Record low interest rates. Unprecedented levels of global monetary and fiscal stimulus. The potential for slow and steady inflation. These factors have all given rise to growing investor interest in bitcoin. As investors look for exposure to this emerging asset class, digital assets have the potential to be a long-term component of investors’ portfolios.

As the price of bitcoin has gone up over the past year, so has the number of questions that advisors are getting from their clients on this topic. Fidelity’s focus on digital assets began six years ago with bitcoin mining and has grown to include an institutional custody and execution services platform for digital assets, as well as investment vehicles for digital assets. Given Fidelity’s role in the digital assets ecosystem¹, we’ve been sharing our insights with the wealth management firms we work with to help advisors answer some of the questions they’re getting from clients. Here are three of the most frequently asked questions:

What Is Bitcoin And Why Is Everyone Calling It ‘Digital Gold’?
First, a little history on bitcoin, a decentralized asset. The Bitcoin whitepaper was published in 2008 by an anonymous author (or authors) that claimed a “peer-to-peer electronic cash system,” with the actual technology and protocol launching in 2009. Unlike gold, it exists only in virtual form—a computer file that is stored in a digital wallet—and transactions (or transfers) occur between Bitcoin addresses. Blockchain is the underlying technology that bitcoin and other digital assets use to record and validate transactions. It’s essentially a distributed database of records or public ledger maintained by a network of independent computers that validate transactions.

Bitcoin’s properties that make it an emerging store of value—scarcity, portability, verifiability, and divisibility—are why it’s earned the “digital gold” name. Gold can also provide some perspective into the recent volatility surrounding bitcoin. When the U.S. abandoned the gold standard in the 1970s, it experienced daily and annual volatility similar to bitcoin today. The biggest differentiator is that unlike gold, bitcoin doesn’t have a long-established history.

What’s Driving The Recent Price Action In Bitcoin—And Is This Volatility A Concern?
Generally, price lies at the intersection of supply and demand, and for bitcoin there is a unique supply dimension, given that it’s finite: it was designed with a built-in scarcity factor, with a limit of 21 million bitcoins. So unlike other asset classes, an increase in demand does not translate to an increase in supply. Price is the main factor to influence a change in demand.

The price of bitcoin has fluctuated over the years. The bitcoin rally in 2017 was largely driven by retail investors, and over the past year, the growing interest in investments has come from institutional investors across almost all segments—hedge funds, family offices, registered investment advisors, pensions, endowments, and corporate treasury departments—which is driving the recent price action. Increasingly, institutional investors are considering bitcoin as a store of value because of its properties as a digitally native, scarce, decentralized asset with a transparent, predictable, and rigid monetary policy.

The day-to-day volatility could come down over time with increasing spot and derivative market liquidity, as well as the development of products that allow investors to express interest in bitcoin in different ways. This can ultimately lead to greater ownership, participation, and diversity of market participants. Market data suggests bitcoin is increasingly moving off of exchanges and into wallets, inferring an increase in “buy and hold” strategies by investors. Should bitcoin ownership become more widespread, the entrance of new participants in the marketplace should have less of an ability to move the market, and the price of bitcoin should stabilize.

Should I Have Bitcoin In My Portfolio—And How Do I Do That?
Many see bitcoin as a portfolio diversifier: adding a highly uncorrelated asset may give investors a positive risk/return aspect. Similar to gold, bitcoin can also be used as a hedge against inflation. Fidelity Digital Assets’ 2020 Institutional Investors Digital Asset Survey emphasizes the growing interest from investors in digital assets. The survey found that almost 80% of institutional investors found something appealing about the asset class, and six out of 10 believe digital assets have a place in a portfolio. (Blind survey conducted by Greenwich Associates of nearly 800 investors from November 2019 to early March 2020.)

Determining if there’s a role in the client’s portfolio for bitcoin depends on your investment thesis about its potential benefits. One important consideration is that bitcoin currently has a low correlation to other assets, and that correlation has continued to decrease in recent years. Bitcoin’s average 60-day correlation from January 2015 through December 2020 to the S&P 500 was 0.03, to gold was 0.05, and to the dollar index (DXY) was -0.06, according to data from Coin Metrics.

Most recently, many investors and analysts have considered bitcoin as a store of value, given recent monetary policy by central banks and the need to hedge against inflation while also providing the upside experienced with certain alternative and venture-stage investments. Advisors need to determine the role that the asset plays in a client’s portfolio, and then perform due diligence to determine how to access custody for digital assets for their clients.

Advisors should start all conversations with “why?” to understand where a client’s interest in bitcoin is coming from and what their goals are in exploring it as part of their portfolio. Are they reading about it in the news and just want to learn more? Is there a “fear of missing out” with a newer asset class? Whatever their reason, ensuring clients feel educated on the technology and digitally native assets is an important foundation for beginning to explore how it may help them achieve their financial goals.

Mike Durbin is the head of Fidelity Institutional, which offers clearing, custody, investment products, brokerage and trading services to a wide range of financial intermediary firms and institutions.

¹Fidelity Institutional does not offer digital assets nor custody or execution for digital assets. Institutional custody and execution services for digital assets are offered by Fidelity Digital Asset Services LLC.