The Economist Describes Having Bitcoin As Part Of An Investment Portfolio, 'A Nobel Prize-Winning Diversification Strategy'

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The Economist Describes Having Bitcoin As Part Of An Investment Portfolio, 'A Nobel Prize-Winning Diversification Strategy'

An article published in The Economist's latest issue explains why investing in Bitcoin is 'a Nobel prize-winning diversification strategy'.


The article is written by John O'Sullivan who starts with introducing us to a 1952 paper by Harry Markowitz, published in the Journal of Finance. Markowitz had developed a theory of 'portfolio choice' which won him the Alfred Nobel Memorial Prize in Economic Sciences in 1990 along with Merton H. Miller and William F. Sharpe.


O'Sullivan explains how Markowitz's paper provides a demonstration of diversification. He says:


"Diversification is both observed and sensible; a rule of behaviour which does not imply the superiority of diversification must be rejected both as a hypothesis and as a maxim."


He then explains how modern portfolio theory is applied by saying that "a rational investor should maximise his or her returns relative to the risk (the volatility in returns) they are taking".


He notes:


"Markowitz's genius was in showing that diversification can reduce volatility without sacrificing returns."


O'Sullivan goes on to say that, according to Markowitz:


"it was not necessarily an asset's own riskiness that is important to an investor, so much as the contribution it makes to the volatility of the overall portfolio — and that is primarily a question of the correlation between all of the assets within it."

The columnist then explains that it is important to divide your investment portfolio into asset classes which allow for high returns while they have little or no association to one another. An example is seen when investing in stocks and bonds where there is a 'weak' correlation between the two types of investment. Although stocks can yield high returns, bonds have 'tended to lag behind when it comes to returns'.


O'Sullivan then says that this is why Bitcoin offers a great way to diversify one's investment portfolio. He explains:


"The cryptocurrency might be highly volatile, but during its short life it also has had high average returns. Importantly, it also tends to move independently of other assets: since 2018 the correlation between bitcoin and stocks of all geographies has been between 0.2-0.3. Over longer time horizons it is even weaker. Its correlation with real estate and bonds is similarly weak. This makes it an excellent potential source of diversification...


Across the four time periods during the past decade that Buttonwood randomly selected to test, an optimal portfolio contained a bitcoin allocation of 1-5%. This is not just because cryptocurrencies rocketed: even if one cherry-picks a particularly volatile couple of years for bitcoin, say January 2018 to December 2019 (when it fell steeply), a portfolio with a 1% allocation to bitcoin still displayed better risk-reward characteristics than one without it. "


[h/t: CRYPTOGLOBE]


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Thinking Humanity: The Economist Describes Having Bitcoin As Part Of An Investment Portfolio, 'A Nobel Prize-Winning Diversification Strategy'
The Economist Describes Having Bitcoin As Part Of An Investment Portfolio, 'A Nobel Prize-Winning Diversification Strategy'
An article published in The Economist's latest issue explains why investing in Bitcoin is 'a Nobel prize-winning diversification strategy'. The articl
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