Mike Adsetts | Crypto: Is it an investment?

In March, Bitcoin hit an all-time high and the most well-known cryptocurrency was once again in the news.

Interest in cryptocurrencies as an investment has also flared up again, as we have seen after other rallies of Bitcoin in the past. The Bitcoin Halving is also expected to happen around 21 April and the topic will stay in the news and FOMO (fear of missing out) will lead people to ask again: Should I invest my money in crypto?

What is our view on Bitcoin, and more specifically cryptocurrencies, as an investment?

The investment case can be broken down into relevance and risks on the one side and then return expectations and diversification on the other.

Rates of return are measured by an increase in the asset price and the interest paid or the dividend stream on a specific investment. The only source of return for a crypto asset is for the price to increase. Given the nature of the change in price over time, driven by pure supply and demand and perhaps other speculative views, crypto assets do have the ability to behave very differently to traditional asset classes and perhaps provide a hedge against the volatility of global monetary systems and therefore a source of diversification.

Although cryptocurrencies are permitted in most of the world’s major economies, there are still a range of risks, in addition to volatile market price movements, that should raise concerns for inclusion in an investment portfolio. These risks include security risks, valuation risk and uncertainty around the regulatory future. Besides these risks, there needs to be an internationally trusted marketplace for institutional-only cryptocurrency trading.

Cryptocurrency as an investment option would greatly increase fiduciary risk and liability. Traditional valuation methods for determining what a stock is worth do not necessarily work when evaluating crypto assets. Crypto volatility requires investors to be patient over the long term and during significant up and down swings, which could result in poor investment outcomes if you were to exit the sector too quickly.

An improved infrastructure is needed to accommodate investments and encourage more widespread acceptance of cryptocurrency. Besides that, potential regulatory and legal hurdles create market hesitation to use cryptocurrency. Until a properly regulated and accountable fund exists, based in a respectable financial territory and with strong custodianship arrangements in place, we must tread with caution.

At Momentum Investments we seek those investment ideas and opportunities that will allow our portfolios to meet clients’ long-term expectations and objectives as prudently and robustly as possible.

Should an investor want to invest in cryptocurrencies they need to accept the inherent risks and at most it should be a small component of an investment portfolio.

Under SA legislation it isn’t feasible to incorporate crypto into a fund and so an investment would need to be made alongside a client’s other investments.

Clients should also be aware of the issues associated with crypto: It is highly energy inefficient and therefore has poor environmental, social and governance (ESG) credentials; there are reputational issues (association with tax evasion and used for criminal activities); as well as risks with custody and the inability to conclusively demonstrate ownership (e.g., you lose your digital key, then you lose your asset).

While the simple yet profound wisdom of Warren Buffett — "If you don’t understand it, don’t invest in it" — provides the answer, some investors may still feel compelled. It is important to remember that the crypto space can be highly volatile. Even though cryptocurrencies have been declared as a financial product under the Financial Advisory and Intermediary Services (FAIS) Act of 2002 there are still lots of uncertainties regarding the regulation of these instruments and therefore makes investing in them a risky proposition.

*Mike Adsetts is chief investment officer, Momentum Investments.