Billionaire investor Ray Dalio, founder of hedge fund Bridgewater Associates, continues to ring the warning bell for a collapse of the global world order. So, to protect the value of his portfolio, he’s been searching for the ultimate hedge.
Gold, of course, is one possible solution. But so is Bitcoin (BTC +0.63%), the mercurial cryptocurrency. In a recent interview, Dalio said that 1% of his portfolio was invested in Bitcoin.
For those who view cryptocurrency as a volatile, highly speculative investment, that might sound surprising. Can Bitcoin really be a hedge against risk?
Bitcoin as a hedge against risk
Bitcoin has historically been uncorrelated with any major asset class. That has made it a favorite diversification tool of hedge fund managers. It means Bitcoin can zig when other assets zag.
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Moreover, as Dalio points out, there’s no sovereign government that can inflate away the value of Bitcoin. The total lifetime supply of Bitcoin is capped at 21 million coins, and 20 million are already in circulation. Bitcoin’s supply is set by an algorithm, not by a central bank, so it can’t be altered over time.
This creates enormous scarcity, especially as the rate of institutional adoption increases. More global investors competing for a fixed supply of Bitcoin should help to push up its price over time. It’s just simple supply and demand.
Bitcoin vs. gold
The big question, though, is whether gold or Bitcoin offers a superior hedge against downside risk. Dalio is still a big believer in physical gold. The market for gold is considerably larger, and the precious metal has proven its value as a hedge over time. Bitcoin is still much newer as a form of “digital gold,” and its correlation with tech stocks is starting to increase.
Moreover, there are considerable regulatory risks involved with cryptocurrencies such as Bitcoin. New cryptocurrency legislation should help to solve that problem, but some investors still remember the early days of Bitcoin, when many governments sought to outlaw it out of existence.
And don’t forget about the technological risks involved with Bitcoin. Dalio, for example, warns of the potential “quantum threat” to Bitcoin if new quantum computers are ever able to break Bitcoin’s cryptography. For that reason, physical gold might be the safer option.
Is a 1% Bitcoin allocation too much or too little?
Getting the portfolio allocation right with Bitcoin can be tricky. As a general rule of thumb, a 1% to 2% allocation makes sense. That’s the percentage that BlackRock (BLK +1.51%) recommends for the typical risk-averse investor.
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But what if you’re willing to take a few chances? In the past, Cathie Wood of Ark Invest has suggested that a portfolio allocation to Bitcoin of as high as 19.4% might make sense. And some, like Michael Saylor of Strategy (MSTR +4.04%), are Bitcoin maximalists with a 100% allocation to Bitcoin.
If you’re looking to hedge your downside risk, having a relatively small percentage allocated to Bitcoin makes sense. For now, 1% is a good starting point. If Bitcoin is able to recover from its steep market correction, you can adjust that percentage upward over time if you choose.