Experienced crypto investors advise against relying on a single cryptocurrency. For the novice player, it is a good idea to spread investments across several digital coins by building an investment portfolio.
An investment portfolio is defined as several digital assets assembled by a crypto investor to generate returns. Building an investment portfolio begins with determining the basic principles by which an investor will select and manage digital assets in a portfolio.
When creating a portfolio, a novice cryptocurrency investor needs to determine:
- What level of return he expects from investing in cryptocurrency
- In which currency he/she will lock in profits
- An acceptable level of risk and ways to compensate for the risk
- The key parameter when choosing a cryptocurrency for the portfolio
- For how long he plans to invest in cryptocurrencies
- How to keep the balance between the assets within the portfolio
Clear answers to these questions will help the novice investor to create the structure of the investment portfolio and lay the foundations of the system by which trading will be conducted.
The first thing to start with when creating an investment portfolio is to determine the amount of return, the purpose for which one is investing in cryptocurrency. This can be the amount in regular money, euros, dollars, or cryptocurrencies.
Dollars and euros are preferred for profit taking, due to the weak correlation between the digital currency market and the real economy. As the cryptocurrency market develops, this trend will reverse.
After calculating profits in euros or dollars, an investor should check whether the return in the regular currency exceeds that of bitcoin over the same period. Bitcoin in this case serves as an indicator of comparative returns, like stock market indices.
For the digital currency market, bitcoin is not just an indicator against which to compare returns. Crypto investors use bitcoin to lock in profits from altcoin trading and accumulate crypto capital in 'digital gold'.
Once they reach their goal, investors stop working with their investment portfolio and fix their profits.
Profit and risk are in direct correlation. High risk yields high returns, and the opposite is also true.
Cryptocurrency assets fall into several categories based on their level of risk.
- Low-risk assets. These include cryptocurrencies in the top five (top ten) in terms of market capitalisation. They are BTC, Ethereum, XRP, Litecoin and Tether.
- Medium risk assets. It includes digital currencies from Coinmarketcap's Top 30 list.
- High-risk assets. Top 100 cryptocurrencies.
Investment portfolios are divided into three categories based on the ratio of different risk assets.
- Conservative. 75% of assets in such a portfolio consist of low-risk assets. A quarter is made up of medium risk assets. Such a portfolio will not yield high returns, high capitalisation crypto-assets grow in value more slowly. The total number of coins in the portfolio does not exceed 10.
- Medium. Such a portfolio consists of 50% medium-risk assets. Low and high-risk assets are given 25% each. The number of digital currencies in such a portfolio reaches 20.
- Risky. In this portfolio, 50% are high-risk assets. Some investors believe that if the high-risk assets in a portfolio are chosen correctly, one out of a dozen selected investments will recoup losses and generate profits.
In current trading practices, most crypto investors make a medium risk portfolio.
The general rule of thumb for all traders, both risk-takers and medium-risk traders, is to have bitcoin in their investment portfolio. The share of the "first digital currency" should not be less than 25% of the total investment portfolio.
A financial objective is set and an acceptable level of risk is selected. Now the most important thing for the investor is to select digital assets for the investment portfolio.
The most important parameter to pay attention to when choosing a cryptocurrency is liquidity.
Liquidity is the ability to quickly buy or sell an asset at a price close to the market price. The liquidity of a digital currency is also understood as the ability to quickly exchange it for euros or dollars.
Liquidity shows the players' interest in an asset and the ability to operate on large volumes of the chosen asset.
When building an investment portfolio, it is worth examining current trends in cryptocurrency assets with low liquidity. There may be a future-proof cryptocurrency among them. Such an asset can only be added to your portfolio after you have studied its mechanism and understand the reasons for its low liquidity.
When creating an investment portfolio, an investor needs to determine the time frame in which they plan to achieve its investment goal.
This time frame is referred to as the investment horizon. For the stock market, the investment horizon ranges from a few months to a few years. In the cryptocurrency market, rare investors have an investment horizon of up to six months. Generally, traders in the digital currency market set the horizon at a few weeks or months.
There is a separate category of traders who make many low-profit trades in a single day. Their goal is to make 5-10% gains in a day in a selected cryptocurrency. Such players cannot be called investors, they are called scalpers. A scalper's strategy pays off, but it requires a constant presence of assets on the exchange, which creates additional risk.
The investment horizon is determined based on the chosen trading methodology and the current state of the market.
As you trade, the balance of assets in your portfolio will change. Working with the balance is referred to as re-balancing the investment portfolio. Re-balancing is a crucial aspect of portfolio management. Re-balancing is carried out according to a pre-designed plan and can be aimed at keeping the initial balance or at increasing the proportion of profitable assets, by selling less profitable coins. The frequency of rebalancing depends on the size of the investment horizon, the situation of sharp changes in the proportion or the news background of the portfolio assets.
The creation of an investment portfolio will help novice traders lay the foundation for the structure of future trading operations and develop a trading plan. The plan will include all phases, from the start of trading to the closure of the portfolio. The trades will follow a system created by the player based on his or her capabilities and understanding of the cryptocurrency market. A systematic approach to creating an investment portfolio and trading will guarantee a systematic result.
If you want to try your hand at the cryptocurrency market right now, but lack the time and information to build a portfolio, you can use a simple strategy - buy in equal shares of top 10 digital currencies.