Objective:
Apply diversification strategies to crypto investments.
Outcome:
Build a balanced crypto portfolio by leveraging lessons from traditional finance.
Introduction
In the previous lesson, we explored the time value of money and how strategies like staking, HODLing, and DCA can optimise your crypto investments. In this final lesson of Module 2, we’ll focus on diversification—a fundamental principle of risk management. Borrowed from traditional finance, diversification is essential for mitigating risk and maximising returns in the volatile world of crypto. By the end of this lesson, you’ll understand how to structure a balanced portfolio that aligns with your goals.
Recently, Oz and I discussed this topic on the Crypto Unplugged podcast, highlighting how diversification trends have shifted from blockchain NFTs and Metaverse in the last cycle to AI, RWAs, meme coins, and DePINs in the 2023-2025 cycle. Let’s dive deeper into how you can use these trends to build a balanced crypto portfolio.
Applying Diversification in Crypto
1. Diversifying by Market Capitalisation
In crypto, diversification involves holding assets across different market capitalisations to balance growth potential with risk management:
High-Cap Assets: These are established cryptocurrencies with large market caps like Bitcoin ($BTC), Ethereum ($ETH), Solana ($SOL) or Bittensor ($TAO). They offer relatively lower risk and act as the foundation of your portfolio.
- Mid-Cap Assets: Tokens like OriginTrail ($TRAC) and Oraichain ($ORAI) fall into this category. They have significant growth potential but are riskier than high-caps.
- Low-Cap Assets: Smaller projects such as $MICHI or $CHILLGUY are high-risk, high-reward opportunities. These can deliver outsized returns but carry substantial volatility.
Example: Suppose you allocate 50% of your portfolio to high-cap assets like Bitcoin and Ethereum for stability, 30% to mid-cap tokens like $SOL and $FET for growth, and 20% to low-cap tokens like $MICHI. This distribution ensures a balance between risk and reward.
2. Diversifying Across Sectors
Crypto projects span various sectors, such as DeFi, AI, gaming, RWAs (Real-World Assets), meme coins, and DePINs. Investing across these sectors provides exposure to multiple growth opportunities while spreading sector-specific risks.
Example: Suppose you invest in:
- DeFi: $AAVE for decentralised finance.
- AI: $FET and $TAO to capture the AI boom.
- RWAs: $CPOOL, which tokenises real-world assets.
- Meme Coins: $DOGE or $MICHI for speculative potential.
- DePINs: $AIOZ and $GRT for decentralised physical infrastructure networks.
If DeFi underperforms but AI and DePINs grow, your portfolio benefits from sectoral diversification. This approach ensures exposure to trending narratives without over-concentrating on one sector.
Analogy: Diversifying a Garden
Imagine planting a variety of crops in a garden. Some plants grow quickly but are fragile (meme coins), others are slow but robust (high-cap tokens), while some thrive in unique conditions (RWAs). By diversifying, you ensure that even if one crop fails, others can sustain the garden’s overall yield.
Risk-Reward Trade-offs in Diversification
While diversification reduces risk, it’s important to balance this with your investment goals. Over-diversification can dilute returns, while under-diversification leaves you vulnerable to significant losses.
Example: Holding 50 different altcoins may spread your investments too thin, making it difficult to achieve meaningful returns. Instead, focus on quality over quantity by selecting a mix of high-conviction assets.
Real-World Application
Let’s say you’re building a portfolio with £10,000:
- Allocate £5,000 to high-cap assets like Bitcoin and Ethereum for stability.
- Invest £3,000 in mid-cap tokens like $ORAI and $TRAC for growth.
- Use £2,000 for higher-risk low-cap tokens like $MICHI and $RIO.
This diversified approach ensures you’re not overexposed to any single asset or sector, providing a cushion against market swings.
Conclusion
In this lesson, we explored how diversification helps balance risk and reward in crypto investments. By diversifying across market caps and sectors, you can create a resilient portfolio tailored to your goals. Oz and I discussed these strategies extensively on the Crypto Unplugged podcast, highlighting how current cycles differ from previous ones.
Summary of Module 2: The Mechanics of Markets
Module 2 provided a comprehensive foundation for understanding market dynamics and applying them effectively to crypto investing. We began with the 24/7 trading phenomenon unique to crypto, explored fixed-income opportunities in DeFi through bonds and staking, and learned how macroeconomic indicators like CPI and PCE shape the market. The time value of money introduced concepts like staking and DCA, while this final lesson tied everything together with the principle of diversification, helping you build a balanced and resilient portfolio.
The insights gained in this module are not just theoretical but practical tools for navigating the crypto ecosystem. Whether it’s managing risk with diversification or anticipating market movements through economic indicators, these strategies lay the groundwork for smarter investments.
What’s Next in Module 3: Investment Strategies Through Economic Principles
Module 3 takes a step further by focusing on investment strategies driven by economic principles. We’ll dive into topics like APY vs APR to understand yield calculations in crypto lending, evaluate opportunity costs in trading and long-term investing, and analyse the network effects that drive adoption in winning projects. Game theory will provide insights into protocol incentives, and we’ll explore how fiscal policy shapes crypto markets. Together, these lessons will equip you with the tools to refine and optimise your crypto investment strategies.
Discussion