Familiar Manager Evaluation Workflows Applied to Crypto

Capital allocators tend to take a holistic approach to investing, establishing a strategy for an overall portfolio. Outsourced managers typically handle nuanced investing, such as deciding between investment A or B. For this reason, allocators take great care when selecting managers to invest on their behalf. However, we find that there is sometimes a hesitancy to conduct crypto manager due diligence, which we believe is driven by data and education barriers for crypto generally. 


Enabling Technology-Driven Insights for Crypto Managers

Because crypto data still feels far from mainstream, focusing on returns-based analysis can be a powerful first step. At Venn by Two Sigma, we feel that quantitative analysis is an “actions speak louder than words” approach. We believe that with returns-based analysis, you can gain valuable insights to compare managers and evaluate them in the context of your broader portfolio. 

As an illustrative example, let's take a look at two crypto managers. One in the form of a market-cap weighted cryptocurrency exposure (BITW)1, and the other investing in crypto-associated stocks (BLOK)2. Investing in crypto coins versus crypto equities are very different approaches, and potentially require different considerations in the context of a multi-asset portfolio. How do these two approaches compare?


BITW vs. BLOK Analysis

Return and Risk

Looking at rolling returns can provide more transparency than just looking at a single number over a designated period. For example, we can see below that BITW (investment-green) and BLOK (benchmark-blue) have reacted differently over various time periods. 


Exhibit 1: Rolling 1-Year Return

Source: Venn by Two Sigma. Investment= BITW and Benchmark=BLOK. Common period for both managers shown here is 1/17/2018–10/11/2022.


Specifically, in early 2021 BITW saw a large rise, while also experiencing a large fall toward the end of the year. This magnitude may be caused by differences between the two approaches and one that might prompt further considerations alongside your overall portfolio. This return chart also strongly implies that BITW experienced higher volatility over the common period, reflected as well in Exhibit 2. 


Exhibit 2: Rolling 1-Year Volatility

Source: Venn by Two Sigma. Investment= BITW and Benchmark=BLOK. Common period for both managers shown here is 1/17/2018–10/11/2022.


Exhibit 3 demonstrates that BITW also experienced much steeper drawdowns over the full period, a likely result of more direct exposure to riskier cryptocurrencies. It is worth noting that similar drawdowns between the two managers occurred recently. This is perhaps intuitive, as we know that bitcoin and equity correlations have been rising


Exhibit 3: Historical Drawdowns

Source: Venn by Two Sigma. Common period for both managers shown here is 1/17/2018–10/11/2022.


Pairing this rolling return and drawdown analysis may spark interest in evaluating manager return distributions. For example, we see that in Exhibit 4 BITW has had much fatter tails, meaning it has experienced both higher and lower outlier daily returns.3 Similar to the drawdown analysis, this is perhaps an intuitive conclusion as this is a more direct cryptocurrency exposure. BLOK is likely anchored more to the overall equity market due to its equity holdings. 


Exhibit 4: Returns Distribution

Source: Venn by Two Sigma. Investment= BITW and Benchmark=BLOK. Common period for both managers shown here is 1/17/2018–10/11/2022.


In fact, in Venn we can decompose what has driven the risk of each manager. For BITW, 13.2% of the risk has been driven by our Equity Factor, while 77.22% has been unexplainable by our factor lens (residual), shown by Exhibit 5. High residual is an expected result for BITW, whose risk may be primarily driven by a crypto-market factor, if one does exist. 

For the stock-focused BLOK, 51.65% of risk has been driven by our Equity Factor, whereas 30.89% is residual.4 This provides compelling evidence that their different approaches to crypto have affected the drivers of their risk. 


Exhibit 5: Factor Contributions to Risk

Source: Venn by Two Sigma. The chart displays factor analysis viewed through the Two Sigma Factor Lens from 1/17/2018–10/11/2022



Looking at correlations can also provide valuable insights in regard to diversification. For example, we can see how the cryptocurrency-focused manager, BITW, has exhibited a lower correlation with other managers in this hypothetical portfolio.


Exhibit 6: Correlation Matrix

Source: Venn by Two Sigma. Common period for both managers shown here is 1/17/2018–10/11/2022.


Looking to Exhibit 7, a rolling analysis also reveals that both of these managers’ correlations with US equities, as well as their correlation with each other, have been rising recently. This insight may be important for an allocator who is looking for diversification in times of volatility. 

This is especially true in the case of evaluating the managers’ correlation to each other, which is meaningful and higher than ever. These two managers’ recent high correlation may provide evidence that in the current rising rate environment, these approaches to crypto exposure may yield more similar behavior than their holdings suggest.


Exhibit 7: Rolling 1-Year Correlations

Source: Venn by Two Sigma. Common period for both managers shown here is 1/17/2018–10/11/2022.


Crypto: Keep Conducting Familiar Portfolio Workflows

It may be premature to expect capital allocators to have as deep an understanding of crypto managers as they do equities or fixed income. That being said, we believe that familiar returns-based analysis, applied to crypto, can provide valuable insights for manager due diligence. 




1 Bitwise 10 Crypto Index Fund

2 Amplify Transformational Data Sharing ETF

3 BITW and BLOK’s excess kurtosis (kurtosis minus 3) was 6.62 and 3.36, respectively. Kurtosis measures the degree of extreme values in the distribution of returns. For example, a normal distribution has a kurtosis of 3, meaning a higher value of kurtosis experiences more values in the tails of the distribution.

4 Noting that over this period BITW had a much higher volatility of 77.9% vs 35.3% for BLOK.



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