The Sharpe Ratio measures the amount of returns from an asset against the unit of risk taken.
“You can have a really high-performing asset in terms of returns, but if it’s super volatile, you can be getting less returns for the risk you’re taking on,” says Chris Burniske, blockchain analyst at ARK Investment Management. “What you want to see are assets with high Sharpe ratios because that means you’re getting better compensated for the risk you’re taking on.” As seen in the chart below, for three of the five years examined, bitcoin had superior Sharpe ratios to all other asset classes.
One of the biggest arguments against this digital currency as an investment is that it has no inherent value, such as gold, and therefore cannot be considered a safe investment.
David Andolfatto of VP Fed Bank of St-Louis says, “The dollar price of bitcoin can be quite volatile. One can easily gain or lose 10% over the course of a weekend. So if we’re talking about an asset that offers a stable rate of return, bitcoin ain’t it.”
For those of you who have invested in bitcoin, attracted to the investment growth potential, you may now be feeling like you’ve bitten off more than you can chew, having experienced how volatile it is. There are ways to hedge your investment against bitcoin’s infamous volatility.
Hedge against risk while enjoying the growth
The question to ask is how we can continue to enjoy the tremendous growth potential of bitcoin as an investment, while protecting our wealth against its volatility.
There are several ways to protect your bitcoin investment:
- Convert to Cash
Immediately converting any growth you make on your bitcoin investment into your own fiat currency, removes the risk you might have exposed yourself to by reinvesting your growth into bitcoin again.
- Derivatives Market
This is not for the uninitiated. According to Wikipedia: “‘Derivative’ is a contract that derives its value from the performance of an underlying entity.” Bitcoins work in a decentralised peer-to-peer environment, and – simply put – derivatives market provide bitcoin users with a centralised option for investment. While some of the centralised options seem convenient to use, more and more bitcoin users are finding it harder to trust third party platforms to hold their bitcoin.
- Investing Bitcoin into Off-Line Digital Currency Projects
A growing trend in investors is to use their bitcoin to fund projects that show a steady, reliable return on investment. In some cases, these are projects that are simply not possible with normal currency.
“There’s a real need for a shift in the way we think about investing,” says Abraham Cambridge, CEO of The Sun Exchange, a solar energy finance company built specifically to close the funding gap for solar energy in the developing world. “We are bridging two revolutionary, world-changing technologies to create a service that practically defines new world economics: financing decentralised, distributed clean energy systems, using decentralised, peer-to-peer finance systems. You could not get any further away from the previous economic paradigm of centralised fossil fuels and sovereign-backed centralised financial institutions.”
Investing bitcoin into solar is a perfect use case as it allows the owner to hedge against bitcoin volatility by converting it into a tangible revenue-generating asset that can be traded if required.
How it Works:
- The current value of one bitcoin is approximately $560, enough to purchase around two solar panels, or ‘assets’, in one of The Sun Exchange’s projects.
- Your solar panel is then installed, insured, managed and maintained in any one of the commercial solar projects listed on their market place.
- Each solar panel will generate enough electricity to supply about 450 kWh per year. The end-user pays you, as the owner, for the use of the solar panels as the electricity is generated.
- Payments are sent back to investors via a smart meter.
- The user is paid out in the current spot price of the bitcoin at the moment the solar energy is sold.
- Each kWh is worth about USD 0.10c earning the investor $45 per year per solar panel.
Not only is this a stable, renewable source of revenue, but – as bitcoin mining is very energy intensive – it is also a good way to mitigate the environmental impact of bitcoin mining. “Solar energy pays back the energy it takes to mine a bitcoin in about three years,” says Cambridge. “We are moving to a totally silicon based economy, silicon chips financing silicon chips, where the process off-sets its own energy use.”
The bitcoin bubble is at an all-time high since May 2014 thanks to the massive upsurge in Chinese buying. It is wise to consider how long the bubble will continue, and what you do with the growth your digital currency investment is currently enjoying.