So you are ready to buy Bitcoin. Which method should you choose?

Bitcoin (BTC 0.56%) has lost 75% of its value in the past year. The crypto market may have run too high, too fast in the fall of 2021, setting up pretty much every digital coin for a sharp correction. Rampant inflation and the painful government measures designed to combat this problem have also weighed on high-risk investments this year, and Bitcoin falls into that category. And if these high-level market concerns weren’t bad enough, crypto investors recently lost some of their faith in this sector after a leading crypto trading exchange collapsed.

There may still be another shoe left to drop, causing token prices to drop even lower. This ongoing decline is neither the deepest nor the longest crypto winter on record, as the plunge following the fall 2017 crypto gold rush saw prices fall more than 80% below all-time highs and the next rally started 14 months later. Still, this 12-month slump is a force to be reckoned with.

So Bitcoin prices are down a lot and there are no guarantees that the negative trend has ended. Investors who doubt the long-term value of Bitcoin (or any cryptocurrency at all) may see this sharp drop as the beginning of the end. From that point of view, Bitcoin may never return to the previous all-time high of $68,790 again, and there is no reason to invest any cold, hard dollars in this expired fad.

However, I cannot fully agree with the Bitcoin bears. In my eyes, blockchain is capable of reshaping how business, money transfers and value storage are done. Bitcoin has a special place in this revolution thanks to its unprecedented market reach and an anti-inflation lifetime limit on the number of Bitcoin tokens in the market. From this angle, the long and deep price drop is starting to look like an open invitation to pick up some digital coins at an amazing price.

Let’s say you’re ready to add some Bitcoin to your portfolio – but maybe you don’t actually want to own that cryptocurrency outright. You actually have a couple of options available, and each option has a unique set of pros and cons.

Shares in companies with Bitcoin holdings

Some publicly traded companies have significant amounts of Bitcoin on their balance sheets. In some cases, this choice makes a lot of sense.

Bitcoin miners Digital Marathon (MARA -1.56%) and Riot Blockchain (RIOT 0.75%), for example, currently own approximately 11,300 and 6,800 Bitcoins respectively. Marathon mined 615 Bitcoins in October, and Riot generated 509 coins in the same period. This is what these companies do for a living, so of course they own a lot of Bitcoin.

But you should be careful with Bitcoin miners. Ideally, they get to generate new Bitcoins whose value exceeds the cost of doing all that math. Bitcoin prices rise in the long run, and so does the miner’s stock of homegrown cryptocurrency tokens. The growth potential of this two-tiered business idea is enormous.

However, that doesn’t always happen. When electricity prices are high and Bitcoin prices go low, pure crypto mining companies may find it difficult to keep the lights on. Selling some of those hard-earned Bitcoins just to pay the bills is a last resort, especially when the cryptocurrency is cheap. In addition, the miners have to deal with various problems in the real world that have nothing to do with the crypto market. In the second quarter of 2022, for example, Marathon faced bad weather in Montana and a production delay based on a dispute over tax credits for wind power in Texas. These headaches can add up to serious financial problems, so crypto miners add a meaningful layer of additional risk to the already unpredictable crypto market. This is why these stocks are far more volatile than Bitcoin itself:

Bitcoin price data from YCharts

Other Bitcoin holders are less obvious. Financial technology giant Block (SQ -3.13%) doesn’t break Bitcoin, but CEO Jack Dorsey sees great value in the largest crypto token and Block has invested $220 million in Bitcoin so far. That’s a drop in the bucket next to Block’s $4.3 billion in cash equivalents and $1.1 billion in short-term debt securities, but this collection of roughly 8,000 Bitcoins is still respectable. Investing in Block gives you some exposure to Bitcoin and cryptocurrencies, backed by a larger financial institution. It’s one of the safest ways to dip your toes into the digital currency waters.

At the other end of the spectrum you will find business intelligence experts Micro strategy (MSTR -3.06%). Under former CEO and current CEO Michael Saylor, this company has amassed 130,000 Bitcoins. MicroStrategy invested most of its cash reserves in the cryptocurrency and continued to fund more of it through its software operations’ free cash flow. MicroStrategy is also willing to take out loans and sell more shares to buy more Bitcoin. In a recent twist, the company secured a $205 million loan from Silvergate capital (SAY -10.34%), where the security for the loan consists of MicroStrategy’s Bitcoin holdings. Of course, the Silvergate loan was immediately invested in more Bitcoin.

MicroStrategy’s Bitcoin is worth approximately $2.14 billion at today’s prices. That’s 35% more than the stock’s market cap of $1.58 billion. The software business provides a safety net in case the Bitcoin investment doesn’t work out, but in many ways MicroStrategy looks like a Bitcoin miner without the mining business. This stock is a high-risk, high-return entry into the crypto market, with a risk profile closer to Marathons and Riots than Blocks.

Funds and trusts

Many financial firms want to introduce exchange-traded funds (ETFs) that mirror the price of Bitcoin, but trade just like ordinary stocks. However, the Securities and Exchange Commission (SEC) continues to reject these proposals, arguing that they do not provide enough protection against fraud and money laundering issues. If and when the steady stream of rejections ends, an ETF based on Bitcoin could become a solid combination of known trading rules and a direct link to Bitcoin’s price.

But we’re not there yet. Meanwhile, investment management experts have come up with a few close but not quite alternatives.

• Grayscale Bitcoin Trust (GBTC -2.06%) is almost an ETF. The trust has 633,600 Bitcoins worth $10.5 billion at today’s prices. The Grayscale fund trades at a 40% discount to that Bitcoin value, mostly because the fund structure lacks many investor-friendly features. Investors expect the discount to disappear once Grayscale is allowed to convert this security into a proper ETF.
• ETFs like ProShares Bitcoin Strategy ETF (BITO -2.63%) provide the desired ETF structure, but the fund’s market cap is not backed by a Bitcoin stash. Instead, fund managers attempt to mirror the actual Bitcoin price by trading US Treasury bills and Bitcoin futures contracts. This idea works, but the price match is rarely perfect and the intense management effort adds overhead costs that reduce investor returns.

Both Grayscale Trust and futures-based ETFs like the ProShares fund above tend to underperform Bitcoin over the long run. Until investors can get their hands on full-featured Bitcoin ETFs that wrap the currency’s performance in regulated safeguards, it’s probably better to just own Bitcoin outright. The exception to that rule of thumb is that the Grayscale trust comes with a built-in upside that should be triggered whenever the SEC starts creating Bitcoin-based ETF securities. The huge discount indicates that many investors do not expect that to happen.

Bitcoin price data from YCharts