In 2017, as the biggest bull run in Bitcoin’s history started to unfold, many traditional investors and fund managers believed they could tame the crypto market and make abnormal gains in an asymmetric avenue. As more and more managers moved from the worlds of equities, forex, and commodities to cryptocurrency, they realized the Bitcoin market was a different animal, and they were shot down. Let’s look at why these funds failed in such a dramatic fashion.
Over 70 crypto-focused hedge funds closed in 2019. This was probably because, over the course of 2018, these funds lost most of their capital and were shut down by LP withdrawals.
Some of the largest funds, like Galaxy Digital, were able to stay afloat due to the massive capital injection they had during the bull market and the fund manager’s previous reputation. Smaller funds didn’t enjoy the same benefits and basically broke down after losing 20-40% in consecutive quarters.
When an investor puts money into a crypto fund, they are likely putting only a small amount of their portfolio into it. But for the fund itself, their entire portfolio is just a massive concentration of highly correlated, hyper-volatile assets. So when the top blows off and the market tanks by 50-70% over the course of a few months, the investors with a small allocation to crypto don’t mind the losses, but the fund itself is put in jeopardy due to an inability to sustainably and consistently generate profits.
Think about a fund that was 100% into crypto back in 2017. It probably saw unimaginable gains over that period. Now, consider the fact that most funds came in as the Bitcoin price was at $20,000 or as the great bear market of 2018 started. Pretty scary picture, isn’t it?
First and foremost, these fund managers who were superstar equity and commodities traders believed they could immediately come and conquer crypto’s market dynamics. The rude shock of the 2018 bear market took these funds down almost 50% in the span of half a year. They may have been mentally prepared for the volatility, but they did not expect the statistic to be so different from traditional markets. Volume profiles, technical indicators, and orderbook mechanics absolutely threw these funds off their game.
These shortcomings were mostly due to ignorance, but there were blatantly idiotic mistakes also. In 2018, market cap based allocations were the most common occurrence for crypto funds. Basically, these funds threw investor money into allocations that looked like 60 percent BTC, 15 percent ETH, and the remaining 25 percent spread across altcoins like NEO, Monero, ZCash, IOTA, etc.
Long story short: they crashed and burn. Hopefully, we see more funds recognizing that crypto is a very small market at the moment. Long-term positions over years and years need to be accumulated during corrections, which funds in 2017 and 2018 did not do. Short-term positional hedge funds are the need of the hour. A trader that can take advantage of short term swings in crypto will be far more profitable than any long term trader – at least as things stand right now.