Diversity is key to managing the human side of investing as well.
The joke of a bad trader is that they buy high and sell low. Who does that? Someone who is over invested and ends up trading emotionally.
When you have a collection of investments and some of them go down-- you just go "oh well", maybe you even buy the dip, if that's what you're planned to do.
If you are diversified and things crash -- you may find yourself in a panic worried about losing even more. You can't buy the dip because you have nothing else.
Diversification might lower your gains in the theoretical future where every single choice you made was not only a good one but an amazing rocketship that vastly outperforms your other investments. But what you get from being diversified is tremendous protection from getting wrecked that allows you to stay the course and make decisions which are more intentional and less likely to leave you with regret. If you pick a real rocketship you'll be happy with your gains even if you only got half as much of it.
Lets consider two fictional investors: Bob and Arnold.
The year is 2011 and Bob is an American.
Bob comes from a family that didn't have a lot of money, so Bob never got into traditional investments because he didn't really understand them. But Bob was still prudent with money: He's saved up some $35,000 in a savings account after his living expenses with income from a number of years supporting computers at a local business. Bob hears about Bitcoin on slashdot and initially dismisses it but after an article about Silk Road is published he starts reading -- he's hooked. He
knows that this is going to be BIG. So Bob does something unboblike: In June 2011 he takes his entire savings plus takes on a bit of debt too and sinks it into Bitcoin: He purchases 2000 BTC at $20/coin and stashes it safely in his wallet.
Within a week the price has rocketed up to $30. Bob's $40k investment is now worth $60k. Bob feels like a god.
Then the first Mtgox event happens. The price drops. A little a first. Then more. $15. A stream of negative news is published. $10 in August. $7 in September. Bob is making credit card payments and worrying about paying his electric bills. $4.50 in October. Bob can't see where he went wrong, the negative news continues, the the value of his investment keeps going down. Before the end of October the price breaks $3. Bob's investment is now worth $6000 and he's afraid. If it goes down much more he won't be able to pay off the credit card, he'll be wreaked-- if his car fails he won't be able to afford to fix it and he'll lose his job. He's already lost savings he worked for years to save. Bob sells his Bitcoin at $3.54 netting $7k after fees.
He's devastated to lose almost all his savings, but relieved and he feels at least a little smart to have caught the spike back up to $3.54 as the price continues to slump through November, eventually hitting $2.15.
Bob tries to do everything he can to forget about this idiot investment.
Today, Bob's original position would be worth about $32 million dollars if he'd been able to hold onto it. Bob's decision wasn't bad-- but he overextended himself and was ruined by volatility.
Now lets consider Arnold.
Like Bob Arnold also worked in IT support, same age, same pay, same expenses. Arnold's family was decidedly upper middle class and although he's an American, his family talked about investments and personal finance around the dinner table as wealthier families are more likely to do. As a young adult he studied personal finance resources online once he had a bit of money to spare at his first job.
Arnold took his excess money but instead of a savings account he piled it into a diverse collection of traditional investments-- stock index funds and bond funds, mostly. When the 2008 crash happened Arnold was shaken a bit, but he'd planned for that-- he exchanged some of his bonds for stocks, just like his investment plan said, and he continued buying stocks with the money left over after covering his bills every month.
By the time Arnold heard about Bitcoin in 2011, the stock market had recovered pretty much completely, increasing 1.829x from the January 2009 low. Even though he saved the same amounts as Bob, because of his earlier investments, rebalancing, and continued investment during the slump when June 2011 came around Arnold had a bit over $50,000 in investments after taxes. He boldly decided to set aside 20% of his investments -- $10,000 -- to invest in Bitcoin. Why so much less? He wasn't less excited than Bob but he understood risk management better.
He didn't want to miss out but was a little worried about buying into a rapid rise-- he's seen hype before with his other investments. But still, he found Hal's early speculation about the future price and couldn't argue with the logic-- he sunk $5000 in at $27.93 and got 179 Bitcoin. He wasn't too shocked at the crash. When the price hit $15 he re-evaluated his decision, Bitcoin still looked awesome to him: MTGOX's hack was an indictment of MTGox, not Bitcoin. Around $10 he figured if Bitcoin was a good deal at $30 it was a good deal at $10, he was still under 20% in Bitcoin and bought $2500 worth-- 250 Bitcoins. In October the price dropped further then ticked up a bit. When Bob sold at $3.54 Arnold was one of his counter-parties-- and he bought another 706 BTC for $2500.
In December Bob has no Bitcoin and Arnold has 1135 at an average cost of $8.81/BTC, worth about $3400 at the market price of $3. The price continues to sink and Arnold is sad and a bit embarrassed. He feels a bit foolish or at least wishes he'd held off buying a bit longer. But he isn't worried or panicked. He knew this was possible and he continues to expect the price to go back up, he thinks his prospects are still good for eventually coming out ahead. All the reasons he was interested were still true, and hell-- all else fails it'll be an interesting story to tell his kids some day.
Arnold's position is still at a loss all through the first half of 2012. Arnold keeps on investing in his regular investments and spreads the word about Bitcoin. In July at a price of $9 he's finally back above break even and really starts spreading the word. Bitcoin hits $13.31 and then bitcoinica is hacked and the price is $9 overnight. Arnold has seen an exchange hack before and isn't worried. The price continues to be depressed and floats around $10 until December 2012. By the end of January 2013 the price is $18 and Arnold has doubled his investment! Bitcoin is all over the news. He only planned on keeping 20% of his investments in in Bitcoin but he's really excited and sees nothing but increases in the future... still his plan said to sell, so he reluctantly at least sells enough to cover his initial investment and he sells 400 (@25) for $10,000 leaving him with 735 BTC (worth $18375).
With the continued media coverage the price continues to increase and after the cypruss banking issues the price skyrockets. By the beginning of April the price had shot up to $158.80 in just a few days. Arnold's position was worth $112380, vastly beyond his investment plan of 20%-- and way more than he needed for substantial down payment for a house. So he sold about half his position: 500 BTC, netting $76400 which he stashed in his ordinary investments, and left him with 235 BTC.
His timing was fortunate, although the price briefly reached $213 MTGox crashes under the load and the BTC price crashes along with it. By mid month the price is $66-- about where it was before the cypruss news. With his initial investment recovered plus a healthy return he decides to be a little crazy: he takes half the 76400 he just took out and buys 578 Bitcoin leaving him with 813 BTC and still enough returns for a down payment.
Over the following years Arnold trades a number of additional times, about once or twice a year-- selling when the Bitcoin starts to dominate his assets, and using a bit of the proceeds to buy back during crashes leaving too small of his portfolio as Bitcoin. His sells aren't all at the peaks and his buys aren't aren't especially close the the bottoms but he does alright: A little better than someone who just held the whole way through, but the reasons he buys and sells isn't to try to make a lot of money, it's to manage risk.
Last week Arnold retired from his job: His boring investments boosted by infusions from Bitcoin sales are enough to support him and his family without him working. He owns his home. He has no debt. His kids college is already paid for. A few years ago got married and his wife just left a higher paying job for a lower paying one she liked more-- they don't need the extra money. He still owns 100 BTC which he hopes to pass onto his kids or at least will come in handy when there is a major meltdown. He spends his time raising his kids and windboarding. When covid came he felt ready: Heck, if he wanted to buy a clandestine respirator he knew he could pull it off with Bitcoin, even if banks would try to block that kind of transaction. Arnold has won the game.
So how can you be like Arnold? (1) Be born to a family that discusses investing so you have a head start there. (2) Invest prudently so you don't have to panic sell. (3) Don't be afraid to harvest gains. And most importantly, (4) find out about Bitcoin back in 2011, believe in it, and have extra money to invest.
But the thing is, -- Bob also found out about Bitcoin in 2011 and believed in it just as much as Arnold and had money to invest. But Bob didn't really understand investing, he wasn't diversified, and he over invested.
Bob didn't do anything particularly stupid, his ideas about Bitcoin would have paid off-- and he initially invested four times what Arnold invested! But the investment wasn't financially prudent considering his overall conditions and he was much worse off for it.
Bob couldn't control the family he was born into, but there is a ton of good personal finance information available online, but he didn't find it and learn about it and that's what distinguished the two.
If Arnold's timing had been less fortunate he might have done a lot less well: But you can bet he wouldn't have anywhere near the regrets that Bob has. Every decision Arnold made would have been made using the best data he had at the time and none of them would have been forced by his situation. Rich or Poor Arnold would sleep well. Even if Arnold lost his entire original investment he still would have been better off than Bob was even before Bob lost his savings on Bitcoin. Arnold didn't make as much as the 32 million if Bob has successfully held through the whole way, but he made more than enough and unlike Bob, he didn't get wiped out.
If you invested like Bob but didn't have his bad luck and are much wealthier now-- great for you. But just because a bad process worked once doesn't mean that it's a good process. Plenty of people get lucky in investing and then lose everything because their results depended too much on their luck.
No one knows what the future will be for Bitcoin -- or other investments, for that matter-- but prudent practices were what distinguished Arnold and Bob not finding Bitcoin at the right time: they both did that. Diversification and risk management are important for all conditions and all times.
Perhaps Bob never had anyone expose him to these ideas so he had no idea that he was missing something. After reading this post, you don't have that excuse. Be like Arnold.
I recommend checking out non-bitcoin centric personal finance venues. Bogleheads is good. A lot of these people are sceptical of Bitcoin: They don't want people becoming Bob (or worse). You can get enough Bitcoin koolaid here, good decision making requires balance. You own Bitcoin because you think it will be useful and profitable for you, perhaps because you feel it hedges against particular risks to the economy-- but you own other things because that isn't guaranteed and so you want advice that will apply to futures where Bitcoin doesn't do well, so its fine to get it from people who think it won't. If you're not an American the resources are a little less readily available, unfortunately I can't provide good advice there. My favourite stock brokerage is Interactive Brokers, and they do have a lot of non-US customers.
As an aside-- Buying into in other cryptocurrency things is not diversification. Altcoins are highly correlated with Bitcoin, and to the extent that they aren't perfectly correlated it's mostly in the form of increased downside risk. When Bitcoin drops they often drop harder and recover slower. You might own them, but don't think they're diversifying your holdings. It's also easy to suffer from outright scams--- ICOs, Defi, "guaranteed" returns in HYIPs, or whatever. Bob's story wasn't happy but people sometimes do a lot worse. I could go into the story of Chuck who lost it all mutiple times over trying to replicate Bitcoin's 2013 rise with altcoins then again and again attempting to recover his losses, or Dana who's first exposure to investing was /r/wallstreetbets and is currently in jail after embezzling her employers funds in a crazy options trade---- but those are stories for another time.
