Thin(k) About Your 401(k) Plan: What Is Bitcoin and How Does It Work?

I have to admit, I may have been bitten by the Bitcoin bug.  To be clear, I have not invested in Bitcoin because I am unconvinced the words invest and Bitcoin should be used in the same sentence, yet.  However, my recent readings on the subject leave me intrigued.  For this and my next post, I want to examine Bitcoin as an asset class and whether or not it is appropriate for a 401(k) Plan.

First, anyone interested in learning about Bitcoin should read Matt Houghan’s and David Lawant’s Brief entitled: “Cryptoassets: The Guide to Bitcoin, Blockchain, and Cryptocurrency for Investment Professionals” published by The CFA Reasearch Foundation in 2021.  Although it’s 50 pages, I found it hard to put down and easy to understand.  A few key takeaways:

  • Bitcoin is a cryptoasset resulting from blockchain technology born from a decentralized, distributed database that is accessible to anyone. In essence the technology functions as a transaction ledger that anyone using it has access to review and verify its accuracy.  This network has incredible potential, including three current and readily identifiable possibilities that have only just begun to be developed:
    • Lightening fast transaction settlement with very low costs available 24/7.
    • The Bitcoin “mined” in the process of creating the Blockchain network acts as a new store of value often compared to gold based on its inherent scarcity. The maximum number of Bitcoin that will ever be created is limited to 21 million and the provenance of each is never in doubt.
    • The potential for digitally recording contracts and thereby creating “programmable money.”
  • Bitcoin and blockchain are just beginning, but if we compare them to the Internet in 1990, Houghan and Lawant make a startling statement

“The internet clearly represented a new way to distribute information and could have major consequences, but moving from that to predicting that people would, for example, regularly use smartphones to rent out a stranger’s house rather than staying in a hotel is a whole different matter.”

  • Bitcoin’s performance has been characterized by high returns, high volatility and low correlation with traditional assets.
    • Bitcoin’s high returns are easy to document. If one had invested $10,000 in Bitcoin on July 17, 2010, on September 30, 2020 that investment would be worth $2.2 billion.
    • As illustrated in the chart below, the value of Bitcoin is incredibly volatile even though its volatility has decreased since 2011.

    • Bitcoin’s historical returns have been very uncorrelated with the returns of all other major assets making Bitcoin appear to be an effective diversifying asset for a portfolio.

Pretty interesting and maybe enticing too? But as I said at the start, I’m still unconvinced Bitcoin is appropriate for 401(k) Plans. In my next post “Should Bitcoin Be Offered in My 401(k)?”, I’ll show you how many are now arguing for including Bitcoin in a 401(k) portfolio, and why I don’t think it appropriate, yet. Until then…

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