Diversification has always been at the heart of effective portfolio risk management - simply put, it significantly reduces risk. A well-diversified portfolio contains a properly balanced mix of assets and asset classes. This commonly includes investments in the public equity and bond market, as well as real estate.
When you invest in the public market, you can only access public companies. However, the private market contains strong potential for great returns. The private market features startups big and small, but thus far, has mainly been reserved for venture capitalists (VCs) and private equity firms (PEs). Unfortunately, the costs associated with running a VC or PE fund means these firms only raise big tickets from wealthy investors, and you don’t have access to them.
Recently, partial access to the private market has been granted to retailers through the phenomenon of equity crowdfunding in which a group of retail investors can collectively take a stake in a private company, though it is not widely used. Equity crowdfunding is arduous work for founders, given the lack of benefits associated with having experienced VCs on their board. And investors must typically wait five to ten years before exiting such investments, making them highly illiquid.. And finally, crowdfunding often requires investments of several hundred to several thousands of euros into one company. Investment amounts are significantly less than the investments of VC or PE firms, but they still represent minimal diversification when compared to what you’d get investing that amount in a fund that tracks the entirety of the investible public market.
Gaining access to the private market is difficult and while the good old 60% equity/40% bonds strategy may offer some diversification, it cannot protect a portfolio against systemic market risk as it is 100% invested in the public market. It’s not bad, but still not ideal.
For decades, hedge funds have looked for the perfect asset that can be shielded from systemic risk issues —an asset unaffected by volatility in the wider market.
For many, cryptocurrencies and the new use cases offered by blockchain technology offer an answer to these problems. A new breed of young companies seeking to disrupt entire sectors of the economy are upon us. You would typically find such companies in the private market while others offer entirely novel “values” which might offer greater protection against systematic market risk. They also offer the advantage of being liquid (the smallest cryptocurrencies still often trade in the tens of thousands of dollars per day) and are available at small amounts (you can buy most crypto with less than 1€), which enable you to build a diversified portfolio easily.
Although it used to be extremely expensive and difficult to break into a world where one could diversify broadly, low cost index funds and crypto markets are rapidly democratizing access to diversification.
Welcome to a world where you can now invest like a hedge fund or a venture capitalist too.
Read below to find out how and why you should.