Crypto for Advisors: Is Crypto Too Volatile?

Bitcoin's volatility is expected to continue declining with every halving. The next one, scheduled for 2028, will render bitcoin four times as scarce as gold.

Fresh off its one-year anniversary, CoinDesk’s Crypto for Advisors newsletter dives into the volatility of crypto assets, exploring how it compares to other emerging technology investments and discussing strategies for navigating crypto volatility within client portfolios.

Key Takeaways

High volatility is a defining characteristic of crypto assets, making traditional financial investors hesitant to include them in their clients’ portfolios.

However, high returns are typically associated with high volatility, and crypto assets offer returns that are unmatched by most traditional asset classes.

Moreover, the volatility of crypto assets is declining over time, as bitcoin’s scarcity increases with each halving and both retail and institutional adoption of crypto continues to grow.

Crypto assets are known for their high volatility, which is often a deterrent for traditional financial investors. However, the volatility of crypto assets is declining over time, and it is important to consider crypto assets in the context of a well-balanced portfolio.

One way to think about it is that high-growth, emerging technologies tend to be more volatile. For example, the annualized volatility of the S&P 500 was around 15% over the past three months, while the volatility of bitcoin and ether was around 45% to 50%, respectively.

This is also evident in a recent survey by Fidelity, which found that high volatility was the most-cited barrier keeping institutional investors from allocating to crypto assets.

However, it is important to note that high returns are typically associated with high volatility. In other words, where there is growth, there is volatility. Most equity investors are aware of this, as high-growth mega-cap stocks like Tesla still tend to have high double-digit volatility.

To put this in perspective, the volatility of Amazon’s stock used to be above 300% in the late 1990s; today, it is well below 50%.

We have already observed a similar structural decline in volatility in the case of crypto assets. One reason is that bitcoin’s scarcity has increased with every halving, making it more “gold-like.” Halvings are best understood as a supply shock that reduces the supply growth of bitcoins by half (-50%). Hence, the character of bitcoin as an asset class has changed over time

While bitcoin’s volatility was around 200% during the first epoch – the roughly four-year timespan between the cryptocurrency’s pre-programmed "halvings" of miner rewards – until 2012, it has decreased to only 45% more recently. Similar observations can be made regarding ether.

In a global 60/40 stock-bond portfolio, the maximum Sharpe Ratio is achieved by increasing the bitcoin allocation to around 14% at the expense of the global equity weighting.

The Sharpe Ratio of major crypto assets like bitcoin or ether is significantly above 1, which means that investors are more than compensated for exposing themselves to higher volatility.

Looking ahead, the decline in volatility is bound to continue with every new halving. The next one is scheduled to happen in 2028.

Increasing retail and institutional adoption of this technology is also bound to decrease volatility structurally over time.

The reason is that increasing heterogeneity among investors will lead to more dissent between buyers and sellers, which dampens volatility – the essence of Edgar Peters's Fractal Market Hypothesis.

Just remember: Where there is growth, there is volatility.

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