Crypto prices have staged a surprising rebound to highs not reached in at least nine months, giving life back to the 150 crypto hedge funds that survived Bitcoin’s painful near-75% crash since the peak of the crypto-frenzy in December 2017. These crypto hedge funds self-reported an average decline of 46% in 2018, with many of them nearly going out of business.
Now, some market experts are warning that the vast majority of these funds are highly risky, and have poor liquidity. Most crypto hedge funds hold assets of less than $10 million, which raises questions about the long-term sustainability of their business model, as outlined by the Financial Times.
Why Crypto Hedge Funds Are Risky
- Regulatory pressure heats up on wave of allegations involving crypto fraud and market manipulation.
- Less than 10 crypto hedge funds manage more than $50 million in assets.
- Valuing a crypto hedge fund is “challenging,” specifically those that hold illiquid tokens or invested in early stage projects.
- Three-fourths of crypto hedge funds do not have independent directors on their boards, raising concerns about corporate governance standards and potential conflicts of interest.
Source: The Financial Times
Headwinds Facing Digital Asset Market
According to a report co-authored by PwC and Elwood, a digital asset manager owned by Alan Howard, the billionaire co-founder of the Brevan Howard hedge fund, Bitcoin’s plunge in 2018 inflicted heavy losses on most crypto hedge fund managers. Many of the funds that did survive are still fighting to stay afloat, per the FT.
Meanwhile, regulators have attempted to put the crypto space in a negative light, making extensive allegations of market manipulation and fraud. Earlier this month, it was revealed that the New York attorney general was investigating a major crypto operator accused of covering up nearly $1 billion in losses. Last year, Benoît Cœuré, a lead central banker for the eurozone, called bitcoin “the evil spawn of the Financial Crisis.”
Performance Data, Management Concerns
Less than 10 crypto hedge funds manage more than $50 million in assets. The two largest players are Silicon Valley based Pantera Capital and Polychain Capital, the latter of which is backed by well-respected VCs, Andreessen Horowitz and Sequoia Capital. The median crypto hedge fund posted a painful 46% loss last year, while quantitative crypto hedge funds, which can take short positions, posted a modest return of 8%.
“All performance data were self-reported by each crypto hedge fund and this information has not been verified by their respective fund administrators,” warns Henri Arslanian, en expert at PwC on fintech and cryptocurrencies. He adds that accurately valuing a crypto hedge fund is “challenging,” specifically those that hold illiquid tokens or invested in early stage projects.
Worse, about 75% of crypto hedge funds do not have independent directors on their boards, raising a great deal of concern in regards to corporate governance standards and potential conflicts of interest.
“Having the portfolio managers also control the board may work for ‘friends and family’-type funds but it is unlikely that an institutional investor will commit capital to a crypto fund which does not have proper governance,” said Arslanian.
This all comes as the price of Bitcoin has skyrocketed more than 100% this year, leading the average assets under management of global crypto hedge funds to rise more than three-fold in the first quarter, per CoinDesk.
It’s important to note that another price collapse could put many of these 150 funds out of business. That being said, the crypto hedge fund market is seen as just one part of a growing ecosystem for digital currencies as they push into the mainstream and gain attention from major corporations and institutional investors.
“Broader interest from investors and regulators is undoubtedly a positive step towards digital assets being recognized as an asset class with true viability,” said Bin Ren, CEO of Elwood.