Last March, I wrote a piece entitled Why you should own bitcoin and gold as inflation returns. Today I plan to update you on this simple, yet remarkable asset combination.
My company created the Vinter ByteTree BOLD Index (BOLD1 on Bloomberg and Refinitiv) which combines bitcoin and gold. The index is approximately an 80% allocation to gold and a 20% allocation to bitcoin, and is rebalanced monthly according to the 360-day inverse volatility of each asset (ie, the strategy is “risk-weighted”).
At the end of May that meant 20.2% was invested in bitcoin and 79.8% in gold.
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So how has it done? The answer is, rather well.
BOLD has weathered the storm
The chart above is based on sterling returns, and rebased to 100 as of the start of 2020. The gold price is in yellow; the S&P 500 in red; the Nasdaq in purple; and finally, the BOLD strategy in blue.
I haven’t shown bitcoin by itself because it overwhelms the chart. But for those wondering, £100 invested on 1 January 2020, would today be worth about £425, having touched £917 on 9 November 2021.
When people think about bitcoin, their first thought is likely to be how risky it is. But when balanced with gold in a strategy such as BOLD, it is remarkable how resilient the combination has proved to be. Not only has BOLD beaten the Nasdaq, but it has been more resilient during times of crisis.
BOLD remained less volatile (ie, it gave you less of a rollercoaster ride) not only during the recent tech crash, but also during the cataclysmic selloff in March 2020. In other words, despite bitcoin’s high volatility, mixing it with gold in the BOLD strategy has been less risky (as measured by volatility) than just investing in a major stockmarket such as the S&P 500 or the Nasdaq.
As a BOLD investor, you suffer the occasional painful bitcoin down month, but you learn to embrace them, because you see the opportunity. When bitcoin is down at the month end, you sell a little gold, and buy some bitcoin, until the weights are back in line with the BOLD strategy (and you do the same in reverse if gold has underperformed bitcoin).
The great thing about bitcoin collapses is they tend to happen relatively quickly, and so the odds of successive weak months is low. Besides, gold is normally resilient, and sometimes profitable, during risk-off periods.
Believe it or not, bitcoin is very much an inflation hedge
Bitcoin is often touted as an inflation hedge, although critics claim this is unproven. I believe it is, and much more so following a 50% correction, than when it was full of hot money last spring.
I say that with confidence because most assets are inflation hedges when prices are low; something that ceases to be true when prices are too high. You cannot reasonably expect an asset to be an inflation hedge at any price.
For example, in Argentina, second-hand cars are deemed to be an inflation hedge, and in the Weimar Republic in the 1920s, grand pianos were seen as a store of value during hyperinflation.
Equities can work too, but you have to be selective. The first casualty of inflation is equity valuations, which partly explains Swiss equities on 17-times earnings, and Turkish equities on four times. On top of lower valuations, many companies cannot survive inflation, and so you not only end up with cheaper equities, but fewer of them to boot.
The sensitivity of inflation protection applies to Treasury Inflation-protected securities (Tips – or to put that in English, index-linked US government debt) too. When TIPS prices are too high, the real yield (that is, the yield after inflation) turns negative. Back in 1995, a ten-year inflation-linked gilt paid a real yield of 4%, or 4% more than inflation at the time. Today, that is -2%, or 2% less than expected inflation today.
Price matters, and that is one of the reasons that investors turn to value stocks when inflation is on the rise, while expensive growth slumps. I have been a stickler for valuation for years and have specialised in hard to value assets. The fair value of gold can be estimated according to a framework around bond yields and inflation. In short, gold behaves like a 20-year TIPS that pays no yield and was issued by God.
Bitcoin’s valuation relates to its network. It has a simple job to do, which is to transfer value. If everyone hung onto their coins, and did nothing with them, there would be no network and therefore no value. Bitcoin should not be considered to be “a thing”, but part-ownership of a vibrant network.
Five years ago, the bitcoin “network” saw $3bn change hands each week, when the price was around $3,000. Today, the price is $30,000 (10 times) and that same network processes $38bn (13 times) of transactional value each week. This relationship has stood for a decade, and according to ByteTree’s models, the fair value of a bitcoin today is $40,713, give or take.
BOLD is an effective inflation hedging strategy
With gold trading at fair value, and bitcoin erring on the cheap, BOLD is well placed to continue to be an effective inflation hedge. Indeed, it is remarkable how BOLD has moved closely in sync with US inflation expectations, as the chart below shows.
Until mid-2020, gold did the heavy lifting, only to hand the baton to bitcoin in October of that year. Since we have become used to financial markets switching between risk on and risk off, the BOLD strategy remains stable precisely because the allocation to these completely different assets is based upon their risk.
You don’t need much bitcoin to make money when things are going well, but you do need quite a lot of gold. Moreover, it is highly unlikely that gold and bitcoin will both be overvalued at the same time, since they are naturally counter cyclical.
In conclusion, the combination of bitcoin and gold on a risk-weighted basis is powerful, especially during inflationary times. Stick with it.
Charlie Morris is the chief investment officer at ByteTree Asset Management (BTAM) and founder of ByteTree.com. He has 23 years’ experience in fund management, where he has built a reputation for managing actively managed, multi-asset portfolios, with an emphasis on efficient diversification and risk management. Although well versed in traditional asset classes, Charlie is best known for his expertise in alternative assets, notably gold and Bitcoin.
In previous roles, Charlie was the head of Multi Asset at Atlantic House Fund Management until June 2020, where he managed Total Return Fund. At the time of his departure, his fund ranked 1st out of 47 funds in the Trustnet multi-asset, absolute return sector. Before that, he was the Chief Investment Officer at Newscape (2016 to 2018) and the Head of Absolute Return at HSBC Global Asset Management until (1998 to 2015) where managed $3bn of assets.
Prior to fund management, Charlie was an officer in the Grenadier Guards, British Army. Charlie is also the editor of the leading UK investment newsletter, The Fleet Street Letter (est 1938) since 2015. While not working, he can often be found somewhere on the North Sea.
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