How to build your cryptocurrency portfolio correctly in 2022, minimizing investment risks and making profits in the short and long term?
If you’re reading this, chances are you’ve seen the incredible future that cryptocurrencies, and blockchain technology in general, are likely to see. Likewise, you may have noticed the incredible amounts of money that some cryptocurrency investors have earned to date. Either way, understanding the risk of different cryptocurrency investments is essential when it comes to building your cryptocurrency portfolio.
Ultimately, the makeup of your portfolio , as far as any asset is concerned, will come down to your personal risk appetite. Are you looking to put some of your hard-earned money into a long-term position in a relatively stable asset that could produce regular rewards over time? Or are you looking to get a return as quickly as possible and don’t worry about losing some of your funds?
If you are interested in cryptocurrencies, chances are that your tolerance for risk is quite high, given the high volatility of blockchain investments. However, within the crypto space, assets vary massively in terms of volatility and, therefore, level of risk.
What are the different types of cryptocurrencies?
To make your life easier, we have divided the cryptocurrency market into five categories, starting with the safest and moving towards the riskiest assets. These five categories are:
- Stable currencies or Stablecoins
- Bitcoin (BTC)
- Initial Coin Offerings
- Meme currencies or meme cryptocurrencies
The first thing to say, before we dive into the realms of different cryptocurrencies, is that the following rankings are based on mainstream opinion and past performance. Namely, cryptocurrencies are still in their infancy, and any prediction of future price movements is fundamentally extremely speculative in nature. That said, by using a few criteria, we are able to effectively rank various assets according to their respective risks.
Stablecoins or stable cryptocurrencies
Stablecoins are on the less risky end of the cryptocurrency spectrum. These are cryptocurrencies whose value is linked to another asset, such as gold or fiat currency. Examples include USD Coin (USDC), USD Token (USDT), and PAX Gold (PAXG).
Cryptocurrencies pegged to the US dollar
As you might have guessed from their names, USDC and USDT are pegged to the US dollar. A USDC, for example, is fully backed by one dollar, held in a bank account. Every time someone buys a USD coin, Circle , the developer of USDC, is forced to buy a US dollar. Additionally, each USDC is fully exchangeable for one US dollar. As a result, the value of one USDC, at any time, is almost exactly equal to one US dollar.
Cryptocurrency linked to gold
Similarly, PAXG is pegged to gold, with a PAXG token being fully backed by one ounce of fine gold. If you own a PAXG token, you also own the underlying asset of one ounce of fine gold. PAX Gold is the only gold token you can exchange for LBMA -accredited Good Delivery gold bars . This gold is kept in a safe by Paxos Trust Company.
Advantages and disadvantages of stablecoins
The advantage of linking the value of a cryptocurrency to another underlying asset is that you can circumvent the general volatility of the cryptocurrency markets while holding a digital asset. Since the US dollar and gold are generally less volatile than even the most stable other cryptocurrencies (like bitcoin), the result is a more stable and less volatile blockchain asset. Hence the name stablecoins.
However, the trade-off for this stability is that you are highly unlikely to earn meaningful returns on your stablecoin positions, beyond the returns you would earn from simply holding the underlying asset. Here, low risk comes with low reward.
That said, many investors hold some form of stablecoin in their wallet to provide cash to quickly execute future purchases without having to make deposits using standard fiat currencies like USD, EUR or GBP. Additionally, taking profits in the form of a stablecoin can allow you to avoid some of the costs of converting your cryptocurrency profits into fiat currency, provided you are looking to reinvest your profits.
Another reason to hold a stablecoin is that it can be staked to receive larger annual rewards than if you held USD in a traditional bank account.
While it may seem odd to give BTC a separate category, we did it for a good reason.
Bitcoin is the “original” cryptocurrency and if anyone has heard of cryptocurrencies, chances are they have heard of BTC. What’s more, BTC dominates the cryptocurrency market, with typically more than half of all cryptocurrency capital sitting in Bitcoin.
Is investing in bitcoin risky?
Throughout the crypto space, bitcoin can be considered a relatively low-risk asset. This is because of the large market capitalization of BTC compared to other cryptocurrencies. According to Statista, the market capitalization of bitcoin exceeded one trillion US dollars in April 2021. A higher market capitalization means that more buy/sell volume is needed to move the price up or down. drops respectively, resulting in lower volatility.
According to CoinDesk, between May 18, 2021 and June 18, 2021, the price of BTC fell from $43,144 to $37,722, a decline of 12.6%. In contrast, Ethereum , the second-largest cryptocurrency by market capitalization, fell from $3,232 to $2,343 during the same period, a decline of 27.5%.
While it is true that a 12.6% drop is a significant drop in a month for any asset, it pales in comparison to the losses recorded by altcoins , such as Ethereum and many others. during the same period.
What is bitcoin used for?
Bitcoin’s primary use is as a store of value, and some “bitcoin maximalist” investors center their investment strategies on building stocks of the world’s most popular cryptocurrency, believing its usefulness as a store of value. value makes it the best coin to HODL (keep) over the long haul.
Indeed, mainstream opinion suggests that the entire cryptocurrency market cycle is triggered by the bitcoin halving that occurs roughly every four years, with the most recent halving taking place in May 2020. A bitcoin halving occurs when the total annual rewards available for mining are reduced by 50%, reducing the available supply.
Regardless of the huge market capitalization, converting to BTC is still considered by many to be a sound investment strategy. Indeed, several prominent NFL players, for example, have started converting their entire salary into bitcoins! Sean Culkin of the Kansas City Chiefs was the first player to achieve this monumental milestone.
By “Altcoin” we mean any cryptocurrency other than bitcoin. These altcoins range from such a big coin as Ethereum, with a market capitalization of $247 billion, to new and upcoming projects, many of which are based on the Ethereum blockchain.
Can you make big profits by investing in altcoins?
Naturally, these assets are more volatile than stablecoins and bitcoin. However, this increased volatility means that there is greater potential for profits and, unfortunately, losses as well. Trading altcoins is quite a popular activity for a subset of cryptocurrency investors!
According to CoinDesk, if you had bought BTC on October 1, 2019 and sold your position on April 1, 2021, you would have seen a very impressive upside of 447%. However, if you had held Cardano (ADA) , a high-profile altcoin, you would have seen a staggering 1082% rise.
These increased gains are due to the lower market capitalization of altcoins compared to bitcoin and the fact that the adoption of these altcoins is faster than that of bitcoin. In other words, they are newer and therefore have greater potential for price increases.
Is investing in altcoins riskier than investing in bitcoin?
Of course, this upside potential should be tempered by the fact that, being less established, altcoins are a riskier asset to hold as they also have greater potential for downward movement.
That said, the risk levels associated with these altcoins vary wildly from coin to coin. Ethereum has reached such a high level of adoption and market capitalization that it is now considered relatively low risk. Indeed, all the coins in the top 10 by market capitalization can be considered reasonably safe compared to the universe of other cryptocurrencies.
In reality, the further down the “market cap” list, the smaller and therefore riskier the asset. At the time of writing, the 100th coin by market cap (OMG Network’s OMG Token) had a market cap of $629 million, or just 0.21% of ETH’s market cap. at the same time.
If you have the opportunity to make multiple gains on a smaller coin, there is a greater chance that the value of that coin will crash and that part of your portfolio will disappear.
Many cryptocurrency investors will be looking to increase their profits on altcoins. However, as mentioned earlier, the choice of altcoin and the proportion of your portfolio you invest in it will depend on your own risk appetite and research.
Other cryptocurrencies (meme currencies and ICOs)
Despite the very impressive gains recorded by some of the major altcoins, for some investors this is simply not enough. Indeed, some of the most profitable strategies have involved investing in what are now called ‘meme coins’, or even buying coins before they hit the market, through processes known as Initial Coin Offerings (ICOs).
Although meme cryptocurrencies are technically altcoins, we have given them their own category due to their increased level of risk.
In reality, meme cryptocurrencies are a kind of altcoin. However, they differ in that, unlike coins like Ethereum, they have no real use. They only have value thanks to their promotion by influencers and the popularization of meme culture. They are usually very volatile in terms of price, market capitalization and trading volume.
Dogecoin is the most famous meme cryptocurrency
The second most well-known cryptocurrency after bitcoin is dogecoin (DOGE) . Originally a joke, born out of the popular “Doge” meme, the astronomical gains DOGE has seen in 2021 cannot be dismissed. Dogecoin was made famous by Elon Musk’s Twitter comments in early 2021, and by its incredible price action, which soared 1,250% between April 1, 2021 and May 8, 2021 .
On January 1, 2021, the price of DOGE was $0.005405, but by mid-May its price had skyrocketed to over $0.7. In other words, its price has increased more than 129 times in less than 6 months. This surge in price is the result of effective popularization of the token by ELon Musk through various social media.
While many of the cryptocurrencies we see today, like Ethereum and others, have real-world use cases, Dogecoin has none. Its rise in value was the result of hype and only hype.
Should you invest in meme cryptocurrencies?
While Dogecoin was the first, it is no longer the only meme coin to see extreme gains in 2021. Shiba Inu’s SHIB token has proven extremely profitable for early investors as well and the number of meme coins on which it is possible to speculate is increasing day by day.
This reliance on social sentiment, with no fundamental use cases, makes meme currencies a risky bet at best, and a sexy way to throw your money away at worst. However, as investors, we find ourselves unable to ignore the unparalleled upside potential of these unpredictable cryptocurrencies.
Initial Cryptocurrency Offerings (ICOs)
ICO stands for “Initial Coin Offering” or “offer initial cryptocurrency” in French, and is the cryptocurrency equivalent of an IPO (Initial Public Offering) on the stock markets.
In short, by offering a portion of a token’s total supply for purchase before that token hits the market, developers can raise capital to help with future development and the advancement of their project. of cryptocurrency. Indeed, the amounts of money they are able to raise can be herculean in some cases. Ethereum held an ICO in 2014 which managed to raise $2.3 million in its first 12 hours.
Should you invest in an ICO?
From an investment perspective, initial cryptocurrency coin offerings offer a way to acquire the next big cryptocurrency as soon as possible and, often, at a hugely discounted price. The price of one ETH during its 2014 ICO was just $0.30. Let’s not forget that the price of Ethereum in mid-May this year reached $4,133. Indeed, if you had managed to get your hands on $75 worth of ETH during its ICO and liquidated in mid-May 2021, you would be a dollar millionaire.
Is it risky to invest in an ICO?
The risk of buying ICOs is that if a cryptocurrency holds an ICO, it is unlikely to be established. In other words, they’re just getting started. It can be difficult to discern whether or not the project in question is the next Ethereum, or whether it will crash to negligible value soon after it hits the market, causing massive financial losses for investors.
Additionally, it is not uncommon for individuals to set up an ICO, allow people to join and inflate the price of a token, only to then quickly liquidate their substantial holdings in the token in order to earn a lot of money. money for themselves and bring down the price for everyone else. This is called the “rug pull”, a phenomenon that you must keep in mind when buying a cryptocurrency from the ICO phase.
The only way to ensure that you are not about to be taken in by malicious actors is to thoroughly research the project before investing. With enough information, you might just be able to spot the next big deal. This is true for any cryptocurrency investment, but it is especially true when it comes to ICOs.
Build your cryptocurrency portfolio
It is apparent from the various categories above that, if your risk appetite is low, you are likely to want to adopt a dollar-averaged investment strategy in large-cap cryptocurrencies like BTC and ETH.
Dollar cost averaging is an investment strategy that aims to smooth out the volatility of an asset by buying at regular intervals, regardless of price.
On the other hand, if you are willing to play with your funds, you can spend time trying to predict the next Dogecoin or the next successful ICO; a risky strategy but one that can be very profitable.
Naturally, you may wish to adopt a strategy that involves investments in the five categories above. However, your appetite for risk will influence the proportions you allocate to each category.
How to properly build your cryptocurrency portfolio?
Here is an example to properly build your cryptocurrency portfolio:
A possible wallet layout may look like this. Let’s call this investor, John:
- 25% Bitcoin
- 25% Ethereum
- 15% USDC
- 35% Altcoins
This is just a sample wallet, however, we can see why someone might want to build their cryptocurrency wallet like this.
15% of Jean’s portfolio is allocated to USD Coin. As we mentioned earlier, John is unlikely to make big gains with his USDC. However, John is likely to hold this USDC to ensure he has the cash to quickly execute a trade if he spots an opportunity he wants to take quickly.
Making a transaction directly from USDC is faster than buying a coin using your bank card every time. Additionally, John may have taken profits on a trade he currently holds in that particular stablecoin.
Jean also allocates 25% of his portfolio to BTC. Given the high level of bitcoin adoption, Jean considers it a relatively safe investment. Indeed, if the cryptocurrency markets perform well, it is very likely that BTC will do the same.
Diversify your investments in cryptocurrencies to reduce risk
John’s reason for holding an additional 25% of Ethereum is no different than the aforementioned reason for holding Bitcoin. The second largest currency by market capitalization, Ethereum is also relatively safe but, being younger than Bitcoin and with a plethora of Ethereum developments (Dapps, improved NFTs, increased DeFi use cases, and staking) underway, he expects to see bigger gains on his ETH than on his BTC.
The remaining 35% of Jean’s portfolio is held in other small cap altcoins. These altcoins can include Cardano (ADA), Polkadot (DOT) and Polygon (MATIC) or countless others. A number of investors are very supportive of these currencies, and Jean hopes to make even greater profits than those obtained from his position in Ethereum. Jean may also have sought to diversify his portfolio into the NFT space. It may well hold Origin Protocol (OGN) or even AXS, the native currency of the rapidly expanding NFT game, Axie Infinity.
These altcoins are Jean’s riskiest assets due to their relatively low market capitalization, and it is for this reason that he only holds 35% of his position in these coins.
We also notice that John does not hold any meme coins. He decided that, despite the possibility of multiple gains in X, these coins are risky enough not to match his own risk tolerance.
Conclusion to properly build your cryptocurrency portfolio
The portfolio above is just a fictional example of how someone like John might allocate his cryptocurrency position. However, we can see the thought process that a potential cryptocurrency investor will seek to engage. John’s portfolio can be considered reasonably well diversified and consistent with his own risk appetite. More importantly, Jean did his own research before investing in any of the aforementioned coins.
Investing in cryptocurrencies is not limited to portfolio allocation. Methods such as staking, for example, may appeal to long-term investors. Indeed, where you store your position in cryptocurrencies is a subject in its own right!
We hope this article has given you the basic information you need to start thinking about how you want your cryptocurrency portfolio to look, based on your own risk appetite. By understanding the respective risk levels of different cryptocurrencies, investors can best equip themselves to deal with the high levels of volatility that are an integral part of the cryptocurrency markets.
Ultimately, there is no substitute for personal research. While it is healthy to learn from people more experienced in the cryptocurrency field, the only advice that counts is yours!