TLDR
New Signal Unveiled: Merging Warren Buffet's long-term investment philosophy with Satoshi's groundbreaking Bitcoin vision, we introduce a long-term, long-only signal combining Bitcoin (BTC) and S&P 500 (SPY) allocations.
Optimal Mix Found: Our analysis pinpoints the 25% BTC and 75% SPY mix as the sweet spot for risk-adjusted returns, balancing accelerated growth with manageable drawdown and volatility.
Bitcoin Economic Thesis
Long-term Growth: Echoing the resilience of SPY, Bitcoin is anticipated to ascend over time, bolstered by its intrinsic value and role in the financial ecosystem as a store of value and a hedge against monetary instability. See What Bitcoin Did podcast interviewing John Arnold
Stability and Belief: Despite its shorter history compared to SPY, Bitcoin's fundamental worth ensures it remains a viable long-term investment contender, due to its decentralization and fixed token supply.
Reviewing the Algorithm and Results
InAndOut-SPY Basics: Initially focusing on SPY, the algorithm toggles between full SPY and cash (SHV) based on our economic signal that is explained and analyzed in our previous articles.
InAndOut-BTC Expansion: Extending this model to include Bitcoin, we explore varying SPY and BTC allocations to gauge performance impacts. The same InAndOut (RiskOn-RiskOff) signal used for the InAndOut-SPY strategy is used for this extended strategy.
We are going to use the InAndOut-SPY signal for switching regimes as there has been historical indications that Bitcoin price action is somewhat correlated with the overall market (e.g. SPY), and we will vary the mixture of BTC and SPY in our backtester.
Experiment Outline and Results
There are five backtests completed, with varying mixtures of BTC and SPY for the ‘IN’ portfolio. The results are summarized in the following chart:
The charts above provide a visual analysis of the different strategies:
Return vs. Volatility: The scatter plot shows the trade-off between annual return and volatility. The 25btc-75spy strategy offers a balanced approach with a good return and moderate volatility.
Sharpe Ratio: The bar chart shows that the 25btc-75spy strategy has the highest Sharpe ratio, indicating the best risk-adjusted return.
Sortino Ratio: Similar to the Sharpe ratio, the 25btc-75spy strategy also leads in the Sortino ratio, indicating it has the best return per unit of downside risk.
Max Drawdown: The 25btc-75spy strategy has a significantly lower max drawdown compared to strategies with higher BTC allocations, suggesting less risk of large losses.
Composite score for each strategy
To calculate a composite score for each strategy, we can use a weighted approach for the key metrics. We will consider the importance of each metric towards long-term investment goals and assign weights accordingly. Typically, higher Sharpe and Sortino ratios are more desirable as they indicate better risk-adjusted returns, while lower volatility and drawdown are preferable as they indicate lower risk.
Here's how we weigh each metric:
Annual Return %: Positive, high importance (weight: 30%)
Max Drawdown %: Negative, high importance (weight: 30%)
Sharpe Ratio: Positive, high importance (weight: 13.3%)
Sortino Ratio: Positive, high importance (weight: 13.3%)
Annual Volatility %: Negative, moderate importance (weight: 13.3%)
These weights are somewhat arbitrary and should ideally be based on the investor's risk tolerance and investment horizon. For simplicity, we are assigning them based on a general approach to long-term investment.
After normalizing the factors to be in the [0, 1] range, With the factors weighted above, the strategies are ranked as follows:
25btc-75spy: 0.321
50btc-50spy: 0.318
0btc-100spy: 0.316
75btc-25spy: 0.292
100btc-0spy: 0.269
In this scenario, the 25btc-75spy strategy emerges as the top-ranked strategy, indicating it has the best balance between high returns and low drawdowns when these factors are given extra weight in the analysis. This suggests that for investors who prioritize returns and are particularly concerned with drawdown, the 25btc-75spy strategy might be the most suitable choice.
Key Findings:
The 25%-BTC/75%-SPY strategy emerges as the most balanced, offering a compelling risk-reward ratio.
This blend not only enhances returns but also mitigates the inherent volatility and drawdown risks of a 100% Bitcoin approach.
Execution Instructions
Signals and Actions: Our InvestItNow Telegram Channel provides timely signals to shift between market engagement ("IN") and cash preservation ("OUT").
Portfolio Composition: While "IN", the portfolio adopts a 25%-BTC/75%-SPY stance. During "OUT" phases, it shifts to 100%-SHV.
Strategy Distinction: This approach is distinct from a static HODL strategy, allowing for dynamic adjustments based on market signals.
Future Outlook
Expanding Horizons: We aim to introduce additional crypto-focused, long-term portfolios, leveraging insights from both traditional finance and crypto sectors.
Reader Ideas: Send them to us. For example, one of our readers suggested a Dollar Cost Averaging(DCA) strategy that uses portfolio optimization technology to variably choose the date and amount of the next portfolio purchase. We’ll report on that…including a crypto version.
In Closing
The integration of Bitcoin into our In and Out strategy underscores a bold economic thesis, marrying traditional market stability with crypto's dynamic growth potential. The 25%-BTC/75%-SPY mix stands out for its balanced approach, offering a solid foundation for long-term investment endeavors.
InvestItNow - Alan & Jeff
Appendix:
Here is the table of backtest performances that the conclusions above are based on:
Here is the roll-up Cumulative Returns chart for these backtest elements.
The chart graphically shows that the 25%-BTC/75%-SPY mixture (Bold DarkBlue trace), compared to the standard In and Out strategy (0%-BTC/100%-SPY) mixture (Bold LightBlue trace), overall, has positive gains. That, along with the reduced volatility and drawdown make it a good portfolio mixture choice.
Remember, investing involves risk, and past performance is not indicative of future results. Please consult with a financial advisor before making any investment decisions. None of the information we present to you is personal investment advice.