Cryptocurrency Investment Strategy: How to Strengthen Your Asset Allocation with Traditional Equity and Tokens?

This article is provided by the exchange FTX, written by James Chiu, and the article title is provided by the editor

Bitcoin (BTC) hit a historical high of $64,899 and then experienced a sharp drop last Sunday (4/18), plummeting over $6,000 in less than half a day. "Black swan" events like this are not uncommon in the crypto market, so perhaps it's time for crypto investors to consider "asset allocation."

Asset allocation involves distributing funds across different types of asset classes to achieve desired returns while managing the portfolio's risk. This topic is rarely discussed by investors in the crypto market, likely due to the nature of crypto investments, but with the increasing risks in the "post-pandemic era," asset allocation has become a crucial consideration.

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Traditionally, investors opt for the classic 60/40 stock-bond portfolio. However, as Ray Dalio, the founder of Bridgewater Associates, mentioned in his article "Why In The World Would You Own Dollar Debt?," the devaluation of fiat currencies has led to negative real interest rates on bonds, turning bonds from safe assets to "dumb assets." Therefore, the classic 60/40 portfolio is evidently no longer in line with the current trend.

On the other hand, bond trading is quite complex, and for the average crypto investor, trading in unfamiliar products can be relatively risky. Moreover, the crypto market already offers better fixed income options: lending.

Asset Allocation

However, a combination of only cryptocurrencies and fixed income is clearly not enough. This is because the price of Bitcoin is extremely volatile, and it is highly correlated with altcoins. Even if the allocation is in different cryptocurrency concepts and contracts, there may still be situations of simultaneous rise and fall, or long and short positions exploding.

Therefore, in addition to the above two allocations, investors may consider using "equity tokens" to make their portfolios more robust.

Compared to cryptocurrencies and fixed income (lending), equity tokens are obviously a more unfamiliar area for cryptocurrency investors. Therefore, this article will focus on the categories and allocation of equity tokens, hoping to help readers better understand this emerging type of cryptocurrency derivative.

Before discussing equity tokens, investors need to first understand their risk appetite. In terms of volatility, the risk level is: cryptocurrencies > equity tokens > fixed income (almost zero risk). If investors are unable to assess their risk appetite at the beginning, they can start by evenly distributing their investments among cryptocurrencies, equity tokens, fixed income, and cash, and then gradually adjust based on their trading system.

In general, if the risk tolerance is low, investors can increase the allocation of fixed income and cash, and even adopt a "leveraging strategy" by allocating most of the funds to fixed income, and the remainder to cryptocurrencies and equity tokens; if they can tolerate more risk, they can increase the allocation of the former two.

What are Equity Tokens?

Equity tokens can be explained in two parts: equity and tokens. Tokens represent "digital assets," and equity refers to stocks. This product was first issued by the FTX exchange, through the stock brokerage services of the German investment company CM-Equity, and then tokenized by the securities tokenization company Digital Asset AG, and finally listed on the exchange.

Currently, only two exchanges offer this product, Binance and FTX. However, Binance currently only lists one stock, Tesla (TSLA), and the number of products is still insufficient. Therefore, this article will discuss the equity tokens listed on the FTX exchange. Note: After the publication of this article, Binance has added more investment targets.

FTX currently has 46 spot trading pairs of equity tokens (excluding TSLA/BTC, TSLA/DOGE), which can be roughly divided into eight categories:

Equity Token Allocation Logic

After splitting the total assets into different categories, it is not enough to just invest all the funds in a single stock, such as Tesla (TSLA) or TSM. According to Stockpedia statistics, having a portfolio of more than 10 stocks can significantly reduce the price volatility of the portfolio.

Logic 1: Allocate to "Different Industries"

Diversifying investments in different stocks does not mean putting all the funds into "single categories" like tech/growth stocks. Allocating funds to "unrelated industry categories" can reduce volatility even more. For example, in the diagram below, the allocation at the top blue line has 60% of the assets placed in "related industries," making the investment portfolio still too highly correlated and therefore more fragile.

Currently, the spot trading pairs of equity tokens on the FTX exchange can be roughly divided into nine major categories. Investors can decide on the allocation ratio based on "overall economic trends" and "their own investment logic."

For example, during a period of strong economic recovery, with expectations of increased inflation, funds can be allocated to "inflation-benefiting stocks" like FTX Energy Equity Token USO, or physical tourism/entertainment industries. In addition, if there is a bearish view on future stagnation inflation, funds can be allocated to hedge concept stocks like SPDR Gold ETF, iShares Silver Trust, etc.

Furthermore, FTX has also launched five cannabis concept stocks. This is because the U.S. is currently discussing federal legalization of cannabis, with governors of states like New York and New Mexico expressing support. If investors understand the related industry or are bullish on cannabis legalization, they can also invest some funds.

In general, having a portfolio of more than "5 stocks" in unrelated industries of equity tokens, such as "tech stocks + communication/entertainment + energy stocks + biotech stocks + hedge concept stocks," this diversified allocation can significantly reduce portfolio volatility.

Logic 2: Allocate to Indexes or ETFs

In addition to allocating to multiple stocks, if investors want to pursue lower risk or play it safe, they can allocate funds to ETFs (SPY) that track the S&P 500 index.

And if investors want some funds to invest in more innovative technologies, they can invest in the ARK Innovation ETF (ARKK) managed by Ark Invest. This ETF mainly invests in "innovation disruption industries," including artificial intelligence, DNA technology, energy innovation, blockchain, fintech, and other industries.

Instead of spending time researching individual stocks, standing on the market index, or on the shoulders of everyone's godmother Cathie Wood, is another choice.

Additional Benefits of Trading on FTX

For investors who want to manage asset allocation and risk control well, FTX has an additional benefit: sub-accounts.

FTX offers the ability to create sub-accounts, where different assets can be managed separately within one account. The funds between sub-accounts are independent, allowing investors to separate trading equity tokens and cryptocurrencies, which not only helps manage assets and control risks better but also provides a clearer view of returns.

Another benefit is capital efficiency.

FTX has also launched spot margin trading, allowing users to collateralize (borrow against) their existing assets and borrow another asset. There are two application scenarios here: one is to engage in short-selling arbitrage on assets they do not have, and the other is to collateralize assets to borrow stablecoins for investing in other assets, increasing profits.

For investors familiar with how financial markets operate, capital efficiency is paramount. If investors hold low-volatility equity tokens like SPDR, they can leverage the low volatility characteristic, collateralize assets to borrow stablecoins for other arbitrage opportunities.

In addition to fully utilizing assets, FTX's margin system is a cross-asset margin system. This means that in the same (sub) account, different assets can be used as collateral for contracts, reducing the risk of contract liquidation.

Conclusion

With cryptocurrencies entering the mainstream and Wall Street gradually entering the scene, asset allocation has become more important. In the past, when discussing asset allocation in the cryptocurrency industry, it would mainly focus on allocating to different sectors (platform tokens, DeFi, underlying public chains) or using short contracts for hedging.

However, this is far from enough.

Measuring the quality of a portfolio is not just about the rate of return but also about volatility (risk). If your portfolio has an annual return of 100%, but the risk it carries is extremely high, then for many people, the "gambling element" in this investment is actually greater than the investment element. If a black swan event occurs, there is a high chance of loss.

Due to the extreme volatility of cryptocurrencies, spreading funds across "fixed income," "equity tokens" (traditional stock markets), and diversifying fund risk is particularly important. Striking a balance between investment returns and risks, reducing portfolio volatility, is crucial to surviving in the market.