Abstract : The distribution of crypto hedge fund AuM mirrors that of traditional hedge funds in that a small proportion of funds manage a large proportion of the total AuM (Figure 1).
Overview Of the Crypto Fund Space in the U.S.
The cryptocurrency based investment industry in the U.S. reflects a vibrant and growing market. Currently, there are an estimated 150 active crypto hedge funds collectively managing USD $1 billion Assets Under Management (AuM). From a global perspective, the majority (64%) of crypto hedge funds are located in the U.S. These funds are growing quickly – the median AuM of funds as of Q1 2019 ($4.3m) has tripled since January 2018 ($1.2m), showing that crypto funds have been successful at fundraising despite the difficult market conditions of the past year.
The distribution of crypto hedge fund AuM mirrors that of traditional hedge funds in that a small proportion of funds manage a large proportion of the total AuM (Figure 1). An increasing number of experienced “traditional” investment managers are moving into the crypto space, giving both investors and regulators greater comfort in the investment products, as these professionals bring experience in financial regulations and the importance of investor protection. Overall, the current state of crypto hedge funds in the U.S. illustrates a robust space with sustained growth and increasing legitimacy from both institutional and regulatory perspectives.
-PwC 2019 Crypto Hedge Fund Report
Most crypto funds benchmark to Bitcoin, although some more diversified funds use the CCI30. This index tracks the 30 largest cryptocurrencies by market capitalization using an exponentially weighted moving average of the market capitalization to avoid destabilizing the index composition. A vast majority of crypto hedge funds rely only on their own research, with only 7% of crypto hedge funds using third party research. As per PwC, “Given how nascent the asset class is, very few dedicated crypto research providers currently exist.” This highlights an opportunity for crypto research companies to gain dominance as third party research providers for hedge funds.
The specific strategies that the hedge funds employ fall into 3 main categories: 44% are discretionary, 37% quantitative, and 19% fundamental. These are important distinctions as quant funds performed significantly better than all other funds in 2018 (Figure 2). The median quant fund return for 2018 was 8%, compared to the steeply negative returns for the other two types of funds. This can likely be attributed to the fact that fundamental and discretionary funds barely took any short positions, giving quant funds a large advantage in a year like 2018, where Bitcoin returned a substantial loss of -72%.
-PwC 2019 Crypto Hedge Fund Report
A few funds stand out from the others in delivering impressive performance. Polychain Capital is a hedge fund based out of San Francisco founded by Olaf Carlson-Wee, the first employee at Coinbase. The fund invests in exclusively digital currencies and was the first crypto hedge fund to surpass $1 billion in AuM. Pantera Capital is also based out of San Francisco and was founded back in 2003. Their Pantera Bitcoin Fund was launched in 2013 and has since generated an outstanding lifetime return of over 10,000% with AuM of $810 million.
Finally, Galaxy Digital Assets is a fund based out of New York with $500 million AuM focused on the mission of bridging the gap between the crypto and institutional worlds. In line with this mission, they have partnered with Bloomberg to launch the Bloomberg Galaxy Crypto Index to track the largest and most liquid portion of the digital asset class. Collectively, these companies provide real world examples of the opportunities and investor interest flourishing in the crypto space.
Impending Regulatory Changes
A crucial impending decision for the future of crypto investing is the regulatory approval of a cryptocurrency ETF. In the U.S., two companies are deep in the process with the Securities and Exchange Commission to launch the first-ever crypto ETF. The first is the Bitwise Bitcoin ETF, which bases its strategy on the assertion that the crypto market is full of exchanges that exaggerate volume, thus distorting the true order and efficiency of the market.
Through their tests and research, Bitwise selected 10 exchanges it believes to contain “actual volume” for its ETF. These 10 exchanges trade in a very uniform way and have demonstrated a highly diminished level of arbitrage (Figure 3). The impending deadline for SEC approval is August 14 th , but this may be delayed one more time to a final deadline of October 13 th . The Vaneck Solidx Bitcoin ETF faces a similar structure with a deadline of August 19 th that can be delayed until October 18 th . An important caveat to these deadlines is that the SEC can always ask the sponsors to withdraw and refile, pushing dates back even further until the agency is comfortable with the proposals.
According to SEC Chairman Jay Clayton, approval will hinge on proof of “better market surveillance and safe custody of crypto assets.” Although the SEC has consistently rejected Bitcoin ETF proposals for the last few years, it seems to be only a matter of time – even according to SEC Commissioner Robert Jackson: “Eventually, do I think someone will satisfy the standards that we’ve laid out there? I hope so, yes, and I think so.” If Commissioner Jackson proves to be right and a crypto ETF is approved in the near future, the crypto markets will be newly exposed to several important types of investors including mutual funds and pension funds, leading to huge influxes of cash into cryptocurrencies. A parallel example can be seen when gold was opened up to ETF’s in 2011 and the price of gold experienced a tremendous rally.
-Bitwise Asset Mgmt Presentation to SEC
The current state of crypto funds in the United States demonstrates a large and growing interest, shown by the significant AuM growth of the hedge funds. As more traditional players continue to join the crypto space, the investment opportunities become increasingly accessible to a far wider market. This trend is on track to give way to the first crypto ETF, which will open crypto investing to a large pool of casual investors and accelerate the recognition of digital assets as an asset class with true viability.
Writer : Andrew Fedun & Daling Research
- PwC 2019 Crypto Hedge Fund Report
- Financial Times “Crypto Hedge Funds Live to Fight Another Day”
- Bitwise Asset Management Presentation to the U.S. Securities and Exchange Commission
- FX Street “Bitcoin ETF approval is inevitable, SEC commissioner reckons”
- CoinTelegraph “SEC Chairman: Other Market Protections Needed Before Bitcoin ETF Approval”
- Bitcoin.com “SEC Commissioner Says Time is Right for Bitcoin ETFs – 3 Funds Pending”
- Bitcoin Market Journal “Best Performing Cryptocurrency Funds for 2019”
- Galaxy Digital
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