IEFS Digest —A Bitcoin Safe Haven?

4/12/20

Bitcoin, long regarded as a refuge from volatile markets, just plummeted. Here’s why an asset that should’ve profited massively from market turbulence crashed instead.

Bitcoin over the last 6 months

What is a Safe Haven Asset?

A safe haven asset is an investment that is expected to retain or increase in value during times of market turbulence. Many investors use these investments to diversify their portfolio and hedge against volatility in the market. When destabilizing events such as the COVID-19 pandemic occur, investors naturally rush to sell off their crumbling high-risk investments and immediately buy “safe haven” assets.

What is Beta?

Beta is the volatility of an asset relative to a specific benchmark, usually measured with a general market index such as the S&P 500.

Beta values usually fit into the range between -1 to 1, however, there are assets with more extreme betas, such as Advanced Micro Devices with a beta of 2.40. When beta values are greater than 1, they are more volatile than the market and offer potentially greater payout along with more risk.

Safe-haven assets fall into two general beta categories: negative correlation, and little-to-no correlation with the market.

Negatively Correlated safe-haven assets have a negative beta, meaning they increase in value as the general market declines.

Assets with negative beta include:

  • Gold
This chart shows how many ounces of gold it would take to buy the S&P 500 on any given month since 1930
  • Silver, copper
  • Treasury Bills (virtually risk-free)
  • Sugar, corn, livestock commodities
  • Certain foreign currencies (Swiss franc)

Uncorrelated safe-haven assets have betas at (or very close to) 0, thus keeping relatively the same value no matter how the market moves.

Assets with betas near 0 include:

  • Utilities
  • Consumer goods
  • Healthcare & biotech

Cash can be argued as the only true safe-haven as it proposes little risk and an uncorrelated beta. That being said, cash also offers no yield and loses value to inflation.

As Ray Dalio put it, “Cash is trash.

Is Bitcoin a Safe Haven Asset?

by Michael Grainger

Source: Market Watch

Since its rise to popularity, Bitcoin has not had many opportunities to prove itself to be a safe haven asset. This idea started after the market dip of Summer 2019 caused by the US-China trade war. During this period, Bitcoin was negatively correlated to the market (similar to gold), which gave it a negative beta. As a result, it earned a spot on the list of safe haven assets. However, it should be noted that the market decline in Summer 2019 was relatively small, and a true test of Bitcoin’s resiliency or negative correlation towards the market came in the form of COVID-19 one month ago.

What Happened on March 12th?

  • With announcements of a travel ban to Europe from President Trump and the threat of COVID-19 becoming very serious, the markets reacted dramatically to a possible recession.
  • The Dow (DJIA) had its three worst point losses in history on March 9th, March 12th and March 16th. Naturally, safe haven assets began to rise in value as mass sell-offs occurred
  • Bitcoin, the “safe haven asset” as it was labeled at the time, dropped 50%. It fell to prices below $5000, making it a more unstable investment than the plummeting stock market as a whole (the Dow dropped about 33%).
  • Bitcoin has since slightly recovered, but maintains high volatility and has not followed a negative correlation or uncorrelated relationship to the S&P 500 that is characteristic of true safe haven assets.

Why Could Bitcoin Have Plummeted?

  • Bitcoin’s Identity Crisis and the Role of Institutional Investors
    Fundamental cryptocurrency users would never label cryptocurrencies like Bitcoin as an investment. Additionally, the blockchain system underpinning Bitcoin was not intended to be used in creating an investment vehicle, but rather as a means of speed and protection when creating something with decentralized transactions. However, Bitcoin’s volatility has attracted many investors to use it as a speculative instrument. Since Bitcoin’s theoretical use and actual use are so different, it has been hard for it to be labelled properly in either the crypto or investment realm. To make matters worse, its crash on March 12 made Bitcoin as unpredictable as ever, just as it was finding a niche as a safe haven asset.
  • Investors getting nervous in speculative investing due to COVID-19.
    In general, widespread panic will make people want to sell off all risky assets and invest in safe haven assets. Thus, prices drop dramatically for speculative instruments. Since Bitcoin was being treated as such to large institutional investors, instead of as a stable currency, it also fell.
  • Should the crypto community rally behind a new currency?
    If Bitcoin keeps reacting to the market the way it did a month ago, it will never have the stability needed to be used as a true currency. In order to finally begin using cryptocurrencies for all money transactions, it may be in the best interest of the crypto community to rally behind a currency that has a stronger future as a stable currency. In particular, currencies that can not be taken over by institutional investors by the nature of their design such as MakerDAO already have an audience of fundamentalist users. Additionally, cryptocurrencies like Ethereum also provide a platform for creating apps that facilitate investment through their DeFi platform.

Bitcoin’s Role in a Portfolio

by Adam Mirsky

A common practice when structuring an investment portfolio is application of the “100 rule”: subtract one’s current age from 100%, and the result determines the percentage of a portfolio that should be focused on equities.

For example, a 25-year-old would have 75% of their portfolio invested in equities and 25% in fixed-income assets, bonds, etc.

The formula ensures that as one gets older, their risk exposure decreases (since they will have less time to recoup losses).

Now, Where Does Bitcoin Fit Into This Equation?

Bitcoin should, in theory, be a fixed-income asset (meaning little risk exposure). In general, it should operate similarly to gold; since there is a limited quantity to how much can be produced, inflation of the dollar will cause Bitcoin to increase in dollar value.

However, in reality, it’s obvious that Bitcoin is anything but stable.

Institutional Investors and Bitcoin

The currency has been plagued by speculative valuations, with investors ranging from beginners to institutional organizations looking to earn a quick profit from its volatility. Thus, the question of Bitcoin’s role as a safe-haven asset is uniquely tied to that of its future speculation: will it continue to be hyper-evaluated, or will it finally settle down enough to be used as a trans-national currency?

Although Bitcoin’s role as a safe haven asset remains to be confirmed, there is no doubt that cryptocurrencies in general have a future protecting against volatility and market downturns.

What do you think the future holds for Bitcoin?

Let us know what you think the future of Bitcoin holds in the comments below!

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