Key takeout
Essentially, Crypto is a type of assets and technology that is very different from the traditional financial world and other parts of the traditional asset class. BlackRock sees Bitcoin as an emerging global financial alternative. Unique portfolio digy agents in many ways. Many bad actors and bad episodes in the code are driven by the lack of regulations.
Stephen Margaria: Hello, I am Stephen Margaria, a manager research analyst covering multi-assets and alternative strategies at Morningstar Research Services. Investors are ecstatic over time at the incredible profits of cryptocurrency, while observing the crazy drops and volatility of their gut along the way.
Last year, the SEC approved the launch of an ETF that tracks spot prices for popular cryptocurrencies Bitcoin and ether. So instead of opening a digital wallet to invest in these cryptocurrencies, investors can now invest in securities accounts via ETFs in other investments. These cryptocurrencies are now more accessible than ever, so many investors are thinking of incorporating them into their portfolios.
Moderating panels at Morningstar Investment Conference. There, three experts join and dive deeper into integrating cryptocurrencies into their investment portfolio. One of those experts is with me today. Robert Mitchnick is head of BlackRock’s digital assets.
Thank you, Robert, for being here.
Robert Mitchinik: Yes, thank you for welcoming me.
Why BlackRock sees Bitcoin as a global money alternative
Margaria: OK, what in the level set separates the crypto from other asset classes?
Mitchnick: Well, basically, this is a very different type of asset and technology than what you’ll find in the existing kind of traditional financial world and other types of traditional asset classes. I think it would actually be useful to think of this crypto space as two different components. You have Bitcoin and you have everything else. The techniques behind these two subbuckets are the same, but use cases and investment papers can be completely different and branching over time.
When we think about Bitcoin, we see at BlackRock this new global financial alternative, this global, rare, unruly, decentralized assets as unrelated to either country or its property. Of course, it’s similar in many ways about how people have been attracted to money over the years, so there are certain ways to expect it to behave from an investment perspective.
Next, consider the rest of the ciphers. This really focuses on a wider variety of technology applications in blockchain technology, and ether and ethereum are one of the biggest of them, but of course there are many others too. So for investors, it’s really a gamble about innovation and adoption that’s happening around blockchain.
Why Bitcoin is separated from other cryptocurrencies
Margaria: When talking about assigning to Crypto, I think it’s important to be clear about what we’re actually talking about assigning to established cryptocurrencies like Bitcoin. For example, what distinguishes meme coins from bitcoin like Dogecoin? Also, do you think there are other cryptocurrencies that have benefits for investment?
Mitchnick: Memecoin doesn’t pretend to have any value or utility, right? They are primarily based on jokes, funny news, or cultural phenomena. Everyone in them knows they will eventually go to zero, but there is a speculative ride with traders on those assets turned on. I don’t spend much time around BlackRock meme coins. I don’t think my clients are interested in them.
Of course, when you think about other assets and Bitcoin, it’s the biggest and most important in the space. It represents approximately 70% of the overall market capitalization of the space. What do you think about volatility assumptions, correlation assumptions, and expected return forecasts? Clearly, historical interests were astronomical. They certainly don’t repeat. If we’ve been talking about an average of over 100% of the year over the last 15 years, it’s almost impossible for them to be repeated.
Then, as you pointed out, we made exchange-selling products around ether, as you think beyond Bitcoin. Ether believes it is exploring this flexible blockchain use case, built around the largest blockchain in the second bucket within the cryptographic version of these technology innovation platforms. This also believes ether, the size of its competitors with the next largest market capitalization, is worthy of its own product. To surpass that, we continue to see it on a case-by-case basis, triggered by the convictions for the investment potential of the asset and the level of interest and demand seen by the client.
How Bitcoin can become a unique portfolio diversifier?
Margaria: What major role does cryptocurrencies play in their portfolio? Is it a reliable tool for diversification or is it an alpha play?
Mitchnick: We’ve seen a variety of investors use it in different ways. When we think about Bitcoin, where energy comes most from the perspective of the way we think about it from a portfolio impact perspective, we believe that Bitcoin is, while clearly an independent foundation, a distinctly risky asset, in many ways, is actually a unique diversification device. In fact, certain scenarios show that, especially in terms of debt spirals, money prints, intrusions, currency collapses, and geopolitical uprisings, we find that in reality it is beneficial for assets like Bitcoin that are not tied to a country or economy, term system, etc.
Therefore, despite being unstable as an asset in itself, very different risk and return properties are unstable. It is the nature of a unique diversification device and potential hedge within the portfolio. But here we’re talking about modest allocations. For most investors, they will never defend it with a large, intensive position size. However, with a small allocation, its volatility is singular and therefore is largely diversified. What you’re leaving behind is this unique sauce, yes, a little differentiated potential return, but also diversification and potential hedges.
Margaria: It appears that it could have different utilities for different types of investors.
Mitchnick: You can say that, but I think what we see from a client base is more and more of the story and that use case I’ve described. No doubt you go out to the retail market where they trade this, but often have leverage in the short term, they don’t think about it in a diverse and strict financial portfolio way. They see it as a short-term speculative asset. Now, the combination of investors in this has changed over time from that type of trader to a more basic, more institutional buying and holding type model, but there are still plenty in that first bucket.
Does lack of regulation and crypto surveillance pose risk to investors?
Margaria: You can’t talk about cryptography without mentioning regulations. So does the lack of regulation and surveillance pose risk to investors? And how do you foresee the progress of regulations?
Mitchnick: Certainly, it has historically created risk. When you think about the episodes that have happened in this field, many bad actors in code and bad episodes have been driven by a lack of regulation. You can say, “Well, individuals should have gone with regulated entities.” However, the previous issue has not been the concept of being regulated, such as crypto exchanges in the US.
What’s interesting is, for example, FTX Fiasco, the only place in the FTX empire, FTX Fiasco, was the only place in a Japanese subsidiary. So, everywhere else, fraud was ramped, but in Japan it wasn’t. The overall asset base was just one-on-one support, just as it should be, and all Japanese customers did well.
It is a very interesting case study and I think it is a testament to the importance of having a regulatory framework here. We have it in Europe now. We seem very close to having it in the US and I think a lot of people are rightly excited and relieved by it.
Why institutional investors are slow to adopt crypto
Margaria: You mentioned this greater recruitment from more institutional investors and this excitement about more regulations. Do you think regulations are the biggest barrier to wider cryptography adoption, or do you think other factors present a larger hurdle?
Mitchnick: As I said, I think regulatory barriers will fall soon in that we have the process and visibility to implement laws in the US to establish a regulatory framework around this asset class.
But for many institutions, wrapping your head around portfolio behavior may have even greater questions. I think there are two layers that cause confusion. It certainly focuses on Bitcoin, as there is most of the institutional interest. There are two layers in the Bitcoin Market. There is this first layer, primarily retail. Trade up and down accordingly. Now, as I explained before, it doesn’t make much sense based on fundamentals, but that’s how that segment sees it.
Nowadays, the much larger underlayer, in reality, in the case of Bitcoin, is more institutional, despite the fewer transactions, and is a lot more institutional, and is a financial advisor of many superheight, much more purchased and stored, and fundamentally focused. When something bad or chaotic happens in the world or in the real world, the first layer just panics and sells, but the bottom layer sees it as the moment Bitcoin’s value increases, its basics become more advantageous and its accumulation. So, this pattern with a short-term dip appears, and even after a few months, Bitcoin is higher than before the destructive event occurred.
But for institutional investors who are new to the space, they are trying to wrap their heads around them. How can you get assets that not only act this way, but also behave like that? They seem to contradict each other. And then there is a big education and research process to organize it.
Margaria: It’s new and emerging and there’s no doubt that it will require education. I would like to ask more about the current event. The Trump family is increasingly intertwined with cryptocurrencies, along with the world’s Liberty Financial and now Bitcoin, America. What does that mean to investors?
Mitchnick: To be honest, I really don’t know. I think that’s something we didn’t particularly focus on.
Margaria: I got it. Well, Robert, thank you for sharing your insights. It was amazing to be here today.
Mitchinick: Thank you, Stephen. appreciate.
Margaria: It’s okay. I’m Stephen Margaria at Morningstar Research Service. If you would like to learn more about this and other notable topics, join us at the Morningstar Investment Conference in Chicago on June 25th and 26th. Let’s meet there. Thank you for watching.
