Should You Own Bitcoin?

Following the release The Blue Chip Portfolios Moderate Risk Portfolio, which included a 1% allocation to the iShares Bitcoin Trust (IBIT), I have received a number of inquiries asking to share my thinking behind this position.

In today’s post I will do just that.

As a starting point, it is important to note that Bitcoin is one of the most difficult assets to value and any sophisticated investor should have a high level understanding of both bullish and bearish views of the asset before making a decision.

Let’s start with the bearish view.

In a nutshell the bearish view centers upon the idea that Bitcoin is worthless because it does not provide and cash flows or utility.

Bitcoin skeptics include legendary investor Warren Buffett who has referred to Bitcoin as a “gambling token” which does not have any value. JP Morgan Chase CEO Jamie Dimon has called Bitcoin “a pet rock” and believes that it is worthless. Bill Gates has also been fairly critical of Bitcoin and cryptocurrencies more broadly stating that “the value of crypto is just what some other person decides someone else will pay for it so not adding to society like other investments.” Investment giant Vanguard is also not a believer and has banned all Bitcoin products, including recently launched ETFs, from its platform.

The bullish case rests upon the idea that Bitcoin is a store of value similar in nature to gold but with a finite quantity. Bitcoin bulls argue that the utility of the digital currency is its decentralization and inability to be controlled by government forces.

Bitcoin bulls include Elon Musk who holds the cryptocurrency and has said he plans to hold it for the long-term. Noted value investor Bill Miller is also in the bull camp and has said that Bitcoin can provide “an insurance policy against financial disaster.” BlackRock CEO Larry Fink has echoed those sentiments as well and recently said:

Franklin Templeton CEO Jenny Johnson is positive on Bitcoin as well and has said she own Bitcoin personally.

Thus, there are clearly a lot of smart people on both sides of the Bitcoin debate.

My View on Bitcoin

While Bitcoin may be a speculative asset which is only worth what the next person might be willing to pay for it, there clearly is a lot of demand even at current levels. In many ways I find the argument compelling that Bitcoin is similar to gold. Gold has limited to no utility other than the fact that people want to have it and are willing to pay a certain price. Another comparable asset is Art which is also highly speculative in nature with prices driven by what someone is willing to pay for it.

I find the idea of a decentralized currency compelling as there are many actors in the world such as Russia, China, Iran, and others who do not want to hold their reserves in a currency which is controlled by the U.S., the E.U., or any other Western democracy for fear that funds may be frozen at any time. Bitcoin has the potential to serve a critical purpose for these players. So far China and Russia have been hesitant to embrace cryptocurrencies as they view it as a threat to their own currencies but this could change in the future.

Of the bearish arguments, the one that resonates the most with me is that governments (most notably the U.S.) may decide to shut down or limit the market for Bitcoin. The theory behind this view is that a decentralized currency represents a key threat to the current global monetary system currently run by governments. However, Bitcoin bans in countries such as China have not proved effective as individuals there still have been to find workarounds through grey-market dealers. Moreover, I view the SEC’s recent approval of Bitcoin ETFs as a major signal that the U.S. government has no plans to shut down the cryptocurrency anytime soon. In my view the signaling effect of the SEC’s decision is a more important positive for Bitcoin prices than potential near-term increased in demand due to Bitcoin ETF inflows.

In terms of risk/reward, I view Bitcoin as somewhat asymmetrical in nature. The most one can lose investing in Bitcoin is 100% while there is potentially massive upside if the bull case plays out. Over the past 5 years alone, Bitcoin prices have risen by over 1,000%.

Ultimately my view on Bitcoin is grounded upon the idea that I do not believe I have a significant edge in predicting the outcome of Bitcoin or any other cryptocurrency right now as there is simply too much uncertainty. However, I do believe to some extent in the wisdom of crowds and thus I believe a market weight exposure to Bitcoin is roughly appropriate.

Currently, the market cap of Bitcoin is close to $900 billion while the market cap of all cryptocurrencies is estimates to be roughly $1.6 trillion. Comparably, the entire global equity market is estimates to have a market cap of $109 trillion.

While not a scientific approach, as I am not including the value of other assets such as global bonds, real estate, and gold, the above figures would suggest that a reasonable market weight allocation to cryptocurrency would be roughly 1.5% of one’s equity allocation. I have identified a 60% equity exposure as a reasonable benchmark for a moderate risk portfolio and thus I find 0.90% exposure to cryptocurrency is a reasonable expression of a market weight position relative to equity exposure.

My decision to allocate this entire amount to Bitcoin is a function of the fact that it is the most widely accepted cryptocurrency and has by far the largest market cap of any cryptocurrency. The recent stamp of approval from the SEC is a positive as well.

Recently launched ETFs represent an easy and efficient way to get exposure and thus I have decided to include a 1% allocation to the iShares Bitcoin Trust (IBIT) as part of my moderate risk model portfolio.

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