Crypto Hedge Funds:  What To Look Out For


As a former hedge fund manager, I am expected to know more than the average investor on the topic of how to choose a hedge fund.  When I started it was easy. There were a limited number and just about everyone operated on a standard formula. Today, not only are there vastly more funds to pick from but there is no single formula for fees.  It’s complicated.

The overriding issue is whether cryptocurrencies are right for you.  Only an investment advisor with the full picture of your assets can help settle that one.  With the huge price correction in virtually every crypto in recent months, prices are mighty tempting.  From the standpoint of timing, the signs look good.

If you decide to go in forward, what should you look for.  Do you want to be involved or turn your trust over to others who hopefully are bona fide experts in crypto.  Most likely hedge funds have caught your attention.

There are several websites that do an excellent job of listing crypto hedge funds along with certain relevant data.  But that is about as far as they go. Here are some things to consider.

What Do They Bring To The Party

Until recently the universe of crypto investors consisted of a large percentage of interests that we will politely call traders, a second group of buyers of utility tokens and a relatively small group of long term oriented visionaries.

Those who fit into the first group have several things in common.  Most likely you made a ton of money last year and probably had lots of fun along the way.  Yes results of late have been different but nothing can tarnish the joys of 2017.

If you are a believer in the fundamentals of bitcoin and the bizillion applications for Ethereum smart contracts in the years ahead, why would you want to turn over control to someone else? There are only two good answers to this question. If some hedge fund manager can produce better results or if the volatility of crypto is too much for your nightly sleep.

Look Out For The Oversized Fees

As a trader there are all types of fees and commissions involved in buying, selling and even transferring crypto.  Some fees can get pretty steep. None of them go away when you turn your bucks over to a hedge fund manager.

The Fat Is Everywhere

We searched through to get a picture of some of the fee traps to look out and there are some big ones like management fees.  Of the 28 funds listed, fees ranged from 1% to as much as 25%. Remember, these are annual management fees so even if the fund loses money, the manager collects one-fourth of your assets.  

In addition to a 10% management fee, there was one fund that charged a 25% performance fee.  Actually, four of the 28 funds listed charged performance fees between 15% and 25%. This is a far better shake for the investor since it better aligns the interest of the manager with that of the client.  In addition, all three of these firms charged a 2.5% management fee.

There are no “Get Out of Jail Free” cards.  If you need you money it will cost an addition 0.5% of your hard earned assets.  Let us assume you had $ 1 million that you wanted to take out. Do you think it will cost the fund $5000 to send you the money?

Buy Today And Put It Away

Institutional investors, starting with risk oriented hedge funds are gathering tons of investor capital aiming to put it to work in the crypto market.  That is great news for long term investors. Eventually, more conventional pension fund and other institutions will define cryptocurrencies as a bona fide asset class.  That is more good news for early stage crypto investors.

Unfortunately, the current class of hedge fund fees appear to be based on the same notion that Bitcoin is going to be priced at $100,000 and a similar future is in store for most other cryptos as well.  As a rational thinking investor, if you believed this to be the case, what do you need someone else charging you an outsized fee to increase your assets 10 fold over the current Bitcoin price around $10,000.  

A Reminder About Taxes

Oh yes, I almost forgot about one of the biggest hidden fees: the new tax code covering crypto. As anyone knows that has ever invested in a hedge fund, short term capital gains are taxed as ordinary income. Hedge funds typically generate lots of trading activity and for successful investors, that means lots of taxes.

For buy and hold investors, long term rates vary but average about 15%, a much more attractive proposition.  

What’s The Answer

Microsoft founder and one of the world’s richest men, Bill Gates espouses the long term investment approach to crypto.  If you follow his thinking, there is only the need for a secure wallet and a few years of patience. In the meantime, I expect hedge fund fees will fall steadily starting soon.

Featured image courtesy of Shutterstock.

James Waggoner is a veteran Wall Street analyst and hedge fund manager who has spent the past few years researching the fintech possibilities of cryptocurrencies. He has a special passion for writing about the future of crypto.