The world is not getting younger any longer. Even in China, measures have been recently introduced to get procreation going. This is a huge reversal from their one child policy some decades ago, which is now causing a rapidly ageing population – the same issue faced in other parts of the developed world.
In particular, pension funds have to deal with a lot of issues going forward. The demographic changes of rising life expectancy coupled with the already dismal birth rates is likely to create an unwanted ripple effect in social order and systems. With that, pull in ultra-low interest rates around the world (thanks to the Fed), pension funds are finding it an increasing challenge to maintain the coverage ratio required to continue operating. The low asset to liability ratio is not structurally problematic and can create collapses if a black swan situation comes in.
It is against this backdrop that researchers like Soland and Schuffel (2021) have raised the issue of using cryptocurrencies to diversify the returns for pension funds. Will it make sense to do so or will the pension fund suffer huge losses?
It is tempting to put an outright ‘NO’, given the volatility and price fluctuation of the crypto tokens. However, for those who have entered it during the bull run phases, the reply may differ to an “it depends”, especially since returns have been outsized in nature and perceived as “well worth the risks”.
The research team analysed data from a number of pension fund portfolio simulations and found merits in adding cryptocurrencies into the portfolio. Before you raise your eyebrows as to their methodology, do note that cryptocurrencies have a much shorter time frame of existence. Bitcoin came in only in 2009 and was only looked very closely in the last 5 years. Moreover, given the typical investment caveat that past performance is not indicative of future outcomes or performance, it is always a caveat emptor, as with other forms of investments.
In any case, the team simulated across from a 4.5 year period from 2015 to 2020 and with the crypto alphas, the performance doubled or tripled over the base investment. Of course, volatility would mean that an elderly person seeking advice across this period of time on an annual basis might get cardiac arrests from time to time! Assuming he lives through this period, he will be two to three times richer than his counterpart who is not in that pension fund that has exposure to crypto.
The team found further useful insights in that when it comes to crypto, it behooves the manager being an active rather than a passive one. With equities, it is the opposite as over the long term, passive investing beats the active in most cases. It is time in the market rather than timing the market. However, with crypto, active management yields more profitable results on a highly substantial basis.
As a fund manager, would you consider diversifying into cryptocurrencies? Food for thought!
