With the rise in the use of cryptocurrency worldwide, it has become a viable option for investors seeking to diversify their portfolios. However, there are several things to note when diversifying your investment portfolio with cryptocurrency.
Diversifying your investment portfolio aims to spread your money among various investments and reduce their overall risk. Typically, this would include a range of asset classes, like stocks, equities, fixed income, property, and commodities.
However, the rising value of cryptocurrencies has made them a viable investment alternative. In this article, we will learn more about diversifying your investment portfolio with cryptocurrency and how you can do so.
What Does Diversification Mean Generally?
Diversification refers to spreading your money out among several assets. If you want to diversify your holdings beyond stocks or crypto, you can put aside a particular amount for each asset class.
This strategy helps to stabilize your portfolio by limiting exposure to risk and lowering volatility. Since different cryptocurrencies perform well at different periods, diversifying your crypto portfolio might help reduce portfolio risk.
For instance, in 2021, the first half of the year saw a rise in DeFi currencies, while the second half saw a similar increase in metaverse coins. You can achieve your investment goals more safely and know more about different crypto assets if you adopt a diversified approach.
What Are The Benefits of Diversifying Your Investment Portfolio With Cryptocurrency?
There are several benefits you can gain from diversifying your investment portfolio. They include:
- The Potential for High Profits and Growth
- Market Liquidity and Ease of Trading
- Access to Innovative Technology
The Potential for High Profits and Growth
The value of cryptocurrencies has increased over the past several years, with some even seeing extraordinary gains. For instance, early users of cryptocurrencies like Bitcoin have seen their initial deposits grow substantially.
Additionally, there has been a dramatic increase in the number of traders, investors, and enterprises participating in the cryptocurrency market. Due to this, the market is expanding further due to rising demand and interest.
Market Liquidity and Ease of Trading
Cryptocurrency marketplaces are accessible around the clock, every day of the week. Because the cryptocurrency market is accessible 24/7, traders and holders of cryptocurrency holdings can transact and maintain their holdings regardless of the time zone they happen to be in.
Additionally, blockchain technology paves the way for safe, fast transactions, cutting down on settlement periods and intermediaries.
Access to Innovative Technology
Cryptocurrencies have resulted in the development of decentralized financial systems (DeFi). There is no need for traditional financial institutions like banks or brokers when using DeFi applications because they rely on blockchain technology instead.
Additionally, DeFi provides transparent and unrestricted access to various financial services, including lending, borrowing, yield farming, and decentralized exchanges.
Also, by buying cryptocurrencies that support smart contracts, investors get a chance to be a part of digital deals that are more efficient.
Strategies for Diversifying Your Investment Portfolio with Cryptocurrency
Any investment portfolio, including cryptocurrencies, should be diversified to reduce risk and increase rewards. If you’re looking to diversify your portfolio with cryptocurrency, here are several options to consider:
- Allocating a percentage of the portfolio to cryptocurrency
- Consider Different Investment Vehicles (e.g., direct ownership, funds, derivatives)
- Managing Risk Through Proper Asset Allocation
- Diversify by Industry Focus
- Diversify By Market Capitalization
- Regularly Rebalance Your Cryptocurrency Holdings
Allocating a Percentage of The Portfolio to Cryptocurrency
Allocating a certain amount of your portfolio to cryptocurrency means setting away some of your overall investment funds for cryptocurrency investments. To use this method, you’ll first need to establish how much, if any, of your financial portfolio you feel safe allocating to cryptocurrency.
If you have $50,000 in investments and want to devote 10% of your portfolio to cryptocurrency, you must set aside $5,000. Additionally, consider your risk tolerance and investment objectives when deciding what percentage of your portfolio to allocate to cryptocurrencies.
Consider Different Investment Vehicles
This involves thinking about ways to invest in cryptocurrencies other than through direct ownership. Some suitable investment vehicles include direct ownership, funds, and derivatives.
Direct ownership involves purchasing on a cryptocurrency exchange and storing your new coins in a private online wallet. When you hold cryptocurrency directly, you have full legal title to it. However, it would help if you took the necessary precautions to safeguard your digital possessions.
Many individuals pool their capital into cryptocurrency funds to invest in a different portfolio of cryptocurrencies. Examples of these funds include Exchange-traded funds (ETFs) and mutual funds.
You can diversify your exposure to cryptocurrency by investing in a fund rather than buying and selling individual cryptocurrencies.
Cryptocurrency derivatives are financial instruments that get their value from cryptocurrencies. These include future contracts and options. With these instruments, investors can speculate on how the prices of cryptocurrencies will change without having them.
Managing Risk Through Proper Asset Allocation
By spreading your money around, you can lessen the blow of bad performance by a particular investment or asset class.
Spreading your investment capital across many asset classes, such as equities, bonds, real estate, and cryptocurrencies, is an excellent way to reduce your exposure to market volatility.
Additionally, using your risk tolerance as a guide when diversifying your crypto holdings is essential. The same rules that drive asset allocation in a traditional portfolio can be applied here. Given your risk tolerance, you should balance what’s best for you and what is reasonable.
One strategy for achieving this balance is to invest primarily in the more established cryptocurrencies, such as Bitcoin and Ether. You can also add Stablecoins to your portfolio to reduce overall exposure to risk.
Diversify by Industry Focus
You can diversify your portfolio by investing in multiple cryptocurrencies and blockchains that apply to different markets. Investing in decentralized finance (DeFi), NFTs (non-fungible tokens), and payment networks is essential to diversify your cryptocurrency portfolio.
Another option is to invest in the gaming industry, as cryptocurrency adoption in the gaming industry has skyrocketed. Some other industries you can look into are healthcare-related cryptocurrencies like MediBloc and Dentacoin.
Additionally, entertainment organizations also benefit from incorporating blockchain technology. Some examples of entertainment coins you can purchase include ApeCoin and Reef.
You can reduce your exposure to volatile speculation by investing in cryptocurrencies that solve actual problems. Always do your homework before investing, including looking into well-established and upcoming industries.
Diversify by Market Capitalization
A cryptocurrency’s market capitalization “market cap” is a reliable measure of its safety. You can get the market cap by dividing the current price of one coin by the total number of coins in circulation.
If a cryptocurrency has a significant market valuation, it is likely to be stable. Therefore, you can invest a sizable amount of your wealth in cryptocurrencies with high market capitalizations, which may provide the greatest return.
Bitcoin, for instance, has a larger market cap than any other cryptocurrency. However, you can diversify your cryptocurrency holdings by purchasing other altcoins with a significant market cap.
Regularly Rebalance Your Cryptocurrency Holdings
To keep a diverse portfolio in good shape, you must periodically rebalance it. Rebalancing a crypto portfolio’s asset weightings aims to reduce overall portfolio risk. It requires selling or purchasing assets to return the portfolio to the desired investment target.
It is vital also to analyze how each investment in your portfolio is doing. If an investment fails to meet your expectations or no longer aligns with your investment goals, selling it and reinvesting the proceeds may be best.
Similarly, you should cash out and reinvest your earnings if one of your investments has done well.
Conclusion
It is essential to refrain from taking the risk that comes with a portfolio that isn’t well diversified. If the value of the tokens in which your investments are concentrated drops, your entire portfolio will suffer.
Diversifying your investment portfolio among several coins, market cap buckets, and stablecoins might help mitigate the effects of a market slump and boost returns. However, if you need to learn how to diversify your investment with cryptocurrency, you can consult a seasoned investor to guide you.