A Beginner's Guide To Initial Bitcoin Investment

Bitcoin is a highly volatile asset that has become increasingly popular among investors. It is a cryptocurrency that uses a large chain of interconnected computers to store and protect your digital assets. The value of Bitcoin is not linked to the profits of any one corporation but is instead dependent on market demand. This means that when there are more people buying Bitcoin, the value will increase, and when there are fewer people buying, the value will decrease.

Investing in Bitcoin can be done in several ways, including purchasing standalone Bitcoin, investing in a company that utilises Bitcoin technology, or participating in Bitcoin mining. When deciding how much to invest, it is important to consider your risk tolerance and the amount of money you can afford to lose. Some experts recommend investing no more than 10% of your portfolio in risky assets like Bitcoin, while others suggest a smaller percentage, such as 1% to 2%.

Before investing in Bitcoin, it is crucial to understand the risks and potential rewards. The value of Bitcoin can rise or fall dramatically in a short period, and there is no central regulator to ensure the value remains stable. Additionally, Bitcoin is prone to pump-and-dump schemes, where predatory investors convince amateur investors to pour money into Bitcoin, causing a surge in prices before selling all their holdings and causing the value to plummet.

It is also important to note that investing in Bitcoin can be complex, and it is not as simple as buying stocks or other traditional investments. There are various exchanges and platforms that allow you to purchase Bitcoin, each with its own set of features and fees. It is essential to research these platforms thoroughly before making any investment decisions.

Risk tolerance: Only invest an amount you're comfortable losing entirely

Risk Tolerance: How Much Should You Invest in Bitcoin?

When deciding how much to invest in Bitcoin, it's important to consider your risk tolerance, which is your ability to handle portfolio volatility and negative movements in the market. This is especially important when investing in cryptocurrencies, as the crypto market is known for its high volatility and susceptibility to rapid price changes.

Emotional Response to Financial Losses

Understand your emotional response to financial losses and consider your long-term goals. Ask yourself how comfortable you are with losing money. If you are investing a significant amount, will you lose sleep or feel severe anxiety? It's crucial to be honest with yourself about your risk tolerance to avoid making emotional investment decisions.

Time Horizon

Your investment time horizon is also an essential factor in determining your risk tolerance. Generally, those with a longer time horizon, such as younger investors or those saving for retirement, can tolerate more risk. They have more time to recover from potential losses and ride out market fluctuations. In contrast, those with shorter time horizons, such as individuals saving for a down payment on a house, usually have lower risk tolerance.

Financial Ability

Assess your financial ability to withstand risks. Consider your current financial situation, net worth, and how much money you can afford to lose. If you are investing a substantial portion of your net worth, ensure that you can still cover your essential expenses and maintain financial stability, even in the event of losses.

Profit Tolerance

While it may seem counterintuitive, it's important to consider how you will handle significant profits. Some investors become overly greedy and make impulsive decisions when their investments surge in value. Maintaining a detached emotional stance, regardless of whether your assets increase or decrease in value, will help you make more rational investment choices.

Market Cycles

When deciding how much to invest in Bitcoin, consider the current market cycle. Look at the global market chart and ask yourself: Are we close to the market's all-time high in terms of price and time? If so, it may be wiser to invest a smaller amount. On the other hand, if the current price is significantly lower than the highest price in the past couple of years, it could be a better time to invest a more substantial amount.

Diversification

Diversification is a crucial risk management strategy. Instead of putting all your money into Bitcoin, allocate your capital across different investment vehicles, such as real estate, stocks, gold, or other cryptocurrencies. This helps reduce the impact of any single investment on your overall portfolio and lowers the risk of losing everything.

Minimum Investment

There is no minimum amount of Bitcoin you need to buy, but keep in mind that exchange platforms charge fees for buying, selling, and transferring cryptocurrencies. Therefore, investing a very small amount may not be advisable, as the fees could quickly eat into your investment.

Remember, the decision on how much to invest in Bitcoin depends on your personal circumstances and risk tolerance. It's crucial to assess your financial situation, emotional response to losses and profits, and investment goals before deciding how much to allocate to Bitcoin.

Profit tolerance: Be aware of how you'll behave if your investment increases in value

When your investment in Bitcoin increases in value, it is important to be aware of your profit tolerance and how you will behave in such a situation. Here are some things to consider and steps you can take when your Bitcoin investment value increases:

• Review your risk tolerance: Assess your risk tolerance level and adjust your investment portfolio accordingly. If you have a high-risk tolerance, you may be comfortable with potential losses and focus on capital appreciation. On the other hand, if you have a lower risk tolerance, you may seek guaranteed returns and more stable investments.
• Rebalance your portfolio: If your Bitcoin investment has grown significantly, it may have thrown your initial portfolio allocation off balance. It is generally a good idea to rebalance your portfolio to align with your investment objectives, risk tolerance, and other factors.
• Review your portfolio for risk: Sometimes, a portfolio's value increases significantly due to one or two investments performing exceptionally well. It is important to review your portfolio to identify any risky situations, such as over-reliance on a single investment or speculative stocks.
• Play with your profits: Consider taking your initial investment off the table and playing with your profits. This way, you protect your initial investment while still allowing your winners to run and generate pure profit.
• Let your winners run: Some experts suggest letting your winning investments run and trimming your losing positions. Winning stocks tend to attract more investors, feeding off their success. However, it is important to evaluate the merits and valuation of the stock, its long-term prospects, and whether it is trading in line with its future valuation.
• Use a tax-loss selling strategy: You can maximize the value of your gains by using tax-loss offsets. The tax authorities may allow you to apply capital losses against your capital gains, enabling you to book profits without paying taxes on them.

Market timing: Consider where we are in the market cycle

Market timing is a strategy where investors forecast market movements over a period and use these predictions to make calculated entries into the market. This strategy relies on an investor's ability to consistently predict market peaks and dips and use that information to enter and exit the market at the most opportune times.

Market timing is challenging, and even the most experienced investors admit that it is difficult to pull off. It requires a deep understanding of market dynamics and the ability to make quick decisions in response to market trends and news.

The Bitcoin market cycle refers to the recurring pattern of price behaviour, characterised by alternating periods of appreciation and depreciation. Historically, Bitcoin has followed a four-year cycle tied to Bitcoin halving events, which happen approximately every four years. A halving event marks a 50% cut in the Bitcoin reward that miners receive for mining new blocks and verifying transactions. As a result, Bitcoin supply continues to increase but at a slower rate. The last halving took place on 19 April 2024, and the next is expected in April 2028.

Understanding the Bitcoin market cycle can help investors make more informed decisions about when to enter and exit the market. Here are the four phases of the Bitcoin market cycle:

• Accumulation Phase: This phase occurs when prices are low, but small signs of growth appear. It is marked by bearish sentiment, low volume, and fluctuating prices. Forward-thinking buyers accumulate Bitcoin during this phase, as it represents a maximal financial opportunity.
• Markup Phase: This is the bull market phase, where the market moves higher at an increasing rate. New groups of market participants enter, resulting in a notable increase in volume. Market sentiment shifts from cautious optimism to excitement as the demand for Bitcoin increases.
• Distribution Phase: After a bull run, some buyers become sellers, creating equilibrium between buyers and sellers. This phase is marked by high trading volume but low price volatility as asset prices fluctuate within a limited range. The overall market sentiment turns from optimistic to a mix of greed and fear, with uncertainty about the continuation of the uptrend.
• Markdown Phase: The bear market phase is fuelled by fear and negative market sentiment. As participants begin to fear the upcoming state of the market, selling pressure builds, and prices decline. This phase is defined by a downtrending chart and high-volume price decline.

It is important to note that market timing is not a risk-free strategy, and even experienced investors can be caught off guard by unpredictable circumstances. Therefore, investors should also consider a long-term investment strategy, such as "time in the market," which involves holding assets for an extended period, rather than trying to time the market.

Change of mind: Leave room to change your mind and adjust your investment over time

When deciding how much to invest in Bitcoin, it is important to leave room to change your mind in the future. The cryptocurrency market is ever-evolving, and people often change their minds about their investments. Therefore, dividing your investment over time is a good strategy to mitigate the risk of losing a large sum of money.

For example, if you want to invest $12,000 over 12 months, and the market is close to its all-time high, you can start with a smaller amount, such as $400 per month, and then invest more when the prices go down. This approach allows you to average out your purchase price and reduce the risk of buying at the top of the market.

Additionally, it is essential to remember that you can always reevaluate your decision and adjust your investment strategy over time. The cryptocurrency market is subject to high volatility, so it is crucial to remain flexible and adapt your investment plan as the market changes.

By dividing your investment over time and leaving room for adjustments, you can manage your risk more effectively and make more informed decisions about when to buy or sell. This approach can help you become a more solid investor, making better decisions based on market conditions rather than emotions.

Diversification: Don't put all your eggs in one basket

Diversification is a technique used by investors to reduce the risk of losing all their money at the same time. The logic is simple: if you invest in things that do not move in the same direction, at the same time, or at the same pace, then you will reduce your chances of losing all your money simultaneously.

For example, in 2008, the S&P 500 had a negative return of 37.00%. If you had allocated just half of your funds to fixed income, your ending value at the end of 2008 would have been much higher.

Diversification is about holding different types of investments, such as stocks and bonds, but it is also important to diversify within these categories. For instance, within your stock portfolio, it is advisable to allocate funds to companies within different sectors of the market (e.g., technology and healthcare). Similarly, with bonds, it is important to diversify among different types, such as government bonds, corporate bonds, and high-yield bonds, as they respond differently to changes in interest rates.

There are a few things to keep in mind when developing a diversification strategy:

• Do not overextend yourself. It is recommended to limit the number of stocks you purchase to between 20-40, with no more than 4-5 within each sector of the market and no more than 5% of your total portfolio invested in one stock.
• Consolidate your accounts. If you have accounts spread over multiple brokerage firms, consider consolidating them to make it easier to manage your investments effectively.
• Use Exchange-Traded Funds (ETFs). If you don't have the time or knowledge to research and select individual investments, you can delegate this task to a fund manager by investing in ETFs.
• Be mindful of over-diversification. While diversification reduces risk, each additional investment also lowers potential returns. Over-diversification occurs when the potential return is reduced more than the offset in potential risk by adding an investment.

When deciding how much to invest in Bitcoin, it is crucial to consider your risk tolerance and profit tolerance. Think of an amount that you feel comfortable losing entirely and that will not affect your judgment. Additionally, consider the current market conditions and where we are in the market cycles.

While some people advocate for putting all your eggs in one basket when it comes to Bitcoin, it is generally advisable to diversify your investments to reduce risk.

Frequently asked questions