My crypto investment strategy
The Vault Method (TVM)
The simplest way to invest in crypto is to:
- Dollar cost average (DCA)¹ into the most reputable cryptocurrencies,
- Never sell (i.e. HODL),
- Come back in 5 years and see how much your investment has grown.
While this approach can be effective, the portfolio is likely to experience heavy paper losses along the way due to the high volatility of the crypto asset class.
Bitcoin can deliver high returns, but with annualized volatility as high as 91.73%²
This is not a great way to invest because it is psychologically very difficult to pull off; It wouldn't matter if the price of bitcoin went up 10x if I sold off my investment earlier because I couldn't stomach a -50% drawdown.
With blind HODLing, large drawdowns are practically guaranteed because DCA-ing in a rising market means I'd be regularly buying near all-time highs. So when a large pullback inevitably occurs, my overall investment position will be heavily underwater.
That being said, I also don't want to be actively buying and selling because the failure rate of short term trading is high³. This is especially so for the crypto market where transaction costs are significant.
To escape this dilemma, my solution is The Vault Method (TVM).
Before we continue, I'd like to make one thing clear: If you're going to invest in crypto, do not bet the farm and only do so with an amount you're comfortable losing. Most investment professionals recommend an allocation of under 5% of your investible capital.
Personally, I'm investing a big chunk of my net worth because (A) I have 16 years experience in financial markets, (B) I've done my homework, (C) I have conviction in the investment thesis, and (D) the risk-reward ratio of this opportunity is the most favourable I've seen in my life.
What you choose to do is - of course - entirely up to you. I'd just like to remind you that this is a high risk, high return venture and you should not over-extend yourself.
The Vault Method (TVM)
The basic idea behind TVM is:
- During large price pullbacks: Accumulate and keep in "the vault"
- During parabolic price gains: Remove some from "the vault" and sell
- All other times: Do nothing
"The vault" is a metaphor for where I keep my crypto holdings.
Traditionally, people store gold, antiques, paintings, watches, property certificates, and other stores of value in physical vaults, as they don't expect to sell any time soon. These items are meant to be kept for many years, even decades.
I have the same mindset with my crypto holdings.
The vault imagery is important because it's a constant reminder that my crypto holdings are long term investments; It stops me from overreacting to news headlines and checking price charts every 30 minutes. The psychological aspect is crucial. It's similar to how most HODL'ers think and invest.
Unlike HODL'ers, however, there will be (rare) occasions when I open up my "vault" and sell some of my crypto holdings.
Let me explain how it works.
During large price pullbacks
A unique property of the crypto market is that it's dominated by large players (whales⁵) that can manipulate market prices with no threat of legal punishment.
For the most part, they do this by driving prices down to shake out retail investors and leveraged traders, and then buying back at depressed levels.
Once you're aware of this tendency, all you need to do is wait for the inevitable pullback before you start accumulating⁶.
My definition of a large pullback is one where prices fall at least 35% from the all-time high. When prices fall this much, I start 'dollar cost averaging' into the pullback.
Note: Don't be too surprised to see pullbacks of 50% or more; This is to be expected in the crypto markets.
During parabolic price gains
Once in a while, the market price will make a parabolic move to the upside, and my crypto holdings would be sitting on substantial paper gains. When this happens, I'll remove some holdings from my "vault" and start looking to sell.
Depending on the extent of the gains, I'll be looking to trim between 10% - 40% of my holdings. The idea is to book some profits and have extra cash on hand to buy into the next large pullback.
Do note though, that this will not happen often. On average, I estimate that I'll be trimming positions about once a year.
All other times
If the market price is not making a large pullback or a parabolic gain, I do nothing.
Even if I'm feeling bored or anxious about my crypto holdings, I'll sit on my hands and do nothing.
In theory this sounds easy, but in practice it isn't; There's always the temptation to "optimize" by trying to time the market in the short term.
Resisting this urge is the key to superior returns. Trying to time the market is a high risk, high effort, low reward game; While looking for an additional $200 profit, you could miss a $10k upside move.
So think bigger, and let go of trying to squeeze small profits out of the market. The big money is made in the holding, not in the active jumping in and out of positions.
This is why it's called The Vault Method. The vast majority of the time, my "vault" remains sealed and nothing goes in or out of it.
1. Invest in the right cryptocurrencies
There are many frauds, scams and low quality crypto projects in the industry. This is the nature of any unregulated market so be sure only to invest in the largest and most reputable cryptocurrencies.
As a rule of thumb, I'll only consider those that:
- Have a large market capitalization (>$10bn)
- Have fundamental use cases right now (and not just in the future)
- Go up in price the more it's used or valued
- Have supply constraints
- Are supported by a large developer ecosystem
2. Invest for the long term
The crypto market is dominated by big players that will - with 100% certainty - be manipulating the market price.
Throw in high trading costs, and that puts retail traders at a big disadvantage.
So until this dynamic changes, the best approach is to simply invest for the long term. Every time the big players drive prices down, accumulate and hold for the next few years. The big money is in the long game.
3. Don't use leverage
This is VERY important.
Consider that right now (in May 2021) the market cap of the largest cryptocurrency - bitcoin - is around $700 billion, while the world's biggest asset manager - BlackRock - has $8.7 trillion under management. The entire market cap of bitcoin is a mere 8% of BlackRock's capital.
Any time it wants to, BlackRock (or any of the large asset management firms) can easily manipulate the price of bitcoin or any other cryptocurrency.
If they want to flush out traders who use 4x leverage, all they need to do is push prices down 25% and those leveraged traders will get wiped out. To do the same with 2x leveraged traders, they just have to push prices down 50%.
The bottom line is to NEVER use leverage in this market. Doing so is a guaranteed one way ticket to the poorhouse.
If you're starting out
If you're just starting out with crypto investing, here's a simple approach to consider:
1) Decide on a dollar amount you're comfortable with losing.
To make things simple let's say it's $10k.
2) Keep 50% in cash and start buying crypto with the other 50%.
So you'd have $5k in cash and $5k in crypto.
3a) Scenario 1: If the price then makes a new all-time high, slowly convert the rest of your cash into crypto.
So $0k cash, $10k crypto.
3b) Scenario 2: If the price makes a large pullback, slowly buy into it with the rest of your cash.
You should end up with $0 cash, $10k crypto.
Once your funds are 100% in crypto, be patient and wait for the price to go parabolic before trimming your investment position and then waiting for the next large pullback.
This approach will help keep paper losses low while staying invested.
Feel free to use your own percentages as you see fit. The important thing is that you grasp the logic behind this approach.
The crypto market is fast, volatile, and is open 24/7.
As such, it's easy to get caught up in the daily price fluctuations and news headlines that trigger greed, anxiety and fear.
Always remember that you're investing for the long term. There's no need to rush and there will be no circumstance in which you'd have to buy or sell right away.
Be patient and take your time to scale into, and out of your position. We're investing for the BIG money years down the road, not for the small money today, this week, or this month.
There may also come a time when you start worrying about your crypto investment or start doubting your entry price. In such situations, it's helpful to ask a simple question: Is the crypto industry going to be bigger or smaller 5 years from now?
If your answer is 'bigger', then there's no reason to get stressed over short term price fluctuations.
TVM is an investment framework that borrows heavily from HODL philosophy but with one key difference: I occasionally adjust my investment position when the market price moves to extreme levels.
To reiterate, I'm NOT looking to time the market; Any adjustment to my positions will made incrementally, unless there is strong reason to do otherwise. The goal is to reduce the size of paper losses and to smoothen my equity curve.
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