Everyone has a prediction for 2019. I am with Yogi Berra when he says that ‘making predictions is hard, especially about the future’. However, I will go ahead and make one.
Diversification is a cornerstone of a good investment strategy and it will be back in 2019 in a big way. More so, Bitcoin will mature as a truly diversified asset, while its volatility will subside. Bitcoin was born 10 years ago and it is widely considered to be spawned by the financial meltdown of 2008. Firstly, because it was released on Jan 3, 2009 just about at the price bottom of all risky assets. Secondly, the headline embedded in the Bitcoin genesis block, which referred to bank bailouts and strongly implied that Bitcoin was built to oppose that kind of financial system on opiods. Of course, Satoshi Nakamoto worked on Bitcoin long before the fall of 2008, probably since the beginning of 2007 according to the man (or men) himself (he said on the forum in late 2008 that he worked on it for a year and a half). But even in 2007 an astute observer of financial markets (and Satoshi was certainly that) could see the major breakdown in free market mechanisms, mostly due to the doctrine of Greenspan Put.
The Greenspan Put signified a completely new way to run the Federal Reserve, when the role of the Fed was subverted to prop up risky assets, in essence bailing out investment holders at the expense of everyone else in the US Economy. So, Bitcoin was born out of dissatisfaction with the current financial system; a system that could as early as 2007 (or even a few years back) be called a blend of monetarism and planned economics. As an aside, I am not sure Milton Friedman envisioned just how much his monetarism doctrine was actually amenable to be combined with Soviet style economics. But he praised Greenspan constantly as the very nature of financial markets was subverted, so we note that Friedman’s beliefs were not as free market as they were made out to be by the admirers of his simplistic economic theory. It is no coincidence that such a fake economy was destroyed in one day by the decision to not bail out Lehman Brothers. A US senator Barney Frank ironically called the day of Lehman non-bailout ‘a free market day’. It’s almost as if someone decided to try his hand in the UFC octagon against top fighters after sitting on the couch and gorging on ice cream, hot dogs and beer for a few years.
The result was predictable. Free markets do not work after they are basically disabled for years. You cannot just turn them on for a whim, just to prove a point, it requires daily practice. Lehman was not bailed out, everything collapsed and the whole financial system had to be rescued after a beating that was more severe than the one received by Rocky Balboa in every movie before miraculously coming back in the last round. But alas real life is different from Rocky movies and markets needed a shot of adrenaline to get up from the canvas. Enter Ben Bernanke who provided not only adrenaline, but some testosterone and more androstenedione than Mark McGwire consumed over all of 1990s. Because Bernanke faced such a dire situation, he threw in everything and the kitchen sink. It worked, but not in a healthy way. Besides wealth redistribution that occurs when risky assets are propped up with public funds and trust, one other side effect was disappearance of diversification as a viable investment strategy. Really, who needs diversification when you can just load up on momentum stocks, junk bonds and ride Bernanke’s and Janet Yellen’s sugar highs all the way to the top. Diversification is not rational in a Greenspan/Bernanke/Yellen economy, it is rational to chase momentum. Which everyone did until many realized that you don’t need humans to run momentum strategies. Thus, absence of diversification and sound analysis spawned robot trading.
Markets today are far more distorted than when Satoshi Nakamoto built Bitcoin. So, logically we would expect that Bitcoin would be needed more than ever. However, one potential danger to Bitcoin’s role as the anti-Greenspan financial asset was the ridiculous hyping and scamming that occurred when Bitcoin price mania took over the society. As a result and quite ironically, Bitcoin was turned into a hyper momentum investment. But its goal was always to be the alternative and a diversified alternative from Fed-pumped risky assets. So, Bitcoin’s role was in danger of subversion as well. However, the crypto crash of 2018 was great for Bitcoin. It flushed momentum investors and big banks out of crypto, hopefully for at least a year or two. This means that Bitcoin could go back to being simply a provably limited supply financial assets with relatively frictionless transfers. I mean it takes me sometimes 3-5 business days just to wire money between two of my own accounts. In Bitcoin such a transfer would take 30 minutes.
The last two weeks have been very important. Not only we are witnessing deflationary signals in artificially propped up finance, we are also eyeing possible return of diversification strategies. And Bitcoin could be the ultimate diversifier that gold was meant to before it started trading as a mostly leveraged paper asset, rather than a physical good.
Look at the two charts of BTC vs S&P 500 over the past 1 month. The light blue line is Bitcoin. We can see that despite S&P jump in vol and extreme herding, BTC was decoupled from equity markets. Yes, it is only one month, but under very extreme conditions.
This second intra-day chart shows it even better, because S&P 500 had incredible intra-day fluctuations that are not shown on closing price chart.
Diversification and value investing will make a comeback in 2019. Bitcoin should be the ultimate diversifier, because of its design, which is inherently anti-fragile. Hey, maybe Nassim Taleb (author of many great books, including Anti-Fragile) is the real Satoshi; just throwing it out there.
There is an old Chinese curse that goes something like this “May you live in interesting times”. Not sure that I feel the same way about interesting times, but certainly it is time to buckle up. Fed induced coma is giving way to Las Vegas style hangover and Bitcoin might be the nurse with the IV.
Request Your Demo of Portfolio Crash Testing Here or click on the banner below.
Portfolio Crash Testing enables you to discuss portfolio risk and diversification with your clients using sophisticated risk models across asset classes.