Please ensure Javascript is enabled for purposes of website accessibility

Is There Room For Bitcoin in a 3-Fund Portfolio?

By Sam Swenson, CFA, CPA - Updated Feb 26, 2021 at 12:19PM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

The temptation to spice up this low-maintenance investing strategy with a bit of Bitcoin would be understandable, and perhaps even advisable.

It's in our very nature to want to invest in things that have risen aggressively in the recent past -- just this year, and as of this writing, Bitcoin is up about 65%. Its meteoric rise has gained tremendous attention from even the most stoic, long-term investors: those who subscribe to the idea of a "Three-Fund Portfolio." Does the cryptocurrency merit inclusion in your portfolio if you're a set-it-and-forget-it investor? 

What's a three-fund portfolio?

A three-fund portfolio refers to an investment allocation consisting of only three passive funds: a domestic total stock fund, an international total stock fund, and a total bond market fund used to smooth returns. Someone would choose this method if they want to simply invest their money, periodically rebalance, and focus on the long term. Other advantages of the strategy include:

  • Low costs. A three-fund portfolio, executed properly, should consist of low-fee, broad market index funds that can be had with zero commissions to enter and exit. ETFs covering stocks and bonds often have expense ratios of 0.1% per year or lower.
  • Tax efficiency. Infrequent trading leads to lower taxes over time, and proper asset placement will also reduce your tax bill. Passively managed funds do not require more than occasional rebalancing, in contrast to actively managed mutual funds, which will pass their trading costs on to their investors.
  • Minimal maintenance. Once you've set up your three-fund portfolio in the proper proportions (a 30-year-old investor might choose 40% U.S. stocks, 40% international stocks, and 20% bonds), there really isn't much else for you to do other than occasionally rebalance it. Rather than futilely trying to time the market, you can focus your energy on other things in life that really matter.

So where does Bitcoin fit in here?

There is an argument to be made for including Bitcoin in a three-fund portfolio, but the allocation should be small. From an extremely general view, many see Bitcoin as the decentralized currency of the future, and a small but growing number of large companies have demonstrated their willingness to commit significant amounts of money to Bitcoin portfolios (among them, Tesla and Grayscale). Enthusiasts of the cryptocurrency cite its scarcity -- only 21 million coins will ever exist -- as a primary reason for its explosive price growth potential. They also cite its durability and rapidly transferable nature as reasons to invest. 

Bitcoin coming out of phone.

Image Source: Getty Images.

Despite its positive attributes, Bitcoin does face challenges. It is not backed by any sort of precious metal nor any other commodity, which has fueled the view that its price growth is based on pure speculation. And owners have had issues with Bitcoin loss (if you lose or otherwise forget your wallet password or misplace the data file containing your cryptocurrency, it's just gone) and theft (hackers have found ways to steal Bitcoin). 

A true three-fund portfolio proponent is probably going to stay away from Bitcoin. Depending on how you choose to invest in it, it can be very expensive to own (Grayscale charges a management fee of 2% for shares of its Bitcoin Trust). Further, it's extremely volatile, and to invest in it profitably can require paying an inordinate amount of attention -- investment qualities that three-fund portfolio enthusiasts tend to shun. 

Say you still believe Bitcoin has a place in the long-term future -- a definite possibility. How do you judge the risk of not owning Bitcoin? If it goes from its current price of around $51,000 per token to $1 million, how will you feel if you don't own any? Many three-fund portfolio enthusiasts will be completely fine with that outcome, but others will experience tremendous regret.

For this reason, it's justifiable for Bitcoin to be a "satellite" holding to your three-fund portfolio, but only with the caveat that you're in it for the long run. No jumping in and out, and certainly no outsized holdings. Your best bet, if this makes sense to you, is to keep the holding to no more than 5% of your total investable portfolio. This can be viewed as insurance against portfolio regret, a high-risk/high-reward play that should only be used with great caution.

Your call, but use judgment

There are definitely justifiable reasons to invest in Bitcoin, but the smart choice is to keep your holding of the cryptocurrency small. We simply don't know where the price of Bitcoin is going -- nobody does. But we do know enough about technology that it has the ability to completely transform the future, and a world in which Bitcoin becomes ubiquitous is really not far outside the imagination. Sticking with a classic three-fund portfolio allocation would be a sound strategy. But it's worth noting that the next 50 years could look quite different from the last 50. 

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

Tesla, Inc. Stock Quote
Tesla, Inc.
TSLA
$759.63 (7.33%) $51.90
Grayscale Bitcoin Trust (BTC) Stock Quote
Grayscale Bitcoin Trust (BTC)
GBTC
$18.96 (-0.42%) $0.08

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning service.

Stock Advisor Returns
356%
 
S&P 500 Returns
124%

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 05/28/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.