Volatility in the cryptocurrency world is par for the course, but this recent period of volatility has been something else. In this Jan. 19 episode of "The Crypto Show" on Backstage Pass, Fool.com contributors Chris MacDonald and Jon Quast discussed how to manage the volatility among Bitcoin (BTC 4.16%) and other tokens moving forward.
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Jon Quast: Speaking of things that are down, or just talking about volatility in general, the market has been just volatile in general. We can't just talk about cryptocurrencies here.
One way that we can measure volatility is with the VIX. This is from the Chicago Board of Options Exchanges. This is a Volatility Index a way that we can measure how volatile the markets are. This was up 19% on Tuesday and generally, the VIX has just been high. What this is telling us is that yes, [laughs] the investing market is volatile and of course, volatility isn't a risk if you're a long-term investor. Volatility is a risk the shorter your time horizon.
What it does mean is that there's a chance that you were investments could be way up and then way down in a very short amount of time.
What has been interesting is stocks and cryptocurrencies they were supposed to be uncorrelated with each other since they are fundamentally different. I think that everyone was approaching these things saying, yeah, stocks can be volatile, but that doesn't necessarily mean that cryptocurrencies will be. What we have observed over the past year, in particular, is that there's a strong correlation. Perhaps this speaks to how people are actually viewing cryptocurrencies. They're viewing them more as investments rather than the underlying ecosystems involved.
I don't know, Chris, what's your take on why there is a correlation here?
Chris MacDonald: I think that's a really good intro to the discussion. When I think about capital, I think of it as liquidity. When you think about liquidity as a liquid, let's say it flows to where the returns are the best in terms of risk-adjusted returns or where investors see the biggest upside.
Like you mentioned, for volatility, it's really your time horizon. Someone in their 60s or 70s that is entering retirement, if they take a big loss over a short period of time, that can be devastating. But for someone who's in their 20s or 30s, that is looking out 30 or 40 years and say I don't need this money right now, maybe handling some more additional volatility upfront for those bigger gains makes sense. Really depends on your investment time horizon and the amount of risk that you're willing to take in your portfolio.
But this is an interesting fact. We're going to touch on crypto miners in a little bit again because they've had another volatile week. But when you look at Bitcoin, one of the things, there's actually another analyst on the Fool team, Anders Bylund who covers the crypto space very closely and he did an analysis of the beta, which is how volatile is a given asset relative to the market. Based on the market swings, how far will this asset move?
Bitcoin, essentially as a beta of 0, which means it's essentially impossible to predict which way it will go depending on what the market does. But some of these crypto miners and other cryptocurrencies have very, very high betas, which means if market sentiment is bullish and money is flowing into the market like it has over the past year, these tokens are seeing massive inflows and appreciating in value to an incredible degree. But the inverse also holds true that when sentiment goes down and people are pulling money out of the market, are de-risking their portfolios using some of the tokens that could hit the hardest.
This sort of volatility, like you mentioned, really matters over specific timeframes when you're assessing your portfolio. But it is an interesting environment right now with bond yields increasing and in advance of interest rate hikes and investors just generally taking a risk-off view of the market. What would that mean for crypto? We'll see, but it looks like 2022 is shaping up to be an interesting year, and at least to start the year, investors are looking to de-risk a little bit.
