How crypto hedge funds generate excess returns: Actively manage risks and invest in BTC
Original author: Crypto, Distilled
Source from Odaily: https://www.odaily.news/post/5197632
Report Overview
The report reveals the main strategies used by active crypto hedge funds.
It provides valuable insights for any investor looking to:
● Better manage risk
● Capturing excess returns
● Deepen your understanding of encryption
● Provided valuable insights.
Passive or active strategy?
Regardless of your experience level, always compare your performance to $BTC.
If you can’t outperform $BTC for a year or more, consider a passive strategy.
For most investors, DCAing $BTC on a regular basis is usually the best option during a bear market.
![How crypto hedge funds generate excess returns: Actively manage risks and invest in BTC](https://sgsnsimg.moomoo.com/sns_client_feed/101752900/20240816/725440f052a14e1684d75675faf726c2.png/big?area=101&is_public=true)
Bitcoin – Benchmark
$BTC is the preferred benchmark for crypto market beta.
Since 2013, $BTC has had an annualized return of 124%.
It has been the best performing asset class in 8 of the past 11 years.
![How crypto hedge funds generate excess returns: Actively manage risks and invest in BTC](https://sgsnsimg.moomoo.com/sns_client_feed/101752900/20240816/3b249df92bc74533ae19e1856c74fc5e.png/big?area=101&is_public=true)
Are Hedge Funds Over $BTC?
In the crypto space, active management can go beyond passive spot $BTC exposure.
The key is risk management and hedging.
On average, actively managed crypto hedge funds outperformed passive spot $BTC positions in 2017, 2018, 2021, and 2022.
Custom Hedge Fund Indices
Coinbase created a custom index using data from more than 50 hedge funds that trade on Coinbase Prime.
The median fund outperformed $BTC amid lower volatility.
However, the dataset has a limited number of funds and may suffer from survivorship bias.
![How crypto hedge funds generate excess returns: Actively manage risks and invest in BTC](https://sgsnsimg.moomoo.com/sns_client_feed/101752900/20240816/5bb2436016ad4e4c9897e06e1adf6227.png/big?area=101&is_public=true)
Best Active Management Strategy
Quantitative active and multi-strategy funds offer the best long-term performance potential.
They use advanced data models and diverse methodologies.
Single long fundamental strategies typically lag in performance due to their lack of flexibility.
![How crypto hedge funds generate excess returns: Actively manage risks and invest in BTC](https://sgsnsimg.moomoo.com/sns_client_feed/101752900/20240816/df59052a97b44d17bd21e0034b25e5dd.png/big?area=101&is_public=true)
![How crypto hedge funds generate excess returns: Actively manage risks and invest in BTC](https://sgsnsimg.moomoo.com/sns_client_feed/101752900/20240816/b07fda6e6179413aac05d6daf394b503.png/big?area=101&is_public=true)
Performance from cycle lows
Since the June 2021 low, multi-strategy funds have led the way with a return of +128%.
Quantitative/active strategies followed closely behind with a return of +98%.
Meanwhile, $BTC and market neutral strategies also performed well.
Single long strategies lagged (+28%).
![How crypto hedge funds generate excess returns: Actively manage risks and invest in BTC](https://sgsnsimg.moomoo.com/sns_client_feed/101752900/20240816/8e4d6014d3f948fb816cb9c7308c2703.png?area=101&is_public=true)
Bear Market Resilience (June 2022)
During the bear market, only quantitative active strategies outperformed $BTC.
Other strategies performed poorly, highlighting the importance of adaptability.
![How crypto hedge funds generate excess returns: Actively manage risks and invest in BTC](https://sgsnsimg.moomoo.com/sns_client_feed/101752900/20240816/2779df7d9e714e608baa9872c068d292.png/big?area=101&is_public=true)
Why do single longs perform poorly?
Single long strategies generally underperform spot BTC for the following reasons:
Limited drawdown risk management
Bought underperforming altcoins
Poor timing of rebound
Controlling volatility is key:
Crypto hedge funds that manage volatility can offer greater upside potential.
The top quartile long-term performance in crypto is primarily based on:
Manage downside risk.
Capture huge upside potential.
Volatility and Performance
Non-directional funds offer crypto exposure with annualized volatility below 30%.
The volatility of quantitative systems and multi-strategy funds is less than 50%.
These strategies are significantly better than a single long position and $BTC spot exposure.
![How crypto hedge funds generate excess returns: Actively manage risks and invest in BTC](https://sgsnsimg.moomoo.com/sns_client_feed/101752900/20240816/5b93bc45d00b406ca1b82d6f4e46ccd1.png/big?area=101&is_public=true)
Diversification across asset classes
“Structural diversification” is key. Why?
Because crypto markets trade 24/7/365, they are affected by unique factors at different time periods.
Staying diversified outside of crypto can provide a good risk/reward advantage.
Managing Downside Volatility
Managing downside volatility is key to achieving long-term outperformance.
Market neutral strategies have the lowest volatility and shallowest drawdowns.
Next are multi-strategy, quantitative active strategy and single long strategy.
![How crypto hedge funds generate excess returns: Actively manage risks and invest in BTC](https://sgsnsimg.moomoo.com/sns_client_feed/101752900/20240816/195a25ea255343d19b334d0cf4e0f5de.png/big?area=101&is_public=true)
How to reduce downside exposure
Avoid heavy losses: Use stop-loss orders and clear investment thesis invalidation.
Stay in the long term: spread your risk through diversification and survive.
Long-term growth: Adjust positions based on market conditions to target volatility.
Personalization strategy
While some strategies may not be optimal, they may be the best for you.
Let’s take a deeper look at each strategy.
Directional strategy: Single long
Single long strategy targets tomorrow's market leader (very easy to follow).
Key metrics to consider: active users, strong fundamentals, large total market value (TAM), value accumulation?
![How crypto hedge funds generate excess returns: Actively manage risks and invest in BTC](https://sgsnsimg.moomoo.com/sns_client_feed/101752900/20240816/e829945ec9a64e6c826400f9589d6c69.png/big?area=101&is_public=true)
Quantitative Systems: Directionality
Systematic (long or short) strategies combine fundamental analysis and automation.
They use structured data and machine learning to control risk and reduce volatility.
![How crypto hedge funds generate excess returns: Actively manage risks and invest in BTC](https://sgsnsimg.moomoo.com/sns_client_feed/101752900/20240816/ad8f54055bfc453397652b57405138ab.png/big?area=101&is_public=true)
Hedging strategy: Market neutral
Designed to capture returns in the crypto economy while maintaining low/no directional risk.
They seek positive returns relative to cash and avoid losses in all market environments.
![How crypto hedge funds generate excess returns: Actively manage risks and invest in BTC](https://sgsnsimg.moomoo.com/sns_client_feed/101752900/20240816/2633694788d6410e9e38156e0803cf9f.png/big?area=101&is_public=true)
Diversification strategy: multiple strategies
These strategies combine specific exposures to achieve diversification, manage risk and capture diversified benefits.
Example: A fund of funds combining crypto hedging strategies of 10-15 managers.
21/ Portfolio Split:
Here’s how a typical portfolio might look like, based on your specific time horizon:
![How crypto hedge funds generate excess returns: Actively manage risks and invest in BTC](https://sgsnsimg.moomoo.com/sns_client_feed/101752900/20240816/a3237496632f4de3a3a684527cf6a605.png/big?area=101&is_public=true)
due diligence:
Once your strategy and portfolio are determined, the final step is due diligence.
Consider these key questions:
The following is an overview of areas where a due diligence questionnaire can help allocators of funds, as well as some recommended questions to ask during the due diligence process.
● Trading strategy: Does the fund invest in token options, add-on protocols, use liquidity pools, or participate in staking? How does the fund allocate returns on the same investment between these different investment vehicles?
● Trading infrastructure: How many centralized and decentralized exchanges does the fund use for liquidity? What contingency plans are in place if an exchange fails?
● Trade Execution: Considering that cryptocurrencies trade 24/7/365 and have no closing prices, how does the fund measure price movements without a closing price?
● Counterparty risk: How does the fund assess counterparty risk across exchanges, liquidity pools, and lending protocols?
● Risk Management: How does the fund manage risk overnight and on weekends? How does the fund set targets that trigger risk aversion or hedging?
● Team, research process, deal evaluation: How does the fund and its team evaluate new investment opportunities?
● Performance measurement: Does the fund provide regular daily or monthly performance data? What benchmarks are used and why are they appropriate for its investment style?
● Use of leverage: Cryptocurrencies are already highly volatile. If the fund uses leverage, how can excessive volatility be controlled?
● Fund Service Providers: Does the fund allow limited partners (LPs) to communicate directly with all service providers during due diligence?
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