Is bitcoin a hedge against a market crash?
Crypto as a diversification strategy. Source: Stears Business

Why do people keep buying bitcoin?

From Americans with stimulus checks to Nigerians facing an ever failing naira, regular people worldwide have different reasons for investing in cryptocurrencies like bitcoin. People mainly think of it as a speculative asset—something to invest in and make a profit, as a commodity, or security. However, one reason for holding (HODL if you like) the coin centres on the belief that it will increase in value in future. This behaviour is speculative and similar to how people hold stocks.

Some takeaways:

  • Bitcoin is starting to make inroads into mainstream finance because of its supposed diversification properties. Apart from capital gains, a major attraction of bitcoin to institutional investors is its potential to hedge against a market crash.

  • This diversification element encourages retailers to pitch it as digital gold. You get to invest in a different asset class to manage the risk of your portfolio—which is possible even though bitcoin itself is risky. 

  • But there is a rising correlation between bitcoin and stocks, thereby reducing the diversification benefit of the coin.

By the end of 2021, the bitcoin in circulation was worth $876 billion and growing. The speculative use case for bitcoin still has a long way to go, especially as crypto bulls make strong predictions about a new financial order dominated by cryptocurrencies. But, there is another strong value proposition that bitcoin has brought to financial markets—a hedge against other asset classes. 

Bitcoin's introduction into the market in the early 2010s was heralded by a belief in its low correlation to other assets—and thus, potential to act as a hedge against asset classes like equities. The idea is that bitcoin doesn't necessarily move with the stock market, so if equities are generally down, just like gold, your bitcoin position should be up.

Institutional investors like BlackRock, with significant capital to invest ($10 trillion in assets under management), look at diversification when purchasing assets. Hence, institutional investors are comfortable investing

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Carl T. Macaulay

Carl T. Macaulay

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