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Funds of funds come calling in crypto

Portal AM is the latest to adapt a traditional structure to digital assets, but where are the LPs?



Deryck Graham & Mark Witten, Portal

In the world of hedge funds, the fund of funds went out of style in the wake of the 2008 market crash. In the world of crypto, they have yet to take off.

But more firms are launching crypto funds of funds, in the belief that this is the best vehicle to attract the long-awaited, ever-elusive institutional investor.

The latest is Portal Asset Management, a Cayman Islands-domiciled firm whose principals are licensed to manage money in Singapore. “Our message is about low correlations,” said Deryck Graham, CEO and founder (pictured). “That’s what institutions understand. The market wants a traditional entry into this space.”

Another recent entry is London-based Cambrial Capital, which launched a crypto FoF in May 2019. “There’s a lifecycle for this product,” said its founder and CEO, David Fauchier.

The FoF value proposition

Today the value for a fund of funds is about selection: LPs (limited partners, i.e. institutional investors) don’t know the crypto space and prefer to outsource manager selection to a specialist, even if that FoF is charging a fee on top of what underlying portfolio managers levy.

Gradually the value of FoFs will shift to access, as the top-performing crypto funds shut their doors to new investors; and eventually, as happened to hedge fund of funds, these structures consolidate and get acquired by mainstream asset managers who want to expand into new areas.

Our message is about low correlations

Deryck Graham, Portal Asset Management

That is all well and good: but is there enough institutional demand right now to support crypto FoFs? The entire digital-asset market cap is still below $250 billion. There are up to 700 crypto funds out there, but few of quality, and fewer yet with investment licenses in reputable jurisdictions.

FoF roll call

Meanwhile the number of crypto FoFs continues to grow:

  • Diginex was licensed to issue such a product in Hong Kong last year (and the firm says it launched in November).
  • Epoch Partners in Tokyo has a Cayman-domiciled digital-assets FoF that is eligible for retail investors in Japan.
  • Block Asset Management launched a Luxembourg-licensed crypto FoF in 2017 that invests in blockchain-tech investment funds.
  • Protocol Ventures in the U.S. launched a FoF in 2017, which it claims is the first. (DigFin, Googling around, couldn’t find more information about this fund after a media flurry surrounding its launch.)
  • Elwood Asset Management, a London-based investment vehicle of hedge-fund billionaire Alan Howard (of Brevan Howard fame), announced last summer it would launch a crypto venture fund with as much as $1 billion behind it.
  • Other names in the space include (or used to include) AKJ Crypto, BitBull and CryptoChain Capital.

Add it up: that’s a lot of FoFs for a space with limited quality opportunities and so far no sign as yet of traditional institutional demand. Many players in this space point to predictions of digital assets expanding over the next several years to $something-trillion. But this is still speculative.

Show me the LPs

“The challenge for both funds and funds-of-funds is that there’s no new money coming in,” said Jehan Chu, founder of Hong Kong-based Kenetic Capital, a crypto investment firm. “Last year’s performance in crypto for most funds was flat or down, and many funds are closing.”

The darkness before the dawn? Chu thinks so, noting that the Chicago Mercantile Exchange and NYSE’s Bakkt are enjoying robust demand for their bitcoin futures contracts.

“There’s more institutional products and tools available,” he said. “But we will also need to see [cryptocurrency] prices rally.”

The challenge is…there’s no new money coming in

Jehan Chu, Kenetic

Bitcoin, the benchmark cryptocurrency, has seen its value stuck around the $8,000 range since October, while the value of other major coins, such as ether, have range-traded near historical lows over the past year.

Isn’t this a bit old school?

Another challenge for crypto FoFs is that, unlike classic hedge funds, asset managers in digital assets should be able to offer direct access via tokenization.

“The point of digital assets is to allow people to invest more easily,” said Henry Chong, CEO of Labuan-domiciled Fusang Group, which provides trust, custody and exchange services in crypto. “Why should fund managers not tokenize their own vehicles and list them on a retail [crypto] exchange?”

This raises a third challenge: the outsized gains in crypto have typically been made on exchanges open to retail investors – which is to say, venues that are not regulated. “It’s retail funds that make money, not regulated ones for institutional investors,” said Lin Cheung, Hong Kong-based CEO at Point95 Global, a digital-asset manager.

The point of digital assets is to allow people to invest more easily

Henry Chong, Fusang

It’s the unregulated retail space that has given digital assets a reputation for hacks and scams. Lin’s firm has been managing client assets in its crypto fund since 2008, so he’s seen a lot – but attitudes by non-tech enthusiasts have been hard to change. “Crypto is still seen by many clients as risky,” he said.

FoFs making moves

Market players keep entering the space, however, because they sense change is in the air. Graham says the digital-asset space will grow as Facebook’s Libra, central-bank digital currencies, stablecoins, and securities tokens emerge.

At this early stage, funds of funds probably make sense for many investors. They can do the due diligence in a universe of funds full of amateurs and bring some nuance into how they select portfolio managers. By aggregating portfolios, they can also offer institutions the opportunity to write a bigger check.

It’s retail funds that make money

Lin Cheung, Point95 Global

Mark Witten, chief investment officer at Portal, says the firm serves clients by zeroing in on crypto fund managers’ track records in classic finance, judging metrics like value at risk (VaR), and measuring how they correlate among one another (so the FoF portfolio is diversified).

“What’s the chain of custody and administration?” Witten said of his process. “Where is the cash, and who controls the bank account?”

What’s the universe like?

FoFs are also developing their own ways to categorize the asset managers they follow.

For Cambrial, the universe consists of funds focused on venture (deep tech plays), trading (mostly punting), and sophisticated market-neutral plays (statistical arb, high-frequency trading, options pricing, and other strategies imported from classic hedge funds).

For Portal, on the other hand, it’s about time horizons: short-term fund managers (HFT); mid-horizon shops (arbitrage and trend followers); and long-term, fundamental plays (which don’t yet exist).

Portfolio construction is all about low correlations, which is why Portal today has four underlying funds, a number that will probably not exceed 10. Cambrial has seven funds in its market-neutral fund; it’s gearing up to launch a venture-styled fund this spring. (Investors place a high value on asset classes that don’t perform in tandem; this diversification is vital to a portfolio’s risk-adjusted return.)

The demand for FoFs is probably limited to family offices and very wealth individuals, who can take whatever bets they like. But industry players admit institutions, even hedge funds, are still a way off. Hedge funds, for example, are prepared to trade directly, so they may not want a FoF. More traditional LPs seem like a distant prospect.

But as the space grows, particularly if it’s galvanized by digital fiat, crypto execs are confident institutions will follow.

“Fund of funds may be early,” Fauchier said, “as there are hardly any LPs today who will touch it. But every day it gets a little bit better.”

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