The Securities and Exchange Commission’s (SEC) recent approval of bitcoin exchange-traded funds (ETFs) raises questions about whether these investment options have a place in retirement portfolios. While the availability of bitcoin ETFs in 401(k)s and self-directed IRAs may be tempting for some investors, there are experts who remain skeptical. Isaac Ben-David, a finance professor at Ohio State University, says bitcoin’s price should be based on its intrinsic value, not on the existence of an ETF. He points out that the dependence of Bitcoin’s price on ETFs indicates reliance on speculative investor activity, rather than its true value. Additionally, historical data on niche ETFs shows that they often underperform broad-based ETFs and the market as a whole. Given these factors, Bitcoin ETFs are likely not the best choice for retirement portfolios.
The SEC’s decision on bitcoin ETFs
The recent decision by the Securities and Exchange Commission (SEC) to approve exchange-traded funds (ETFs) has opened up retirement portfolios to this digital currency. This decision has major implications for retirement investing as it gives people the ability to include Bitcoin in their 401(k)s and self-directed IRAs. However, before considering including a Bitcoin ETF in retirement portfolios, it is important to understand the potential impact of these specialized ETFs on the fundamental value of Bitcoin.
Bitcoin’s underlying value should not be affected by the existence of an ETF
One argument against including a Bitcoin ETF in retirement portfolios is that the presence of an ETF should not change the fundamental value of the cryptocurrency. According to finance professor Isaac Ben-David of Ohio State University, Bitcoin’s price should be based on its intrinsic value, not on the existence of ETFs. Ben-David argues that the dependence of Bitcoin’s price on the presence of ETFs suggests that it is influenced by the size of the crowd speculating on its value, rather than its intrinsic value. Therefore, the introduction of a Bitcoin ETF should not significantly impact the true value of Bitcoin.
The potential for both the new ETFs and bitcoin to fall in value
Despite the SEC’s decision to approve Bitcoin ETFs, there is a possibility that both new ETFs and Bitcoin itself could see a decline in value. Ben David’s research shows that specialized ETFs often invest in overpriced securities when they launch. This is because specialist ETF providers tend to focus on themes that are currently popular among investors, and as a result, these ETFs may be invested in securities that are trading at inflated prices. Moreover, the recent rise in Bitcoin price following the SEC decision suggests that investor sentiment towards the cryptocurrency may be overly optimistic. Such turbulent sentiment could cause Bitcoin’s value to rise further, but could also lead to significant price declines. Therefore, investors should be aware of the possibility of declines in the value of both Bitcoin and new ETFs.
The impact of specialized ETFs
Niche ETFs, including Bitcoin ETFs, often focus on topics of interest to investors. This is because it does not make sense for providers to launch ETFs that few investors are interested in. However, this tendency for specialist ETFs to invest in trending topics also means that they may invest in overvalued securities when they launch. Data shows that niche ETFs, on average, outperform broad-based ETFs and the market as a whole. This delay may continue for at least five years after the launch of the ETF. When applying this historical performance to new Bitcoin ETFs, investors should exercise caution and be aware that these specialized ETFs may not generate high returns.
Bitcoin’s rally and investor sentiment
The recent rise in Bitcoin following the SEC’s decision to approve a Bitcoin ETF suggests that investor sentiment towards the cryptocurrency may be lukewarm. Investor sentiment refers to the general attitude and emotions of investors towards a particular asset. When sentiment becomes overly optimistic, it can lead to unsustainable price increases and eventually a correction or decline in value. The creation of a Bitcoin ETF could contribute to this strong sentiment as it generates more excitement and interest in the cryptocurrency. However, investors should be careful not to rely solely on investor sentiment when making investment decisions, as it can be volatile and unpredictable.
Assessing bitcoin’s fair value
Assessing the fair value of Bitcoin is extremely challenging due to the lack of traditional financial metrics associated with the cryptocurrency. Unlike stocks, which can be valued based on earnings and dividends, Bitcoin has no comparable metrics. To solve this problem, some analysts turn to models such as Metcalf’s Law, which attempts to estimate the fair value of Bitcoin based on network effects and the number of active users. According to this model, the current price of Bitcoin is about a quarter higher than its estimated fair value. While this model has shown some success in identifying periods of Bitcoin overvaluation and undervaluation, it is important to note that it is not infallible and should be used as one of many tools when estimating Bitcoin’s value.
Potential performance of bitcoin ETFs
Given the historical underperformance of specialty ETFs and Bitcoin’s potential overvaluation, there is a possibility that Bitcoin ETFs will underperform lower-cost broad market ETFs. These index funds, which track a broad stock market index, have traditionally provided stable, reliable returns over the long term. A combination of Bitcoin overvaluation and anxious investor sentiment could contribute to the underperformance of these ETFs over the next five years. Investors considering Bitcoin ETFs should carefully weigh the potential risks and rewards and evaluate whether these specialized ETFs meet their long-term investment goals.
In conclusion, the SEC’s decision to approve the Bitcoin ETF opens up retirement portfolios to this digital currency. However, retirement investors should be careful about including these ETFs. The main factor should be the fundamental value of Bitcoin, not the existence of an ETF. Furthermore, based on historical performance, potential overvaluation and poor investor sentiment, Bitcoin ETFs may not perform as well as lower-cost broad market ETFs. As with any investment decision, investors should conduct thorough research, evaluate their risk tolerance, and consult a financial advisor before making any investment decisions related to the Bitcoin ETF.