exchange, do.
Finally, it’s important to remember that Bitcoin pricing tends to be more volatile than stocks. The cryptocurrency lept to nearly $20,000 in late 2017, only to fall by 82% one year later. The DJIA’s worst drop in the past 10 years, on the other hand, was the roughly 36% contraction it experienced from February to March 2020.
All of these factors create a level of risk and uncertainty that may present a danger to investors. Take the time to do your research and consider your risk tolerance before deciding if Bitcoin or stocks are the better investment for your portfolio.
- Bitcoin has been more volatile than stocks.
- There is the potential for dramatic growth with Bitcoin—but also for dramatic loss.
- Because of its uncertainty, it might make sense to limit the amount of Bitcoin in an investment portfolio.
Frequently Asked Questions (FAQs)
What is Bitcoin?
Bitcoin was the first successful cryptocurrency. Cryptocurrencies are open-source, peer-to-peer digital currencies that are not controlled by a central financial authority. Transactions are carried out collectively without the involvement of banks or clearinghouses.
Why is Bitcoin more volatile than stocks?
Bitcoin's limited supply and lack of a centralized authority make it subject to significant price swings. It's also still a relatively young currency in its price discovery phase. As speculations over its value shift, Bitcoin's trade value can change suddenly and dramatically.
How do I invest in Bitcoin?
You can buy Bitcoin on many different cryptocurrency exchanges. You simply need to sign up for an account and choose how you will pay for your Bitcoin. Once you buy it, you'll store any Bitcoin you own in your digital wallet. These transactions are all recorded publicly on the blockchain.