Is crypto right for your ISA?
Updated
August 28, 2024
We dive into whether alternative currencies, and the volatility they’re known for, are right for your stocks & shares ISA.
The crypto narrative has been moving at lightning pace over the past two years.
And new UK PM, Rishi Sunak, could be about to rev the blockchain chat up another notch.
On his to-do list is transforming the UK into a global crypto hub. He first outlined those lofty ambitions in April, including plans for stablecoins to be deemed UK-regulated assets, and for the Royal Mint to launch an NFT.
The crypto industry will be crossing its fingers and toes that he’s true to his word. Crypto assets and crypto mining stocks are in dire need of any helping hand they can get right now.
A lot has changed since Rishi’s announcement months ago. Notably, the price of just about any cryptocurrency has crumbled. Even so, the PM hasn’t shown any sign of wavering in his ambitions yet. That said, nowhere in his plan has he indicated that retail investors will soon be able to add cryptocurrencies to their ISA accounts.
Currently, UK retail investors can add stocks in crypto-related firms to their ISAs. But just because you can add these types of stocks to a tax-wrappered ISA account doesn’t mean you should.
During crypto’s bullrun, it was easy to get sucked into all the short-termism but we should allow ourselves a second to take a step back and widen the frame a bit.
Bitcoin's first wave a few years ago sparked headlines of instant millionaires and speculators heralding an economic revolution.
The fact that there was as much enthusiasm as outright derision from the investment establishment pointed to a world that didn't really understand cryptocurrencies and got too excited or too sceptical.
It didn't help that JP Morgan chief exec Jamie Dimon flip-flapped between calling the whole thing a 'fraud' and then seemingly coming round to the idea of the blockchain.
Maybe we just needed time to reflect on it all. The sector's duration in the wilderness since 2017 has given us just that.
So, with higher highs in the price of Bitcoin last year, but lower lows this year, what's changed and is there now a place for the crypto industry among our more traditional ISA assets?
There are a lot of fans and detractors just waiting to hit the 'told you so' button but whether you become a crypto ISA millionaire or not will be a result of more than blind derision or hysteria.
Bitcoin and its band of altcoins are still going through a bit of an identity crisis.
Should we treat them like currencies, or assets like UK and US shares, and bonds?
Confusingly, cryptocurrency industry fans lie on a spectrum of wanting to disrupt money as we know it at one end, to taking a punt in the sector with their life savings at the other.
If you remember the end of 2017, a lot of the reticence among the sceptics was based on this balance being ill-defined and the asset being used for speculation, not for its initial purpose.
Five years on, we're still treating it as a speculative asset. Die-hard fans can talk about the decentralised revolution all they want but when meme coins like Doge played a meaningful part in portfolios across the world last year, the eventual use case for crypto investments felt overshadowed by outright lust.
And this is where the critical distinction between different digital currencies comes into play. Doge doesn’t have the same use case as Bitcoin.
The same goes for distinguishing between crypto companies. They’re not all one and the same.
Look no further than crypto ETFs for proof of the importance of pickiness. ETFs are a basket of stocks that can sometimes offer retail investors diversification without the added legwork of picking tons of stocks themselves.
Usually, ETFs’ diversification benefits come in terms of the number of assets that you get exposure to through one investment. Sometimes ETFs will span a number of industries, markets or geographies too.
But the potential benefits of diversification don’t apply to exchange-traded crypto funds.
Largely, this is because of the small number of players in the crypto industry, which makes a crypto ETF heavily concentrated and reliant on the success of just a few firms.
With only 25 holdings in its portfolio, the VanEck Crypto and Blockchain Innovators ETF (DAGB) is an example of that heightened level of risk. The ETF doesn’t directly offer access to cryptocurrencies, but it provides exposure to cryptocurrency because you’re investing in the companies building, selling, or using those different cryptocurrencies.
As an investor, this means you’re exposing yourself to double the risk. You don't just need a specific digital currency to maintain or increase its perceived legitimacy and importance. You also need the business relying on the coin’s success to be maintaining (and ideally, growing) its business which is dependent on that asset.
Past performance is not a reliable indicator of future returns.
Source: FE, as at 1 November 2022. Basis: bid-bid in local currency terms with income reinvested.
Case in point, one of DAGB’s largest holdings: Coinbase. Coinbase doesn't just have to worry about tumbling crypto trading volumes for its own revenues, it also has to worry about decimated coin prices, which jack up its non-cash impairment charges. In the firm’s Q2 earnings report, that meant it had to write down its value of stored coins by $377m. That’s a significant hit for Coinbase, which reported a loss of $1.1bn, as revenues tumbled 60%.
Even with all of this turmoil, some retail investors still believe that because crypto assets are not a traditional asset class, they can be a hedge against inflation.
The US dollar is traditionally the go-to for investors who are worried about inflation. Gold is another commonly used hedge. But in recent years, many turned to crypto as a hedge, since it doesn’t have a set country to call home. Theoretically, then, that should make it less entangled with a given country’s economic conditions.
And the decentralised nature of systems like Bitcoin can start to seem attractive if you don't like the look of what the world's central banks are doing.
In one way, cryptocurrency as a store of value means it's more akin to a commodity now compared to being a speculative equity in 2017. But this year has shown that its value definitely hasn’t borne similarities when it comes to holding up like a commodity usually does.
If cryptocurrencies’ prices being decimated over the past few months are any indication, crypto isn’t holding up as the inflation hedge that the believers may have expected.
There are a few issues with putting Bitcoin in the same bracket as gold and the precious metal universe. The first is that we're still figuring out the use of crypto on a global scale.
It might be a way to alleviate currency concerns in developing nations. But it might just as easily facilitate an ever bigger black market than it already does.
We just don't know.
And that's if we even treat it as a currency, which we aren't doing at a level that promotes relative day-to-day stability, like how we use pounds and dollars.
Comparably, at the very least, gold has significant commercial and industrial uses which give it a purpose even if it loses its commodity shine.
We could talk more about the price volatility, lack of liquidity and how difficult it is to value the likes of Bitcoin but the Financial Conduct Authority (FCA) put it much more succinctly: investors should be prepared to 'lose all their money' they put into a crypto strategy.
The regulator also warned that some crypto firms may be bending the truth when it comes to laying out the risk-reward ratio on offer.
The FCA, and other regulatory bodies, are right to call out the intrinsic risks. That's to be expected.
And a quick look at some of the recent cryptocurrency mining poster-children shows just how important that risk messaging is.
So far, the crypto industry has offered 'all or nothing' frenzies. If we're to get a viable currency out of the movement like was first intended, we're going to have to manage this high-octane side.
One difference this time round has been the attention given to the miners like Riot and Argo Blockchain.
UK-based Argo offers a global data centre which allows consumers around the world to mine cryptocurrencies for a monthly fee.
Cast your mind back to the images of the gigantic warehouses needed to generate crypto a few years ago. This mining-as-a-service model shows that even the innovators can be innovated.
The likes of Riot and Online Blockchain saw a spike in interest last year.
One reason could well be that investors are looking for listed exposure to crypto without having to sort out wallets themselves. Many investors had exposure to crypto through the balance sheets of popular holdings like Tesla but the ecosystem of crypto-adjacent listed firms is growing.
The much anticipated Coinbase listing was probably the biggest demonstration of second-order plays coming to market.
There are still environmental concerns over the miners' and exchanges’ energy usage though. The counter to this is often that there's more renewable energy being used than many of us realise. And Ethereum’s long-awaited network upgrade this year has also reduced the coin’s energy consumption by more than 99%.
But the worry, and Elon Musk tweeting about it, has been enough to throw a spanner in the works.
The crypto market’s not-so-clean reputation is just another hurdle for the crypto space.
Still, demand for ways to get crypto into traditional ISA portfolios exists. And the dearth of pureplay ways for investors to access the asset class on main exchanges continues, so in the meantime, these firms might have an advantage.
So, if you are considering investing in crypto stocks, be sure that you’re comfortable with the high volatility and risk involved, and that these factors are suitable for your investment needs. There is a greater likelihood that the value of your crypto investments could go down.
If you are financially able to, and have the risk tolerance to take on this heightened level of uncertainty, then perhaps some crypto stocks could be a fit for your portfolio.
If you decide to invest in these shares, you can invest in cryptocurrency stocks in the same way as you’d invest in other publicly traded companies.
Remember that when you invest in companies investing in crypto, you’re really investing in the success of digital currencies. Even though these firms generate revenue (or at least, that’s their aim) they aren’t an inherently less risky investment than investing directly in crypto.
It’s a reminder that an investment in crypto stocks requires more than just believing Bitcoin will become an increasingly used payment method.
Fact is, even movements in fiat currencies are often largely unexplainable. It’s hard to know how they’ll ebb and flow. That means crypto currencies are even harder to predict.
Keep that front of mind if you’re considering investing in crypto stocks. Do you believe people are getting better at forecasting movements in cryptocurrencies’ prices? People aren’t great with forecasts at the best of times, and crypto stocks are no exception.
Remember, for the time being, you can’t directly add a cryptocurrency like Bitcoin into your ISA. You can only get indirect exposure through the companies linked to cryptocurrencies. And those investments can be just as risky, if not more, than the digital asset itself.
And as for a crypto firm’s ability to diversify your ISA, the jury's still out.
Cryptocurrency is a relatively new digital asset, and coins’ performance this year is proof of the high risk of loss involved in these investments, let alone the firms behind them.
This year already ushered in a drop big enough to have many investors moving their investments out of crypto and into sustainable, profit-generating businesses instead.
Legitimacy is still a big issue for many investors, as well as the lack of evidence of the long-term viability of cryptocurrency as its core function. Certain altcoins with a compliance-first attitude like remittance-focused Telcoin could be a sign of things to come. Rather than fight regulation, the future of the sector might be determined by which use cases of the blockchain technology will work with regulators and get them onside.
But if crypto exists purely to be a speculative asset, and attracts interest where risk is often unmeasured and loose, it'll fail to garner support from the mainstream.
The more big companies and investment trusts like the Ruffer Investment Company start to dip their toe in the water though, the more it could be legitimised as a speculative diversification tool.
For the everyday ISA investor, the takeaway should be that the sector has a history of disappearing as quickly as it came into town, and the FCA still isn't convinced.
It may eventually become a mainstay of investing, in which case, early adopters in the miners could still be rewarded in the long term.
But if you are planning to add a bit of blockchain to your portfolio just make sure you bring a good amount of risk management (and a super long-term time horizon) with you.
Look before you leap.
Protect your investments from UK tax with tax-efficient investing accounts like a stocks and shares ISA or a SIPP account . Check out the ins and outs of both accounts before opening one. Take a look at what is a stocks and shares ISA and our SIPP guide. We summed up the key differences in our SIPP vs ISA guide.
