The second edition of the Coinbase Allocators Guide to Digital Asset Hedge Funds focuses on the basics of gaining exposure to the rapidly growing crypto economy, performance drivers and diversification benefits, and the alpha potential of active hedge fund strategies. The Guide is meant to serve institutional allocators and professional investors, but it can also be useful for all investors looking to understand how to manage risk and attempt to capture excess returns. The source of all data is from Preqin Pro, unless otherwise noted.
Other resources: Watch our webinar, “Allocator’s Guide to Digital Asset Hedge Funds” to hear more from Coinbase Institutional, Preqin, and Bitwise Asset Management.
Section I. Crypto Hedge Fund Landscape
There are two primary ways to gain direct, active exposure to the crypto/web3 asset class: 1) venture funds that hold mainly private equity and some liquid tokens and 2) actively managed hedge funds that invest in liquid tokens. This article is focused on active exposure broadly across the asset class, accessed through a hedge fund structure.
Crypto generally represents early-stage technology, so the category is relatively small, but growing rapidly.
Crypto as an asset class is worth ~$2.5T today, or about 2% of the ~$150T global liquid assets (Source: CoinMarketCap and CAIA.org, as of July 2024).
Exposure to crypto/web3 is a commitment to a mega-trend: the modernization of our global financial infrastructure. Crypto is a revolutionary computing platform with new technology rails that will enable a global interconnected layer of users, data, and assets. Entirely new markets, as well as updates of existing ones, are emerging onchain, where prices and value are represented as tokens. Tokens are composable smart financial instruments that transform price discovery with 24/7/365 trading, real-time execution, instant settlement, minimized counterparty risks, and universal automation via smart contracts. This financial infrastructure upgrade is intertwined with a broader global infrastructure transformation that encompasses decentralization and robotics/artificial intelligence. Crypto hedge funds offer investors the ability to capture actively managed alpha strategies, typically benchmarked against bitcoin or a passive market weighted index of the top 10 tokens.
As of 1Q24 aggregate dedicated crypto hedge fund AUM, shown as “Niche & Cryptocurrency” in the chart below, is estimated to be <$50 billion, or less than 2% of traditional hedge fund AUM.
The growth of dedicated crypto hedge funds has risen sixfold since 2018. While multiple data sets track approximately 1,000 dedicated funds, we estimate that less than 1/3rd of crypto-dedicated funds are ready for institutional allocator capital.
More than 80% of crypto funds have less than $50 million in AUM, and only 5% have AUM north of $500M.
For allocators looking for emerging managers, this is a fertile area for opportunity.
Many of these emerging managers have now established three-year track records, beefed up their risk- management process, and built battle-tested teams with experience over multiple crypto market cycles.
The strategies offered are familiar to allocators, including discretionary long only / long-bias, multi-strategy, hedged market neutral, and quantitative / systematic.
More than 70% of crypto hedge funds tracked by Preqin are domiciled in the US and have a standard 2%/20% fee model, and many have onshore/offshore master feeders.
The space is institutionalizing quickly, with leading hedge funds like Brevan Howard, Man Group, Millennium Management, and other top investors adding exposure and resources to launch new dedicated crypto strategies or expand existing ones. It’s also worth noting that many seasoned hedge fund veterans are leaving traditional funds to start or join crypto-focused funds. They see this as an opportunity similar to the emergence of hedge funds in the 1990s at the cusp of electronic and high-frequency trading.
Traditional hedge funds are also leaning more heavily into crypto following the SEC approval of US listed bitcoin ETFs. Traditional hedge funds are taking note of the benefits of crypto, which allows them to trade volatility and seek high potential returns with a diversifying asset class.
Today, more than 400 traditional hedge funds have added crypto exposure as an alpha-generating opportunity.
The 1Q24 US spot bitcoin ETF 13F filings listed marquee hedge fund platforms like Point72, Farallon Capital Management, Millennium Management, Boothbay, Renaissance Technologies, and DE Shaw as holders of bitcoin ETFs. These platforms serve predominantly the largest institutional investors, such as pensions and endowments, to offer one thing: returns. Notably, one of the largest US pensions, The State of Wisconsin Investment Board, was also revealed as a direct holder of BTC ETFs. Clearly, these institutional investors view crypto exposure as a tool for driving excess returns. According to data from Bloomberg & Coinshares, crypto focused passive bitcoin ETF products have received more than $17 billion in net inflows.
