Investing In Blockchain vs. Bitcoin

Blockchain vs Bitcoin… Which should you invest in to profit from cryptocurrency? This is a hotly debated topic and a question I am asked often. In fact, here are two different questions, from the [email protected] mailbag, covering both aspects of this question …

Bert wrote:

Do you see any opportunities to invest in companies that support cryptocurrencies? There must be all kinds of computing hardware support companies that will benefit from increased demand of computing power, graphics, etc.

And Doug’s question was:

Do you see any opportunities to invest in companies that support cryptocurrencies? There must be all kinds of computing hardware support companies that will benefit from increased demand of computing power, graphics, etc.

So, slightly different spin on basically the same question.

Before I answer, let’s take a minute to define some of the terms that were used in these two questions:

You’ve probably heard of bitcoin. Bitcoin was the first cryptocurrency. And it was also the first blockchain. Blockchain is the technology that underlies all cryptoassets, in much the same way that the Internet is the technology underlying email.

In fact, I like to explain it as one of those standardized test questions … Blockchain is to internet as bitcoin is to email. Meaning…

Internet was this obscure technology, that no one really understood or knew what to do with, in the mid-nineties, beyond a few computer scientists. Until AOL started mailing out millions of CDs. And suddenly email became the killer app that opened the floodgates to widespread, mainstream adoption of the internet.

Today, blockchain is the new, obscure, potentially disruptive technology and bitcoin replacing gold as a store of value, much as email replaced fax, is the first compelling use case that is starting to drive widespread mass adoption today.

But it’s not the only use case. In much the same way we couldn’t possibly imagine back in 1998 how ubiquitous internet would be 20 years later, many people believe that blockchain will be equally transformative, also in ways that are yet to be imagined.

For now, our ability to invest in that future is somewhat limited, just as our ability to invest in the internet was back in 1997. Your choices are:

1. Buy cryptoassets, like Bitcoin and Ethereum, directly on an exchange, that specializes in those assets, just like you buy stock, through a broker, on a stock exchange.
2. Buy a trust, like GBTC, through a stock broker, on the OTC market, which gives you shares in the cryptoassets held by the trust

But that isn’t exactly what Bert and Doug are asking about. They are asking about investing in companies that are involved with or benefit from blockchain technology. Doug is asking about buying them directly. Bert is asking about buying an ETF.

ETF stands for exchange traded fund. ‘Exchange traded’ means an ETF is traded on a major stock exchange — like the New York Stock Exchange or Nasdaq. And ‘fund’ means an ETF is a collection (or “basket”) of tens, hundreds, or sometimes thousands of stocks or bonds in a single fund, similar to a mutual fund.

So with all that housekeeping out of the way, let’s talk about my answer to the question. In a word, no.

I do not invest in the blockchain space, as Doug and Bert suggest. Here’s why:

1. I think investing in “blockchain companies” conflates the technology with the investment.

They are two very different things. It is very possible that blockchain could be wildly successful, much like the Internet, and simultaneously be a bad investment.

In fact, many people believe in something called Fat Protocol. The term was first coined by Joel Montengro, of Union Square Ventures.

It is the idea that, unlike the generation of companies before it, where the value generated by the internet network and protocols was captured at the company level — think Facebook, Amazon, Netflix. Google, etc — mostly in the form of data, with blockchain the value will accrue at the protocol layer, not the company layer.

from Fat Protocol (http://www.usv.com/blog/fat-protocols)

Montenegro says, “We see this very clearly in the two dominant blockchain networks, Bitcoin and Ethereum. The Bitcoin network has a $10B market cap yet the largest companies built on top are worth a few hundred million at best, and most are probably overvalued by ‘business fundamentals’ standards.”

2. This would break several of my rules of investing,

These are rules I have developed over a long career and have served me and my clients very well. Specifically, investing in blockchain companies is too specific, not market neutral and not passive.

Too specific —

Modern Portfolio Theory tells us the way to construct a portfolio that maximizes risk adjusted return over time is to have a mix of different, non-correlated asset classes so that, at any given time, when some are having a bad year, the others make up for it.

Investopedia defines an asset class as “a group of securities that exhibits similar characteristics, behaves similarly in the marketplace and is subject to the same laws and regulations.” Traditional examples include stocks, bonds, commodities, real estate, and cash.

The mistake many people make is in trying to pick individual stocks, bonds or commodities rather than just owning the entire asset class. We never ever, ever try to outsmart the market. It can’t be done.

So, instead, you use ETFs, which we talked about before, to buy the S&P 500, or the Lehman Aggregate Bond Index or the entire Goldman Sachs Commodities Index.

You don’t try to guess, whether meats or metals or grains are going to outperform… or wheat vs. oil. You just own all of it. The whole asset class.

The reason I said investing in blockchain companies violates this rule, even in an ETF, like BLCN, is blockchain isn’t an asset class. Blockchain is a technology. And blockchain companies, are a subset of the equities asset class.

Not market neutral —

Within my overall portfolio, the goal is, as much as humanly possible, to construct it so that I’m OK no matter what happens. That is what I mean by market neutral.

Not that every single investment is necessarily market neutral. But that, as part of the entire portfolio, it adds to, not detracts from the goal of market agnostic. The way you know you’ve done this correctly is you don’t worry about volatility.

Making a specific bet on blockchain companies detracts from market neutral.

Active rather than passive —

I alluded to this above when I was talking about just owning the market rather than trying to beat the market which, as a rule, I don’t do because I know it’s a fool’s game.

3. It would be double dipping.

If I own the stock market in the Vanguard Total Stock Market ETF, for example, which I do, those stocks are in there.

And while it isn’t as sexy as saying I have an allocation specifically to blockchain companies or emerging tech, if blockchain is as transformative as many think it will be, that will ultimately benefit every company, in the same way the Internet has.

So, with that sort of perspective, for me, buying blockchain companies makes no sense. I already have exposure to blockchain in both the total stock market and cryptoasset asset classes… but within the framework of my rules.

Of course, there is certainly more than one way to create an optimal portfolio. So, this isn’t the only way. This is my way. But I will tell you there are orders of magnitude more ways to do it wrong than there are to do it right.

Just something for you to consider and as always I hope you found it helpful.

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If you’d like to learn more about investing in cryptocurrency for retirement, I would encourage you to register for my free online training, How A Little, Little Bit of Bitcoin Can Make Your Retirement Savings Go A Lot, Lot Further.

If you have any questions at all, about this topic, or anything else, just email me at [email protected]. I read and answer every email personally. Or leave it in the comments below.

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Dive Deeper Into Resources On Blockchain vs Bitcoin

Ep. 17 Do You Recommend GBTC As Bitcoin Alternative? (SANE CRYPTO Podcast)

Fat Protocols — Joel Montenegro (Union Square Ventures)

Fat Protocols Are Not An Investment Thesis — Jake Brukhman (Coin Fund)