How to do diversification in crypto (Can you?)

Diversification is an investment method developed for the stock market and introduced by Warren Buffett.

The idea of ​​Buffet was that if the portfolio is concentrated, you get the best returns if you're right, but the worst returns if you happen to be wrong. The best way to avoid losses is then to diversify your portfolio.

It is not 100% safe to invest ever and markets are never under the control of the investor.

Diversification is not suitable for everyone's goals

Some investors reject the Buffet method and prefer to invest only what they can lose in the assets they really believe in. The rest of their money is either left in cash or put into the government's investment plan. Other investors are active traders and prefer to speculate or derisk and hedge manually.

It is important to remember that there is no right or wrong way to invest.

All investors can choose the market approach that suits them best. This means that while the argument against diversification is valid, it is still a good form of portfolio management for many crypto investors. There is also a general rule of thumb. If it is psychologically difficult to deal with the volatility of crypto assets, the portfolio diversification method is suitable. Now let's look at the issue of cryptographic diversification.

Cryptocurrencies tend to be correlated

Investing in cryptocurrencies has become a hot topic even among the "normies" and seems to be a fundamental element of many investment strategies now.

But if you are overwhelmed by cryptocurrencies, it can be difficult to diversify your portfolio. With so many different currencies, it can be difficult to decide which currency to invest in. And if decided later, a powerful event like regulatory news could change the value of all cryptocurrencies at once. This effect can help you as much as it can hurt you: Cryptocurrency price increases generally occur in all cryptocurrencies at the same time.

But if your decision was to diversify, you don't want to see it, even if it's paradoxical. For true diversification, it is best to own not only cryptocurrencies, but also legacy assets such as precious metals, stocks and real estate. Is there really a way to diversify into purely cryptocurrencies?

The crypto market is so young that it is too early to diversify pure crypto. Fortunately, the combination of cryptocurrencies and legacy investments is getting easier every year. In December 2017, CME launched a BTC rate futures contract against the US dollar. This was the first case for a legacy financial institution to launch a cryptocurrency product.

The Chicago Mercantile Exchange (CME for short) is the leading US platform for trading energy futures, currency pairs, metals and agricultural products. Over time, Fidelity's wealth management continued among other legacy financial companies, especially the former. If you still want to diversify into a pure crypto portfolio, you need to look at the basic values ​​of the various cryptocurrencies.

Altcoin basics

When the first alt season began in 2016, the community preferred to focus on innovation. That is, which technology is the most disruptive or innovative. Ethereum was born that way. Prior to ETH, no assets could be used as fuel for decentralized applications. By 2018, there are hundreds (somewhat) active cryptocurrency projects, each with interesting technical adjustments, but probably not very practical.

Decentralized games seemed to be better than other games, and most games were forgotten. Nevertheless, the relative success of dApp games shows a shift in focus from technology to how it is used. This is where we are today: The underlying technology is secondary, functionality comes first.

Excellent portfolio component: Currency-like crypto

Bitcoin was developed as a payment method. Cryptocurrencies address certain weaknesses in traditional payment systems. One of the problems is the inability to exchange money freely, even if it is an entity from a distant country that may not like the president or the religion of their country. This problem can also occur in a single country and seeks complete control over how people use it.

In a famous 2018 media article, a middle-class Argentine was charged with tax evasion because he believed that the tax office did not have a rental cleaner. In the Argentine context, the idea was probably to prevent people from withdrawing currency from countries that were on the verge of collapse at the time. Bitcoin can address most of the payment-related issues in the Fiat world.

Alternative cryptocurrencies developed for payments often try to solve one of Bitcoin's "weaknesses".

• Implementation of full tx privacy (XMR)
• Focus on transaction size and performance (Terra)
• Reduce energy consumption in mining (all PoS coins)
• Make transactions faster, cheaper, and even free (LTC, IOTA)

These are all valid concerns and there are crypto projects in the industry that focus on one of these. This means that they must be represented in a diverse portfolio. As a bonus, you may earn some staking income from some of them.

Another great portfolio element: crypto fuel tokens

Some altcoins have been developed as a sign of communication. If you want to communicate with a distributed application (dApp), you need to use the appropriate symbols. It gets annoying as the number of one-time tokens increases. So a wise choice here is to look for tokens and projects that connect different types of blocks (Polkadot, Kyber Network). Fuel tokens are not money, they are not goods. However, they are still speculatively traded, as are currencies and commodities.

Vitalik Buterin, the creator of Ethereum, has never approved ETH as a store value. Since ETH first appeared, he has argued that it is more than just "better money." Tokens are a new category, first appearing on the blockchain, and the demand for this new type of asset quickly became apparent. The value of crypto fuel tokens is expected to increase with demand. However, non-speculative questions are expected to come at some point in the future.

Final Words

In summary, effective capital allocation reiterates the need for a system to determine which investment projects or assets are less risky than others. If you want to reduce the volatility of your total net worth, we recommend that you strive for diversified capital allocation in your portfolio.

But if volatility doesn't stress you, it can only be a better approach if you choose only the assets you believe most.