Earlier today, Fidelity Digital Assets released the second report in their series on the investment thesis behind bitcoin. The report explores bitcoin’s potential fit as an alternative, uncorrelated asset in a diversified portfolio.
“The rationale of certain bitcoin holders for allocating to bitcoin is similar to their rationale for allocating to alternative investments—notably, portfolio diversification and return enhancement,” reads the report. “Additionally, the interest in bitcoin and other non-yield-generating alternative investments could also increase in response to the Federal Reserve (and many other central banks) cutting their benchmark interest rate to zero (or below zero) this year. In a world where benchmark interest rates globally are near, at, or below zero, the opportunity cost of not allocating to bitcoin is higher.”
The report provides seven rationales for allocating some portion of an investor’s portfolio to bitcoin as an alternative investment.
According to Fidelity Digital Assets, a key selling point of bitcoin as an alternative asset is the diversification it can provide to a portfolio. While there have been notable short-term trends where bitcoin has been highly correlated to the traditional stock market, gold, and other notable asset classes, the long-term trend is that bitcoin is highly uncorrelated.
“Bitcoin’s correlation to other assets from January 2015 to September 2020 (displayed in the table below) is an average of 0.11, indicating there is almost no relationship between the returns of bitcoin and other assets,” notes the report.
The report goes on to contend that this lack of correlation with traditional markets is driven by four other key rationales for the bitcoin investment thesis: differing return and risk factors, evolving narratives, greater overlap between market participants, and the fact that bitcoin is a retail-driven phenomenon.
With the backdrop of bitcoin as an uncorrelated asset that could have value in a sufficiently diversified portfolio, the new report from Fidelity Digital Assets notes that the potential exists for trillions of dollars of new money to come into the bitcoin market. The report notes bitcoin is a “drop in the bucket” compared to the markets it could potentially disrupt in the coming years.
For example, the report mentions bitcoin’s current market cap at just under $200 billion. By comparison, Fidelity Digital Assets cites the CAIA Association‘s estimate of the alternative investment market at $13.4 trillion in 2018. According to the report, 10% of that money moving into bitcoin would equate to a roughly $1.3 trillion market size increase for the world’s largest crypto asset.
The report from Fidelity Digital Assets also notes that the size of the alternative asset market could increase in the coming years due to a potential decline in the attractiveness of holding bonds. According to billionaire investor and former Facebook executive Chamath Palihapitiya, who recently told CNBC’s Squawk Box that holding bitcoin helps him sleep at night, bitcoin could make sense as a partial replacement for funds that were previously allocated to bonds.
Bridgewater Associates founder Ray Dalio is another billionaire investor who recently shared his own warning about the potential for serious trouble in the market for government-issued bonds.
While the Fidelity Digital Assets report admits that it’s possible bitcoin could become more correlated to traditional assets as more institutional investors enter the market or the bitcoin investment narrative becomes centralized around a single use case, it also adds that the cryptocurrency is currently positioned to ignore a lot of the economic uncertainty that could continue to plague global markets in the coming years.
“[B]itcoin is fundamentally less exposed to the prolonged economic headwinds that other assets will likely face in the next months and years,” reads the report. “Combined with its multifaceted narratives and an interesting effect of persisting retail and growing institutional sentiment, it could be a potentially useful and uncorrelated addition to an investors’ portfolio toolkit.”
As pointed out by Decrypt, Fidelity Digital Assets also suggests that investors should consider a 5% allocation to bitcoin in their portfolios.
Note: This article was updated to note that Fidelity Digital Assets suggests a 5% allocation to bitcoin in their report.