Risk Off
Cryptocurrency exchange FTX is imploding and needs to raise money, and it has halted customer withdrawals as it explores its options.[1] FTX sponsors the Miami Heat Arena and Major League Baseball, endorsed by Tom Brady, Gisele Bundchen, Steph Curry, and Shohei Ohtani. Its bright light attracted speculators like moths to a flame.
It appears that FTX commingled client funds with their trading firm, Alameda Research – a major no-no for US-regulated firms.[2] FTX is Bahamas based, out of reach of US regulators, and it's unclear how investors will get their money back since most cryptocurrencies are not regulated.
The concern over FTX has dealt a blow to cryptocurrencies, exchanges, and institutional investors. Coinbase is down 82% this year, Bitcoin and Ethereum have fallen 58%r, the ProShares Bitcoin Strategy ETF has dropped 67%, and the Grayscale Bitcoin Trust has lost 74%. Sequoia Capital is writing down their investment in FTX to zero, a loss of $150 million, and Binance, another crypto exchange, will not rescue FTX and has backed away from discussions.
I don't want to solely pick on cryptocurrencies because traditional assets like stocks and bonds are down significantly this year. The Nasdaq is down 31%, long-term bonds have dropped 34%, and all asset classes are struggling.
Risk arrives quickly and without warning, quickly wiping out years of gains. You can't avoid danger if you own growth assets like stocks, real estate, or digital assets. To obtain higher returns, you need to risk capital. However, you can do some things to minimize your losses.
- The first rule of risk management is not to invest more money than you can afford to lose. Do not speculate with safe funds.
- If it is too good to be true, it probably is. Do not chase shiny objects with promises of oversized returns hyped by celebrities.
- Do not borrow money for speculation. Leverage is the best way to lose more than you intended when your investment goes south. The bank must get paid on time, regardless of how your investment is performing.
- Do not speculate on the money you need in one year or less. Today, you can buy US T-Bills with a guaranteed rate of 4%.
- Do not speculate with money earmarked for large purchases like a home, wedding, or college tuition.
- Take calculated risks. Do your homework, read the small print, and decide. Do not let friends, influencers, or actors pressure you to invest.
- If you want to speculate, limit your exposure to 3% to 5% of your investable assets. If you own $1 million in assets, your speculation budget is $30,000 to $50,000.
- If you plan to invest in private placements or illiquid investments, ensure your liquid assets can cover at least five years of your living expenses.
We crave instant gratification, and few people want to grow rich slowly. We are a culture of impatience, and the thought of waiting for anything is unacceptable, but if we move too quickly, we risk missing the details. Haste makes waste.
Fortune favors the brave. ~ Matt Damon, Crytpo.com commercial
November 10, 2022
Bill Parrott, CFP®, is the President and CEO of Parrott Wealth Management in Austin, Texas. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process so our clients can pursue a life of purpose. Our firm does not have an asset or fee minimum, and we work with anybody who needs financial help regardless of age, income, or asset level. PWM's custodian is TD Ameritrade, and our annual fee starts at .5% of your assets and drops depending on the level of your assets.
Note: Investments are not guaranteed and do involve risk. Your returns may differ from those posted in this blog. PWM is not a tax advisor, nor do we give tax advice. Please consult your tax advisor for items that are specific to your situation. Options involve risk and aren't suitable for every investor.