By Matthew Aydemir
The current rise of cryptocurrencies as an asset class has been nothing wanting spectacular. Unbelievable returns have naturally led to a surge in demand from buyers trying to achieve entry to cryptocurrencies.
A cryptocurrency, briefly, is a digital forex that’s typically not managed by any central authority. Of those varied cryptocurrencies, Bitcoin (BTC-USD) has been the dominant token with a market cap of roughly $900 billion, at present accounting for roughly 40% of the worldwide cryptocurrency market cap.
CME Group started providing Bitcoin futures in late 2017 to capitalize on the rising demand for publicity. Practically 4 years later, we have now seen Bitcoin futures make their way into ETFs and have added them to our personal WisdomTree Enhanced Commodity Strategy Fund (GCC).
As a part of our aim to repeatedly innovate and improve our managed futures product, we allotted a 1.5% publicity to Bitcoin futures within the WisdomTree Managed Futures Technique Fund (WTMF) in early January 2022. WTMF won’t spend money on Bitcoin immediately.
WTMF is a scientific trend-following technique offering publicity to equities, commodities, currencies, and rates of interest by way of positions in futures contracts in looking for to realize constructive complete returns in rising or falling markets that aren’t immediately correlated to broad market fairness or fastened earnings returns. We consider that the addition of Bitcoin futures not solely additional distinguishes WTMF from different managed futures ETFs however supplies buyers with Bitcoin publicity in a risk-conscious method.
In the end, we consider that what makes Bitcoin enticing to buyers is the potential for important absolute returns.
Nevertheless, there are different options of Bitcoin that make it a lovely addition to our managed futures product. Particularly, Bitcoin has traditionally been a wonderful diversifier from different conventional asset lessons.
Within the under chart, we present the correlation of the Bitcoin spot price with different asset lessons. We look at the correlation of the Bitcoin spot price to different asset lessons again to December 31, 2017, roughly the time when CME Bitcoin futures began buying and selling.
Though spot returns can differ considerably from futures returns, we anticipate that the spot price will present an inexpensive proxy for a front-month contract in Bitcoin when inspecting correlation.
We will see that over this era, Bitcoin was weakly correlated with different asset lessons.
We consider the low historic correlation between Bitcoin futures and different asset lessons bodes nicely for enhancing the risk-adjusted return profile of a multi-asset fund like WTMF. We made significant modifications to WTMF in June 2021 with the aim of enhancing risk-adjusted return, and it could be worthwhile to look at the correlation between Bitcoin and the restructured Fund. We certainly see that the Bitcoin spot price is weakly correlated with the Fund for the reason that restructure on June 4, 2021.
Bitcoin futures publicity in WTMF is achieved by way of futures contracts traded on the Chicago Mercantile Change (CME). CME Bitcoin futures at the moment are extremely liquid, with a 60-day common every day quantity (ADV) of roughly 7,700 as of November 30, 2021. Assuming a Fund AUM of roughly $155 million, buying and selling right into a 3% allocation would solely be 0.23% of the 60-day ADV.
It is very important have a well-defined goal when designing a method. The unbelievable rise of Bitcoin costs lately is definitely trigger for pleasure. Warning should be taken, nonetheless, as Bitcoin has been extraordinarily risky traditionally. Our goal is straightforward: present buyers with Bitcoin publicity by way of a scientific technique designed to decrease volatility in comparison with a long-only technique whereas capturing a few of the upside potential that Bitcoin supplies.
As a consequence of Bitcoin’s excessive historic volatility, for now, we allocate a nominal publicity of solely 3% to Bitcoin publicity. The aim right here is to have the Bitcoin part contribute meaningfully however not dominate the Fund’s volatility profile.
Since WTMF is a scientific trend-following Fund, the Bitcoin technique must also be capable of dynamically regulate exposures relying on how robust the worth development is. To higher shield in opposition to extended drawdowns, we make use of a momentum sign that reacts extra rapidly to current data. The quantity of the nominal 3% we make investments will depend on how robust the development sign is.
Lastly, since Bitcoin has proven a bent to development upward over the long run, for now, we prohibit the mannequin from taking brief positions. As a substitute, we merely allocate to money. This probably reduces the volatility of the mannequin. The lengthy/flat mannequin for the Bitcoin part is illustrated within the determine under.
For a present record of holdings, click on here.
For the January rebalance, the fund will take a 1.5% lengthy place in Bitcoin futures (represented beneath the Cryptocurrencies sector within the above chart). Notably, the fund stays internet lengthy in a lot of the commodity sectors, equities, and the US Greenback Index. The fund can also be brief charges contracts.
As a part of our aim to repeatedly enhance our managed futures product, WTMF is now the primary systematic trend-following ETF to offer buyers with entry to Bitcoin futures publicity. The Fund is at present lengthy 1.5% Bitcoin futures following the January rebalance. We consider that including Bitcoin futures publicity has the potential to reinforce the risk-adjusted return of the Fund in addition to additional diversify the Fund parts. Our goal is to offer buyers with this publicity in a risk-controlled method by way of a scientific lengthy/flat trend-following technique that reacts rapidly to altering market situations.
Essential Dangers Associated to this Article
There are dangers related to investing together with potential lack of principal. An funding on this Fund is speculative, entails a considerable diploma of danger, and mustn’t represent an investor’s total portfolio. One of many dangers related to the Fund is the complexity of the various factors which contribute to the Fund’s efficiency, in addition to its correlation (or non-correlation) to different asset lessons. These elements embody use of lengthy and brief positions in commodity futures contracts, forex ahead contracts, swaps, and different derivatives. Derivatives might be risky and could also be much less liquid than different securities and extra delicate to the results of assorted financial situations.
As well as, bitcoin and bitcoin futures are a comparatively new asset class. They’re topic to distinctive and substantial dangers, and traditionally, have been topic to important value volatility. Whereas the bitcoin futures market has grown considerably since bitcoin futures commenced buying and selling, there might be no assurance that this development will proceed. The value of bitcoin may drop precipitously (together with to zero), which might be anticipated to have an analogous influence on the bitcoin futures value. The Fund shouldn’t be used as a proxy for taking lengthy solely (or brief solely) positions in commodities or currencies. The Fund may lose important worth during times when lengthy solely indexes rise (or brief solely) indexes decline.
The Fund’s funding goal is predicated on historic value developments. There might be no assurance that such developments shall be mirrored in future market actions. The Fund typically doesn’t make intra-month changes and subsequently is topic to substantial losses if the market strikes in opposition to the Fund’s established positions on an intra-month foundation. In markets with out sustained value developments or markets that rapidly reverse or “whipsaw” the Fund might undergo important losses. The Fund is actively managed thus the power of the Fund to realize its aims will rely upon the effectiveness of the portfolio supervisor. As a result of funding technique of this Fund, it might make larger capital achieve distributions than different ETFs. Please learn the Fund’s prospectus for particular particulars relating to the Fund’s danger profile.
Matthew Aydemir, Analysis Analyst
Matt Aydemir started his profession at WisdomTree as a Analysis Analyst in January 2020. He’s liable for quantitative analysis on WisdomTree’s merchandise, in addition to the upkeep and reconstitution of WisdomTree’s indexes. Previous to becoming a member of WisdomTree full-time, Matt labored within the analysis crew as an intern, the place he developed instruments for portfolio analytics. Matt acquired his Grasp’s in Monetary Engineering diploma from Columbia College in 2020, and his Bachelor’s in Chemical Engineering diploma from the College of Waterloo in 2016.
Editor’s Notice: The abstract bullets for this text had been chosen by Looking for Alpha editors.