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Want to Diversity Your Portfolio? Try Bitcoin, Say ARK's Chris Burniske And Coinbase's Adam White

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Bitcoin, which turned seven earlier this year, seems to be maturing.

After reaching a peak of more than $1,000 per bitcoin in late 2013 and then dwindling back down to the $200s last year, the price, now around $650, has become less volatile. Institutional investors have shown greater demand for it, cryptocurrency exchanges have added more advanced features for professional traders and even the likes of Dell , Expedia and Overstock have begun to accept it as payment.

But what do all these developments mean exactly?

On this week’s episode (Google PlayiTunes, StitcherTuneIn Radio) of Unchained, my podcast exploring blockchain and fintech (Google PlayiTunes, StitcherTuneIn Radio), I talk with two guests who have explored these trends in-depth: Chris Burniske, blockchain analyst and products lead at ARK Investment Management, the first public fund manager to invest in Bitcoin, and Adam White, vice president of business development and strategy at Coinbase.

The two, who co-authored a white paper outlining four reasons why Bitcoin represents a new asset class, bring complementary perspectives to the show. Burniske, who does both research and business development, has written several white papers on Bitcoin and the technology behind it, blockchain.

White, whose company has done almost $4.5 billion in Bitcoin transactions for its customers, brokered the deals that got major retailers to accept bitcoin and also heads up Coinbase’s institutional exchange, Global Digital Asset Exchange (GDAX). They make a strong case for why bitcoin represents a new asset class, not just from an analytical perspective but also from their observations of the behaviors of retail and institutional investors.

For their study, they referenced Robert Greer’s paper “What Is an Asset Class, Anyway?” and used four metrics in judging whether Bitcoin passes the test.

One of the most compelling findings came from calculating the one-year rolling correlation to other asset classes. It turned out bitcoin has near zero correlation to other asset classes — it neither moves in tandem with any of them nor in the opposite direction.

Burniske says, “You can have a more volatile asset but if it’s zero to negatively correlated with other assets in your portfolio, it can actually decrease the overall risk of your portfolio. We have seen instances of this with bitcoin in the past. For example, if you had swapped 1% of equity -- so stock positions in your portfolio -- into bitcoin in late 2014, you would have seen the overall risk of your portfolio decrease and the absolute returns of your portfolio increase. That’s an investor’s dream.”

White concludes, “Diversifying one’s portfolio with an alternative asset class like Bitcoin could be a prudent move for many asset managers or individuals.”

On top of that, so far, it often offers better returns for the amount of risk taken. “We found Bitcoin better compensates investors for the risk they’re taking for three of the last five years,” says White, adding that though bitcoin is more volatile than other asset classes, its volatility has decreased by over 50% in the last few years.

They also looked at invest-ability, and with $1 billion in bitcoin being traded on exchanges a day, and just as much over the counter, they decided bitcoin fulfilled this requirement.

“That’s not on par with some of the equities and obviously FX [foreign exchange] markets of the world, but it’s a good sign this market is not as illiquid and thinly traded as many people believe,” says White. “We are really seeing it emerge as a global asset that many people can and do trade.”

And these characteristics are drawing institutional investors.

“When you look at the trading-to-transacting ratio of Bitcoin, it’s just over 10, whereas global fiat currencies is a tad over 20,” says Burniske, “so we’re seeing a building amount of liquidity in terms of Bitcoin’s trading volume, which is dropping volatility, which is bringing more institutional interest.” In fact, bitcoin has been about as volatile as oil for the last year.

The growing appeal of bitcoin has become especially apparent during times of financial crisis. For instance, White says Coinbase saw double the amount of new-user signups the day the Brexit result was announced, as well as a 3.5 times increase in the amount of bitcoin existing users were purchasing. The numbers were pretty similar for Grexit, with even more bitcoin being purchased.

“While it’s too early to say Bitcoin is this safe haven investment, we’re starting to see signs that people are viewing it that way,” says White.

Burniske also added that when there’s chatter about the devaluation of the Chinese yuan, the price of bitcoin tends to go up.

When asked what separates bitcoin from the hundreds of so-called alt-coins that tend to be nearly worthelss, White cites both its first-mover advantage as well as its differentiated value proposition, noting that many of the other alt-coins are “copycats of bitcoin.”

Burniske also credited the network effect. “This is something we maniacally focus on at ARK. If I have a telephone, that’s pretty useful, if Adam and I have telephones, it’s more useful … With the alt-coins, while they come out hot, they don’t get that flywheel effect so it’s easy for them after a period to fade into obsolescence. Ethereum has done a great job getting over that hump or activation energy,” he says, referring to another cryptocurrency network similar to Bitcoin that has gained traction.

Speaking of Ethereum, we discussed the decentralized autonomous organization (DAO), the most successful crowdfunding project in history, which raised more than $150 million in ether, the cryptocurrency of Ethereum, but soon found someone had exploited its code to pilfer more than $50 million in ether.

Burniske emphasized that a mishap involving a project within Ethereum doesn’t necessarily reflect on the network overall: “While the DAO was compromised, that is very different from the security of Ethereum’s blockchain.”

White notes that Ethereum launched only a year ago and more experimentation was needed: “We’d be remiss if we said, this is absolutely going to be here to stay.” Even so, Coinbase has already added ether to GDAX and will be making it available on its retail site Coinbase.com this month.

As for whether ether will also emerge as a cryptocurrency worth investing in, Burniske says, “I think of ether more as digital oil and Bitcoin as digital gold. That said, people invest in oil and in gold in the traditional capital markets.”

Tune into this substantive episode (WebGoogle PlayiTunes, StitcherTuneIn Radioto find out why White brought up the saying, “On the blockchain, no one knows you’re a refrigerator;” what developments both Burniske and White expect to see in terms of cryptocurrencies as an asset class; and how well ARK’s investment in bitcoin has performed.

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