Bitcoin surged to new heights on Tuesday, March 4, 2024, briefly surpassing the $64,000 mark before retracing.
This rally marked a significant milestone, as it even exceeded the previous peak of $68,789 recorded in November 2021.
Such heightened demand for digital currencies led to a notable event: the crash of the crypto-trading platform Coinbase just last week.
Following a challenging period known as the “crypto winter” that commenced in 2022, bitcoin appears poised to break its previous records as investors flock to newly introduced bitcoin spot ETFs or exchange-traded funds.
Notably, the price of ether, the primary token of the ethereum network, also surged, reaching levels not witnessed since April 2022.
Investors are speculating that the U.S. Securities and Exchange Commission (SEC) will eventually approve Ethereum ETFs.
With billions flowing into bitcoin ETFs daily, the question arises: Is it time to join the party? Caution should be exercised.
What’s the buzz surrounding these new Bitcoin ETFs?
Less than a year ago, a Pew Research Center survey revealed that 75% of Americans familiar with cryptocurrency lacked confidence in its safety and reliability.
However, the price resurgence of the world’s largest cryptocurrency began in late 2023 after a federal appeals court ruled against the SEC’s rejection of Grayscale Investments’ application to convert its Grayscale Bitcoin Trust into a spot bitcoin ETF. The SEC’s decision not to appeal the court ruling in October further fueled optimism.
Subsequently, in January, the SEC approved nearly a dozen new exchange-traded funds referred to as spot bitcoin ETFs. Unlike other ETFs, spot ETFs directly own the underlying asset, in this case, bitcoin, closely tracking its price while mitigating trading costs or fees.
Ric Edelman, founder of the Digital Assets Council of Financial Professionals, emphasized the novelty of these ETFs: “There have not been any ETFs like this before… until now there have not been any ETFs that directly invest in and own bitcoin.”
The SEC’s green light enables investors to gain direct exposure to Bitcoin without navigating crypto exchanges or grappling with storage and security concerns. Instead, they can conveniently acquire bitcoin exposure through shares held in brokerage accounts, including individual retirement accounts (IRAs).
“The new spot bitcoin ETFs are widely viewed as the safest from a custody perspective because the ETFs are regulated by the SEC, and they handle the safeguarding of your bitcoin for you,” Edelman noted.
Should bitcoin find a place in your investment portfolio?
Given the enthusiasm surrounding bitcoin, it’s tempting to consider investing in it. However, there are crucial aspects to understand before diving into the frenzy.
Bitcoin and other cryptocurrencies fall into the category of speculative investments, where individuals invest in assets with the hope of rapid price appreciation.
Unlike traditional investments like stocks, speculative assets don’t generate income such as interest, dividends, or earnings. The valuation of Bitcoin is solely based on speculation, as it doesn’t produce anything tangible.
Michael Finke, a professor at The American College of Financial Services, explained: “With bitcoin, it’s not producing anything, so the valuation is entirely speculative.”
While the soaring price of Bitcoin might be captivating, it’s essential to recognize that it doesn’t create products or services like a company whose stock you might invest in. Additionally, its utility as a payment method remains limited.
Moreover, the historical wealth generated by the stock market often stems from reinvestment rather than solely from rising stock prices. Through automatic dividend reinvestment in retirement accounts and brokerage accounts, investors continuously accumulate more shares, enabling their money to compound over time.
Between 1960 and 2022, approximately 69% of the S&P 500 index’s total return was attributed to dividends rather than price gains, according to research conducted by Hartford Funds.
To put this into perspective, consider this: If you invested $10,000 in the S&P 500 in 1960 and left it untouched until 2022, it would have grown to over $4 million due to dividend reinvestment and compounding. However, without reinvesting dividends, that same investment would only be worth about $641,000.
Unlike traditional investments, such as stocks, bitcoin and other cryptocurrencies don’t generate dividends. Therefore, any returns you make would solely come from price appreciation.
“People are often drawn to assets that have recently experienced significant growth,” noted Michael Finke, emphasizing the allure of such investments, especially for sentiment-driven investors. The fear of missing out (FOMO) can heavily influence investment decisions when witnessing a surge in prices.
Bitcoin’s price volatility sets it apart, offering both excitement and risk. While rapid price increases can be thrilling, downturns can be equally dramatic. In 2022, for instance, a year marked by stock market struggles, bitcoin plummeted by over 60%.
Building a Diversified Portfolio for Long-Term Goals
Despite its volatility, some experts, like Ric Edelman, advocate for a small allocation of 1% to 5% in a long-term investment portfolio, citing its potential for significant returns. He suggests that while the risks are substantial, a modest allocation won’t cause significant harm and could significantly impact overall investment returns.
While diversification has been a common rationale for investing in cryptocurrencies, recent research suggests a growing correlation between stock and bitcoin prices. Institutional investors’ increased exposure to both assets could explain this trend.
Furthermore, the idea of incorporating Bitcoin into retirement plans like 401(k)s remains uncertain. While some providers like Fidelity and FORUSALL offer limited exposure to cryptocurrency, widespread adoption by plan administrators is unlikely due to fiduciary responsibilities to participants.
The U.S. Department of Labor has cautioned against adding crypto assets to retirement plans, citing challenges in evaluating their suitability. Plan sponsors prioritize minimizing the risk of significant losses, making them cautious about expanding investment options.
Ultimately, whether to invest in Bitcoin hinges on individual preferences and risk tolerance. Before diving in, it’s crucial to assess your motivations and ensure a diversified portfolio that aligns with your long-term financial goals.
Investing in speculative assets like bitcoin should be approached with caution and consideration of potential losses.