Cryptocurrency Speculation: A Case of FOMO? (Fear of Missing Out)

Cryptocurrencies were back in the headlines throughout 2020 and into 2021, with some high-flying returns that attracted investor attention. Tesla CEO Elon Musk tweeted support for Bitcoin, and a few of the largest university endowments have begun to endorse cryptocurrencies as potentially viable investments. In times like this, with growing concerns about potential U.S. dollar devaluation and increasing inflation, investors often turn their eye to alternative options for hedging these risks. Given that cryptocurrencies are gaining broader acceptance, it is not surprising to see some investors considering whether they deserve a role in portfolio construction. So where do cryptocurrencies fit in?

At this point, we struggle to see them as anything other than a speculation. For clients concerned about a falling U.S. dollar or inflation, we believe our current approach to protecting against those risks (diversification, scenario planning) is both more effective and reliable. For context, our investment framework revolves around a fundamental approach to building globally diversified portfolios across asset classes, each serving a distinct role in the portfolio (some targeting the aforementioned risks):

• Global stocks provide a source of long-term growth (and some inflation protection) and U.S. dollar devaluation protection (from exposure to non-U.S. stocks)
• High-quality fixed-income provides protection during periods of equity market stress and deflation.
• Hybrid investments like flexible bond strategies and floating-rate loans exhibit qualities of the first two: some capital appreciation potential (and some potential inflation protection) but with less short-term downside than stocks.
• Alternative strategies and assets provide diversified sources of return and protection that reduce the portfolio’s overall volatility (there are also tactical options available to us in this category if we feel the need for greater protection against unexpected inflation).

Furthermore, as fundamental investors, we invest in assets that we can reasonably value, that offer transparency and defined liquidity, and finally, that we can be confident are subject to a reasonable amount of regulatory oversight and legal protection, to minimize the risk of price manipulation. We have a very difficult time applying any of these criteria to cryptocurrencies. Even as currencies, cryptocurrencies fail to meet the requirements to be a reliable “store of value” or “unit of account.”

For our Chief Investment Officer’s words of caution on Bitcoin’s investment merit, please read his analysis here >

As the capital markets continue to rally and valuations get increasingly stretched across nearly all asset classes, thus muting future returns, investors have inevitably cast a wider net. More speculative investments have lured investors after delivering spectacular short-term returns, including cryptocurrencies, special purpose acquisition companies (SPACs for short), and “meme” stocks. At times these have been driven higher by an army of retail investors, fueled by information that is quickly shared via social media and zero-cost trading.

These spectacular returns have reintroduced the age-old, dangerous behavioral risk: FOMO, or Fear of Missing Out. FOMO can tempt investors to take risks beyond what they would normally consider acceptable in search of incremental return. This behavior is often reinforced by reports that “smart money” endowments are making these same investments (likely in small size, limiting downside). Our guidance to clients and investors broadly is to regularly revisit your risk tolerance and return objectives and ensure that your portfolio remains well aligned with these objectives. If you find yourself lured into taking increasingly risky positions, we ask that you take a hard look in the mirror and ask yourself whether you are falling victim to FOMO.

We encourage you to reach out to our advisory team if you have questions about your portfolio or want to discuss this topic further.

Important Disclosure

This written communication is limited to the dissemination of general information pertaining to Litman Gregory Wealth Management, LLC (“LGWM”), including information about LGWM’s investment advisory services, investment philosophy, and general economic market conditions. This communication contains general information that is not suitable for everyone. The information contained herein should not be construed as personalized investment advice and should not be considered as a solicitation to buy or sell any security or engage in a particular investment strategy.

There is no agreement or understanding that LGWM will provide individual advice to any investor or advisory client in receipt of this document. Certain information constitutes “forward-looking statements” and due to various risks and uncertainties actual events or results may differ from those projected. Some information contained in this report may be derived from sources that we believe to be reliable; however, we do not guarantee the accuracy or timeliness of such information.

Past performance is no guarantee of future results, and there is no guarantee that the views and opinions expressed in this newsletter will come to pass. Individual client needs, asset allocations, and investment strategies differ based on a variety of factors.

Investing involves risk, including the potential loss of principal. Any reference to a market index is included for illustrative purposes only, as it is not possible to directly invest in an index. Indices are unmanaged, hypothetical vehicles that serve as market indicators and do not account for the deduction of management feeds or transaction costs generally associated with investable products, which otherwise have the effect of reducing the performance of an actual investment portfolio.

Nothing herein should be construed as legal or tax advice, and you should consult with a qualified attorney or tax professional before taking any action. Information presented herein is subject to change without notice.

A list of all recommendations made by LWM within the immediately preceding one year is available upon request at no charge. For additional information about LGWM, please consult the Firm’s Form ADV disclosure documents, the most recent versions of which are available on the SEC’s Investment Adviser Public Disclosure website (adviserinfo.sec.gov) and may otherwise be made available upon written request to compliance@lgam.com

LGWM is an SEC registered investment adviser with its principal place of business in the state of California. LGWM and its representatives are in compliance with the current registration and notice filing requirements imposed upon registered investment advisers by those states in which LGWM maintains clients. LGWM may only transact business in those states in which it is noticed filed, or qualifies for an exemption or exclusion from notice filing requirements. Any subsequent, direct communication by LGWM with a prospective client shall be conducted by a representative that is either registered or qualifies for an exemption or exclusion from registration in the state where the prospective client resides.