A well-diversified portfolio can include more than just stocks and bonds. Thanks to the ubiquity of exchange-traded funds (ETFs), it's now remarkably easy to add just about any asset class to your portfolio mix, and that includes cryptocurrency.
When investors talk about adding cryptocurrency to their portfolio, they're really talking about adding Bitcoin (BTC +5.62%). That's because Bitcoin accounts for a whopping 60% of the total value of the crypto market. There are now nearly a dozen spot Bitcoin ETFs available for trading, so adding Bitcoin to a portfolio mix is usually just a click away.
Bitcoin as a unique diversifier
Most investors recognize Bitcoin for its extraordinary upside potential. After all, it has grown exponentially in price. A decade ago, a single Bitcoin cost $575. Today, that same Bitcoin is worth $64,000.
CRYPTO: BTC
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But there's another side to Bitcoin: diversification.
Throughout its history, Bitcoin has been largely uncorrelated with major asset classes, making it attractive as a potential hedge. It can zig when other assets zag. So, for example, if the equity market is down for the year, Bitcoin can still post gains.
This is more than just conjecture. Back in September 2024, asset management giant BlackRock (BLK +1.70%) released a paper called "Bitcoin: A Unique Diversifier." It started off by showing how Bitcoin has been largely uncorrelated with any major asset class for the better part of the past decade. And, based on those findings, it showed how Bitcoin could serve as a hedge during macroeconomic and geopolitical crises.
Can a risky asset really make a portfolio less risky?
Admittedly, it might sound counterintuitive that adding a risky, speculative asset such as Bitcoin to your portfolio actually makes it less risky. Shouldn't that make it more risky?
However, a major tenet of modern portfolio theory is that this is indeed what can happen. In 1990, Harry Markowitz won a Nobel Prize in Economics for demonstrating as much.
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In many ways, this has to do with the correlations between different asset classes and the variance of returns over time. As noted above, Bitcoin has historically shown low correlation to any major asset class. That low correlation is the diversification benefit, but Bitcoin's volatility works against it.
BlackRock's own math found that a 1% to 2% position contributes roughly as much portfolio risk as holding the "Magnificent Seven" in a standard 60/40 portfolio. Whenever a major crisis is brewing, some investors start looking for ways to add Bitcoin.
The optimal Bitcoin allocation
That said, you don't need to allocate a large percentage of your portfolio to Bitcoin. BlackRock, for example, recommends an allocation of no more than 1%-2% for the typical investor. Adding a higher allocation than that is simply too risky in my view.
But even that 1% allocation may work wonders for your portfolio. You'll benefit from any long-term price appreciation in Bitcoin, and you'll have a potential diversification hedge in case the financial markets trend down.
