Since the first release of Bitcoin as an open-source software in 2009, over 4,000 other altcoins (alternative cryptocurrencies) have been created. The cryptocurrency market capitalization has also increased exponentially, increasing to approximately $300 billion since late last month.
So what exactly has been the trigger for this rise in crypto popularity? Here are some of the reasons:
Eliminate chargeback fraud Bitcoin transactions are immutable, and charges cannot be reversed.
Immediate availability There’s no 3rd party dependent waiting period, access to cryptocurrencies are immediate once transactions are completed.
Lower transaction costs Cryptocurrencies charge a low flat fee and not a percentage of the transaction.
No chances of identity theft Cryptocurrency transactions allow holders to send the exact amount to the recipient without providing further information.
Everyone can access it Anyone with access to internet can access cryptocurrencies.
Universal recognition Cryptocurrency does not involve interest rates, transaction charges, exchange rates, or any other 3rd party involvement, making it a universally accepted form of payment that can be used at an international level with no problems.
Decentralization Each cryptocurrency is managed by its own network and not by any central authority. It implies that the network operates on a peer-to-peer basis instead of being overseen by a central management body.
Cryptocurrencies in Hedge Funds
Some might think that having “cryptocurrencies” and “hedge funds” in the same sentence is an oxymoron. Considering the fact that most hedge funds mitigate risks by hedging against their downside risk and cryptocurrencies being one of the most volatile instruments to ever exist, it is no wonder some might think that way. However, currently, the latest estimate of the number of crypto funds stands at 370, with $8-$10 billion in AUM. In fact, in 2017 alone, 167 crypto funds were launched. According to Eurekahedge Crypto-Currency Hedge Fund Index, however, at least nine funds have also been shuttered by April 2018 with returns down 23%.
Source: Autonomous Research LLP
Nonetheless, crypto hedge funds have been garnering exciting levels of demand – which shouldn’t come as a surprise, considering the presence of crypto hedge funds like Pantera Capital (which has an AUM of over $700 million as of Feb 2018), which boasts a lifetime return of 10,136.15% net of fees and expenses since its inception in 2013.
However, these gains have been attributed mainly to the skyrocketing price of Bitcoin which peaked at $19,666 in December 2017.
This is in contrast with many other crypto hedge funds which are turning towards other strategies to achieve their ultimate objective of achieving absolute returns while keeping risks at a minimum. Some of the strategies include automated programs identifying trading opportunities in cross-exchange, inter-exchange, cross-currency, cross-crypto-fiat FX arbitrage and crypto futures, as well as using automated quoting and hedging software to earn bid-ask spreads and liquidity rebates.
Realistically speaking however, based on our research, even though price disparities between different exchanges are present, the actual profits attainable are almost non-existent. According to SFOX, “fees and time associated with arbitrage can easily cost you at least 40 basis points”. On top of that, there has also been multiple arbitrage software created even for the typical retail investor, such as Arbitraj, Arbitao, and Arbidex. With arbitrage becoming available to even retail investors, spreads between exchanges are likely to be squeezed in a matter of time. Taking this into consideration, while we believe arbitrage can still possibly produce profits, it is unlikely for this to remain a long-term strategy for these crypto hedge funds.
Risks of Crypto Hedge Funds
Besides the typical risks that cryptocurrencies possess such as phishing, regulation, and fraud, etc., there are a few other risks that crypto hedge funds are watching out for. These include:
Risk of Exchanges Getting Hacked There is over $8 billion in 370 crypto hedge funds that amounts to an average of over $20 million in each crypto hedge fund. This makes crypto hedge funds prime targets for hackers, as evident in all these cases of crypto hacks.
Risk of Exchanges Crashing Crypto hedge funds carry huge amounts of capital. This is a problem in the crypto world as the markets are still relatively small as compared to the forex or equities market. As such, these funds are unable to trade their huge amounts of capital all at once as this could possibly crash the entire exchange all at once.
Source: GAO Proprietary Research
Even though the crypto market cap is currently only a mere fraction of the US equities’ market, it appears that even institutions are also now using similar strategies on crypto as they did on equities. With all that said and done, we believe the crypto market could be slowly evolving to mature into one that may be like that of the equities market. If that happens, who knows how the crypto hedge funds would do?
For more information about crypto hedge funds or any other information, please contact us at contact@hedgequery.com.