Bitcoin (CRYPTO: BTC) seems to move with a mind of its own. At the time of writing it has just breached the $28,000 resistance level, a new high for 2023. Coincidentally, this rally times perfectly with the collapse of certain conduits of the fiat banking system, and gleefully defies the broad sell-off of equities while global uncertainty smolders.
Investors who want to hop on board the bitcoin rally have three options: buying the coin outright, purchasing bitcoin ETF units, and acquiring shares of bitcoin companies.
Each investment has pros, cons, and idiosyncratic risks that we’ll discuss in this article.
Most people who are into crypto will recommend buying and holding bitcoin directly. Owning the asset outright gives investors the most amount of flexibility with how they store and use their coins, as well as the potential for the highest returns - but not without a corresponding amount of risk.
You alone are responsible for the coins in your bitcoin wallet, and there’s zero chance of getting them back if you misplace your private key or if someone steals them. This responsibility is known as custody risk, and most people are unfamiliar with it until they start experimenting with digital currencies, leading to trouble.
Most investors, however, totally forgo the sovereignty of their coins for convenience and spread themselves wide open. Whenever your coins are stored on an exchange, app, website, or anywhere else besides your wallet accessible by your keys only, you assume counterparty risk, and it’s highly plausible you will lose everything.
The only practical solution to securing bitcoin long-term is to guarantee your wallet is not connected to the internet, known as cold storage. Writing your public and private keys on pieces of durable laminated paper can work, as well as having them engraved into stainless steel. Hardware wallets are also popular options, but so too is storing them on broken-down devices that no longer have internet access. Redundancy is key.
The next vital precaution is generating your pair in an “air-gapped” environment. Your computer must be brand new or freshly formatted, and it must be impossible for it to connect to the internet during the process. Taking these precautions may sound paranoid, but consider that most devices are infected with malware, and you can bet that anyone who’s coding viruses is also scoping out your private key to rob you senseless.
Now we’ve covered the optics of guarding your bitcoin, regretfully there’s also an untold number of ways you can lose it all through greed and financial engineering. If you transfer some of your coins from cold storage to an exchange you can earn absurdly high annual percentage yields by: selling options, staking programs, liquidity pools, cloud mining, high yield investment programs, thinly veiled ponzi schemes and so on and so on and so on. There is no gain without proportionate risk; taking these risks isn’t necessary.
Bitcoin is already the fastest growing asset humanity has ever witnessed. Bitcoin is money. And some recent predictions by tech hawks like Cathie Wood have also put it in the $1 million ballpark within the next decade. These pie-in-the-sky predictions are always being made about the coin, but the bitcoin ecosystem is undeniably growing; the internet and finance is evolving; and as more people discover and trust in bitcoin the more valuable, it must become in the future. The buy and hold in cold storage approach is the correct approach for virtually all of the investing public.
Securing bitcoin for the long term requires technical knowledge that many people don’t have the interest or motivation to learn. This is where pure-play bitcoin ETFs like ProShares Bitcoin Strategy (NYSEARCA: BITO) have their uses. With custody and most counter-party risks removed, along with the convenience of being in cash, almost anyone can get exposure to bitcoin without wading through the technical jargon.
Despite their accessibility, bitcoin ETFs are built on top of complex financial derivatives that are then built on top of bitcoin. In practice, this means that these funds are not only expensive to maintain (and own), but you are also not really investing in bitcoin. It’s just more financial engineering.
The expense ratio of BITO is absurdly high at 0.95%. Similar ETFs are in the same ballpark. That’s expensive in terms of cost as well as in terms of what you are paying for.
If you started with $10,000 in bitcoin and bought $500 of the coin every month for 30 years, along with an expected yearly return of 10%, you would have paid $201,430.81 in fees! That’s 20.93% of the total value of your investment.
And then, since you’re still in cash, inflation and purchasing power, deflation will have also eaten away at that nest egg. This was avoidable if you diversified from the fiat system in the first place.
Overall, investors sacrifice much in terms of utility and total return for the sake of convenience with bitcoin ETFs, and the know-how of securing and keeping your bitcoin safe is readily accessible to everyone who searches for it.
Bitcoin stocks have their own ecosystem that consists of exchanges, blockchain development companies, and huge bitcoin mining operations alike. The appeal is that investors can potentially have their cake and eat it too by picking a winning stock as well as riding bitcoin to the moon.
It almost goes without saying this introduces all sorts of company-specific, macro, competitive, financial, execution, and other risks that are absent in both investing in bitcoin and a bitcoin ETF. But buying a good bitcoin stock with strong fundamentals is still a few levels of abstraction closer to bitcoin than a bitcoin ETF, but it also forces you to make some correct assumptions.
A company can also easily destroy its fortunes much faster than it makes them, so investing in bitcoin companies will always carry that degree of leverage to amplify potential gains and losses.
Owning shares in a bitcoin company doesn’t mean someone is invested in bitcoin, and just because one investment rises doesn't mean the other will either. Holding both also doesn’t increase one’s exposure symmetrically, as you could simply just buy more bitcoin if you were bullish on the coin’s future prospects.
Buying bitcoin stocks introduces more risk and assumptions into one’s investment thesis. Bitcoin may be risky enough as it is without adding more moving parts to your investment strategy.
The bottom line
Understanding the technicals of how to secure one’s bitcoin stash does require some technical knowledge and it may be difficult for non-tech addicted persons to comfortably feel at home using it. There’s also plenty of ideology and zealousness that may turn regular investors away from joining the bitcoin community, and finally there’s always the risk of your coins being taken - even when you followed all the advice.
Still, bitcoin ETFs are expensive, and bitcoin stocks are basically a form of leverage that are more likely to amplify losses than gains due to all the added risks involved through stock investing.
Owning bitcoin outright is the simplest and cheapest way of getting exposure to the bitcoin ecosystem when certain precautions are followed.