Does Bitcoin belong in a portfolio? Cryptocurrency Q&A with Morningstar portfolio strategist

Trader Talk

As traditional financial institutions continue to embrace digital assets like Bitcoin, consumer interest in cryptocurrency continues to increase. Some are turning to their financial advisors for guidance, but it can still be difficult to find trusted answers to their questions.

Amy Arnott, a portfolio strategist at Morningstar, is drawing on 30 years of experience researching stocks and funds to help advisors and retail investors decode the rapidly growing asset class. In a recent article, Arnott broke down some of the popular jargon of the crypto world, and in the past she’s covered topics on whether Ethereum and Bitcoin should play a role in portfolios.

Financial Planning recently spoke with Arnott about her new work with digital assets and asked what financial advisors need to know before investing client money. The following has been edited lightly for length and clarity. 

Financial Planning: When did Morningstar start tracking cryptocurrencies, and how does the company approach them? 

Amy Arnott: We have written a few articles about cryptocurrencies over the past five years or so. I would say it’s still a relatively new area for us. Our main area of focus obviously isn’t daily trading activity or technical analysis, but helping people understand what are the key characteristics of cryptocurrencies and how can they fit into a portfolio, or should they fit into a portfolio at all.

FP: So Morningstar isn’t rating cryptocurrencies like it does other investment products? 

AA: No.

FP: Does a portfolio need Bitcoin? I think that’s a question a lot of advisors have right now. They’re trying to figure out how they can work with it. A lot of clients are asking about it and interested in it, but what is the argument you make in favor of why Bitcoin belongs in a portfolio? 

AA: The main argument for including Bitcoin could be if you are concerned about the increase in fiscal and monetary spending, and the potential impact on the dollar over the long term. If you’re someone who is concerned about a potential dollar decline or inflation, there is an argument for including a small portion of cryptocurrency in your portfolio. A lot of people will compare Bitcoin to gold, and I think there are some similarities in that it’s an asset that is outside of a traditional financial system. So, theoretically, if there are major problems in the traditional financial system, it could be a safe haven in times like that. Although, it’s worth pointing out that Bitcoin’s record so far is very mixed, and it really has not held up well as a safe haven asset.

FP: What are some of the reasons you see for remaining skeptical about including Bitcoin in a portfolio? 

AA: There’s a lot of hype and speculation surrounding the whole cryptocurrency area, and some of the huge losses we’ve seen so far this year and in other periods like 2018 should give investors pause, especially if they aren’t willing to hold on through those types of losses. The fact that you can see a price move of 10% to 20% in a week, or even in a day, should give most investors pause.

FP: You’ve also written about Ethereum, which is something we don’t hear about as much in the wealth management space. What interests you about it?

AA: I think Bitcoin definitely has the first mover advantage because it’s the cryptocurrency that more people are familiar with. It’s kind of the starting point for investors and advisors who are interested in this space, but I think Ethereum is interesting just because of the potential technical applications and potential impact on the whole financial system. The fact that with this new protocol, EIP 1559, that will sort of build in a reduction of the supply of Ether, that makes it kind of an interesting asset because it has this deflationary mechanism built into it.

FP: When you talk about its potential impact on the whole financial system, why Ether and not Bitcoin or other cryptocurrencies?

AA: I think it’s because, as a network, Ethereum just has a broader set of capabilities. It’s not really the currency, it’s more kind of the broader blockchain technology that Ethereum is built around.

FP: What are some of the rewards? Just getting in early on something that could impact the financial system?

AA: Yeah, although I would say the potential impact of Ethereum doesn’t necessarily mean that you have to own Ether. I think there are other ways that investors can get exposure to that trend.

FP: How is that?

AA: I think eventually we will see some broader cryptocurrency ETFs that are approved. So I can see investing in a broadly diversified cryptocurrency index that includes Ether could be a decent way for people to get a small amount of exposure without making a bet on one single currency.

FP: What else are you keeping your eye on in the world of cryptocurrency?

AA: It’s obviously such a fast-moving area that the technology is developing at an extremely rapid pace. I think for financial advisors, even if they don’t want to invest client assets in cryptocurrency, they will have to start getting up to speed on the technology just because it’s so pervasive and it’s something that a lot of clients are going to be asking them about.

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