Interactive Investor

Four investing lessons from the crypto crash

4th July 2022 13:44

Alice Guy from interactive investor

Crypto investors have had a torrid few months, with billions wiped from the crypto market this year. What investing lessons can we learn from the crypto crash and how can we protect our investment wealth?

Last week’s announcement that the European Union plan to regulate crypto investments and provide more warnings on crypto risks, is too little too late for many investors. It comes only a month after Luna crypto coins crashed to almost zero and at a time when many young investors have seen their crypto assets plunge in value.

The roller-coaster history of bitcoin

Bitcoin, the world’s most famous crypto asset, is the awkward teenager of the investing world. Created in 2009, this 13-year-old coin has given investors a few major headaches as well as some great rewards over the last few years.

Early investors saw prices surge from an initial $0.0008 in 2009 to £215.20 in 2015 and £14,749 in 2017. In April 2018 prices plunged to £4,898 remaining static for a while before soaring to £48,006 by November 2021.

Still with me! In 2022, bitcoin prices slid back down, after a temporary surge in April, slumping to £16,089 by the end of June 2022.

Huge gains and huge losses in the crypto crash

If you’d invested £20,000 in 2015, your wealth would have soared to an incredible £4,461,520 in 2021 before falling to £1,495,190 now, after the recent slump. But, unfortunately, only a few invested in bitcoin at the beginning, many more people investing when prices were sky high. If you’d invested £20,000 at the peak in 2021 it would now be worth only £6,703.

It’s a salutary warning that the past performance is sometimes a very poor predictor of the future.

Investing bubbles

Other crypto assets have fared even worse in recent months, the ill-fated coin Luna crashing from the dizzying heights of £106,102 in March 2022 to a few cents in May 2022.

The crypto boom is not the first investing frenzy, and it won’t be the last. Here are some other famous investing bubbles:

  • Tulip mania: for a few years in the early 1600s, highly patterned tulip bulbs fetched as much as £770,000 for an individual bulb, before prices crashed back down to earth.
  • The Japanese housing bubble: from 1986 to 1991 real estate and stock market prices in Japan surged, before collapsing in early 1992, leading to a long recession.
  • The dotcom bubble: from 1995 to March 2000 the tech-heavy Nasdaq index rose 400%, before falling 78% from its peak by October 2002, many internet companies going bust.

And some experts think that crypto price inflation is little different. European Central Bank president Christine Lagarde commented recently that crypto is, “worth nothing” and is, “based on nothing…there is no underlying asset to act as an anchor of safety.”

So, what lessons can we learn from the bumpy journey of crypto assets over the last few years?

1. Be realistic about risk

Unfortunately, many investors aren’t rational about risk, and regularly overestimate the risk of some “bread and butter” investments like FTSE 100 stocks and underestimate the risk of others like hugely risky crypto assets.

As a digital currency, crypto assets aren’t backed up by any governments or banks, that’s the whole point. And they also don’t have any inherent value, unlike a share, where you own a little piece of that company.

Lagarde comments on crypto risks that, “I’m concerned about those people who think it’s going to be a reward, who have no understanding of the risks, who will lose it all, and who will be terribly disappointed.”

If stocks and shares are like the Ford Focus of investing, then crypto is like a hugely temperamental vintage Ferrari: it may get you from 0 to 60 in 5 seconds, but it might also crash and burn. You certainly wouldn’t want to rely on it for your family’s camping holiday in Cornwall.

2. Diversify your investments

Diversifying your investment portfolio across many types of asset and geography is a great way to minimise investing risk. That’s because different assets like stocks, commodities, bonds and property have different growth cycles, meaning you should experience less investing volatility.

And within those asset classes it’s important not to put all your eggs in one basket. Investing in an index tracker fund means you’ll spread your equity investment across many different companies in different locations and sectors and be more diversified than an investor that picks just a few favourite stocks.

​​​​​​​Within that diversified mix you might decide to leave room for some highly-speculative and risky investments. But remember that investing £5,000 in a start-up fund or crypto might be fine if you have £500,000 in your investment pot, but it’s completely different if you only have £50,000 saved. If your investments crash to zero, then you’ll lose 10% of your total investment wealth.

3. Rebalance your portfolio

Rebalancing your investment portfolio is often overlooked and it can be a great way to reduce your investing risk. It helps you to bank your profits on rising asset prices and not become over-invested in one type of asset. And it’s also a great way to make sure that you’re buying low and selling high.

For example, Danny owns a range of investments and invests 1% of his portfolio in highly risky assets. He rebalances at the end of the year and sees his risky assets have performed well and now make up 2% of his portfolio. He sells some of these assets to bring them back down to 1% of his portfolio and reinvest proceeds in his more traditional funds. If his risky assets crash in value, he has already banked some of his profits.

4. Keep calm and carry on

None of us are investing robots and it’s all too easy to get swept up in the investing hype and become emotional investors. We know we should buy low and sell high, but often we do the opposite and buy as prices are rising.

That’s why it’s important to set an investing strategy and stick to it through thick and thin. Yes, it’s fine to sell any duds and change your mind about funds or stocks, but try to stick to your overall goals.

Set up regular, automated investments; ignore the hype; invest for the long term and stick to your investing strategy. Then sit on your hands, resist the urge to tinker and try to remain zen despite stock market volatility. History tells us that markets do recover. Above all, just keep calm and carry on investing.

These articles are provided for information purposes only.  Occasionally, an opinion about whether to buy or sell a specific investment may be provided by third parties.  The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.

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