- Strategy #1 — Bitcoin: 50% — Buy Bitcoin when Bitcoin P/E or NVT (network value-to-transaction ratio) dips.
- Strategy #2 — Alt-coin: 35% — Buy high visibility, high access coins (platform currencies and top 50 market cap).
- Strategy #3 — Baby-Crypto: 15% — Buy undervalued baby alt-coins based on a measure of liquidity (transactions to price) and buy orders on the order book.
A few months ago I met someone with a net worth well over $50 million. That’s not uncommon these days. We found ourselves sitting next to each other throughout a seminar. He happened to mention something about wanting to invest in some new thing called ‘Bitcoin’. What ensued was a lengthy discussion about ‘how to invest $1 million in the crypto space’. He had no way of knowing that our conversation would inspire the article Bitcoin Valuation: $4 million.
As both a trader and crypto-enthusiast I get asked this question all the time. Whether you have $1 million or $10,000, my answer generally depends on how much time or money you can invest in the research required to make informed decisions. I advise friends and family to never exchange dollars, euro, M-Pesa, pounds, cowry shells (whatever) for crypto unless you understand what you are buying. Not all coins are the same. Of the top 50 coins by market cap (out of 1,300+), only 8 can be considered Bitcoin or Ethereum clones.
Second, as a piggyback on the first, if you don’t have the time to research cryptos other than Bitcoin (referred to as alt-coin), just buy Bitcoin and/or Ethereum and HODL. You needn’t waste your time with the rest of this article. That’s the extent of your strategy.
Parking lot: HODL is an intentionally misspelled word that started four years ago when GameKyuubi seemed unable to type the word correctly due to some ‘personal issues’. The crypto-community embraced the error and turned it into its own verb.
Third, if you want to add baby alt-coins (read: ICOs and coins less than $.01) to your portfolio, proceed with caution. They are extremely volatile and you must be prepared to lose your entire investment. That said, they can grow up to be quite impressive. Sometimes the growth spurt occurs overnight. With such a payoff, the best strategy invests a small amount in a handful of promising baby alt-coins.
With that said, here’s my crypto portfolio strategy. It is structured in three segments to mitigate risk. It consists of ~31 coins. All positions are meant to be purchased and held for at least 1 year.
Strategy #1 — (50%) The HODL Churn: This strategy focuses on Bitcoin. Action: Buy Bitcoin when Bitcoin P/E or NVT (network value-to-transaction ratio) dips below 50, sell when it goes above 100. Repeat.
Strategy #2 — (35%) The Mall: This strategy focuses on alt-coins. Action: Buy high visibility, high access alt-coins (platform, exchange, and top 50 market cap).
Strategy #3 — (15%) The Incubator: This strategy focuses on baby alt-coins. Action: Buy baby alt-coins based on a measure of liquidity (transactions to price) and buy orders on the order book.
Strategy #1 — (50%) The HODL Churn
I’m a big advocate of Bitcoin. It’s 50% of my crypto portfolio. How do I decide when to buy/sell it? I like to use Bitcoin P/E. What is Bitcoin P/E?
P/E (price to earnings ratio) is a metric commonly used by investment analysts to value stocks with earnings calculated as the market price divided by earnings per share. A possible equivalent to a P/E for Bitcoin was presented at the Token Summit in May 2017 by Chris Burniske. In the following video Burniske provides three calculations for a Bitcoin P/E.
I like calculation #2. It is referred to as the NVT ratio or network value-to-transaction ratio. This is the Bitcoin P/E that I use.
First devised by Willy Woo, the calculation uses a coin’s network value, or the money flowing through the network, as a proxy for earnings. Below is a historic chart of Bitcoin’s NVT ratio. A live and interactive chart is available on his website Woobull.com.
Using the chart above, Woo shows how NVT can be used to forecast a market bubble. It can also provide buy/sell signals. Specifically, if the NVT goes above the normal NVT range, it’s time to sell. If it touches the bottom of the NVT range, it’s time to buy.
Where are we today? The chart would suggest that we are NOT in a bubble today. In Woo’s words, “The transaction value flowing through Bitcoin’s network is perfectly healthy and supports the current valuation.”
What data do I use for Strategy #1? I track the NVT on Woo’s site. This is an easy one.
Unfortunately, this metric isn’t quite ready to be applied across the crypto universe. According to Woo, “Ethereum is only two years old… It will take some time before its NVT ratio settles into a meaningful long term range for bubble detection.”
What can we use to value the rest of the crypto universe? Visibility and access.
Strategy #2 — (35%) The Mall
I’d like to think that everyone that buys Ethereum or Ripple actually understands what they are buying, but that’s unlikely. Most probably saw the name on a top 10 market cap list somewhere. Some simply reallocated profits from Bitcoin into other coins on the same platform.
Visibility and access are two strong value drivers for alt-coins. The most highly visible coins are the ones with the most access. When I say access, I mean places or exchange houses where you can easily buy or trade the crypto. In fact, two of the best performing coins are from the most popular trading houses (one is up 71% and the other 150% in the last 7 days).
Some cryptos can be purchased on almost any exchange. I refer to these as platform cryptos. Bitcoin, Ethereum, Bitcoin Cash and Litecoin are the most common examples of platform coins. These are all highly visible and highly accessible. You also need platform cryptos to trade other cryptos. It is not uncommon for a coin’s price to run up as soon as it is listed to a major exchange like Coinbase or Binance.
What data do I use for Strategy #2? I use a spreadsheet that tracks the performance of the top 50 cryptos by market. It includes a brief description of the top 50. I refer to this spreadsheet as “The Mall”. Not all coins that make it to The Mall are good, but they all have considerable backing (users, miners, consortiums, stakers, etc).
I don’t like to talk about the gains made in the crypto space because it is not a common experience. The truth is, most cryptos fail. I own a lot of coins worth $.00000001 to prove it. What keeps me in the game is the uncommon experience. Specifically, my research focuses on what these “uncommon” coins had in common six months ago.
What have I found:
- Coins with a unique value proposition, i.e., location, development team, usage, technology, have grown the most over the last 6 months.
- Dogecoin and Bytecoin grew ~400% and are still valued at less than a penny.
- Another privacy focused coin, Verge, grew over 4,000%.
- One of my favorite coins, RaiBlocks, gives everyone their own blockchain — it grew over 60,000% in the last six months.
- Stellar, a coin specializing in digital IOUs is up 2,600% over the same time period.
- The worst performing coin on The Mall is up 1% and that’s because it’s “tethered” to the USD. The name of this coin is Tether.
- Of the 50 coins on The Mall today (1/21/2018), 30 were on the list 6 months ago.
- Of the top 25 on the list 6 months ago, only one was not on the top 50 six months ago. In other words, the closer the coins were to the top of the list six months ago, the closer they were to the top of the list today.
Strategy #3 — (15%) The Incubator
We’ve covered Bitcoin, platform/exchange and high market cap coins. What about baby cryptos? This is by far the riskiest category. As a result, I only invest small amounts in this world of crypto. I also try to use faucets as much as possible.
My goal is to find 10–20 severely undervalued cryptos. Since visibility and access are hard to find at crypto infancy, I like to look for coins that have a high price to transactions ratio. The coins with the highest ratio are the ones I research further.
Parking lot: Transactions represent a buy or a sell order. The number is an absolute value. It is possible to have an increase in transactions from a sell-off.
Once I find an exchange, I look at the recent orders and the orders in the order book. I am looking for a market. If I see all sell orders, I walk away. If I see a mix of buy and sell orders on decent volume, I usually buy. If I see more buy orders than sell orders, I buy.
Parking lot: When I place a buy limit order, I always calculate the current exchange rate first. It is not uncommon for cryptos to trade at a price that is higher or lower than the actual cross when calculated. These markets are so young that anomalies like this do exist. I then place my limit order slightly below the calculated cross.
So what did $10 in the top 10 cryptos by transaction to price (T/P) produce? 2014 was a bad year for cryptos altogether — nearly the entire investment was lost — but 2015, 2016 and 2017 saw profits of $134,707, $160 and $49,251, respectively. There is no guarantee that this strategy will work next year, but I like the upside potential.
What data do I use for Strategy #3? I use a spreadsheet showing me the T/P for all 1300+ cryptos sorted from highest to lowest. T/P is not a magical indicator, but I use it as a way to focus my research.
Important: To mitigate risk, only transfer fiat or coin to the exchange when you are ready to trade it. The exchange is not a place to store or park your coin. Buy your coin and then transfer it to an offline wallet immediately. Leaving it in the exchange is exposing yourself to unnecessary risk.
Final Thoughts: Once You Go Crypto, There’s No Going Back
As much as I love Bitcoin, it has flaws. The biggest flaw is its link between security (validation) and transaction cost (miner incentive). That said, I have no doubt the issue will be a non-issue by the time mining rewards end, but it feels like a giant asteroid. I’m excited by all the solutions circulating about how to kill the asteroid, but I also feel the need to mitigate the impact of this issue on my portfolio by investing in other cryptos. I’m not alone, though I may be alone in my reasoning.
2017 saw a surge of funding into Bitcoin, but that surge is small compared to the amount that flowed into alt-coins. Bitcoin was the conduit for a reallocation of recent profits made in all asset classes, including Bitcoin. Those funds were reallocated to alt-coins. As you can see from the chart below, for the past 4 years, Bitcoin represented ~88% of the entire crypto market cap. At the end of 2017, that dropped to 39%.
The total number of alt-coins in the market increased from 644 at the end of 2016 to over 1300 by the end of 2017. It is hard to go back to the promise of 12% per year when you’ve been making 12% (or more) per week, especially at a time when assets are overvalued.
There is nothing scientific about my approach. It is a work-in-progress. Though it is structured to mitigate risk, cryptos are still a highly volatile asset class. The goal is to be invested in a diversified cross-section of Bitcoin and alt-coin. This article and the crypto investment strategies discussed within it are intended for learning purposes only.