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What is a cryptocurrency index fund? Cryptocurrency index funds are a way for curious investors to gain exposure to crypto assets without having to invest in and hold a particular coin or token. Here’s everything you need to know about this growing trend among investors.
The following article is for educational purposes. It is not investment advice.
What Is a Cryptocurrency Index Fund?
It’s a type of index fund, which is a type of mutual fund, for cryptocurrency investing. In other words, it’s an investment portfolio designed to provide a wide market overview at a low cost. This translates to passive investment for long-term gains, not day trading.
Different Types of Funds
Active vs Passive Management
There are two types of cryptocurrency index funds: active or passive. Active ones actively trade cryptocurrencies while passive ones hold, or hodl, certain coins and tokens on your behalf.
Those that List all vs Select Cryptocurrencies
Most cryptocurrency index funds only invest in the highest market cap coins and tokens, though some capture the whole market. The way they choose tokens differs, too. For example, how do they take market cap, liquidity and price into account?
Manual vs Automated
Some cryptocurrency index funds have the option to manually select and weigh each cryptocurrency. Others will create a basket of coins and tokens on your behalf based on your desired returns and their predictions.
Advantages
Reduced Risk
Cryptocurrency index funds diversify investors’ portfolios. Holding different coins vs tokens minimizes investors’ exposure to the volatility of the cryptocurrency market.
The logic is virtually identical to that behind the use of mutual funds. Like investing in a single company, investing in a single coin increases risk. Conversely, investing in diverse assets spreads that risk around.
Simplified Cryptocurrency Investing
Investing smartly in the dynamic crypto space requires constant attention to the market and research. Storing assets securely in hot vs cold wallets, on or off exchanges, and tracking their performance is also time-intensive.
Cryptocurrency index funds handle this much of this overhead so investors do not have to.
More Predictable Performance
Like any asset pool, they’re specialized for tracking the performance of the market and reallocating investments to maximize portfolio returns. Instead of relying on the time and resources of one person, they are an organization presumably with a staff and algorithms that track market data.
Fewer Trading Fees
Though they have their own fees, the larger and more active your trading portfolio, the more economical a professional service could be. Though it may not matter for infrequent investments, how Coinbase makes money comes down to their significant fees.
Disadvantages
Unique cryptocurrency index funds will have disadvantages depending on your investment strategy. For example, some may prioritize liquidity over long-term gains.
Lack of Liquidity
Though cryptocurrency index funds differ when it comes to liquidity, a common criticism is that withdrawing funds isn’t that easy. In some cases, investors have to invest in a token, which represents part of the pool. Therefore, converting those gains back into USD takes another step.
Price
They have different levels of management, but this can come with fees. For example, Bitwise charges 2.5% in annual management fees, which can be a lot depending on the size of your portfolio. Of course, pools with less management have lower fees. Again, for frequent and high volume traders, it might be a more affordable option.
Barrier to Entry
Cryptocurrency index funds are only available to accredited investors. This means someone who is legally allowed to buy and trade securities, per SEC regulations. Specifically, an accredited investor has made over $200,000 in the past 2 years or has a net worth of over $1 million.
Additionally, you have to invest a significant amount of capital to join a fund. For example, Coinbase Index Fund has a minimum investment of $250,000.
They Are Not ETFs
Exchange-traded funds (ETFs) and these funds are different. ETFs work on the stock exchange and trade during the day. According to SEC announcement, ETFs provide more liquidity. Additionally, they typically have a lower barrier to entry than cryptocurrency index funds, or any type of mutual fund.
Conversely, index funds require less management on an investor’s part day-to-day.
Best Cryptocurrency Index Funds
The following asset managers are the current industry leaders. Here’s what you need to know about each.
Bitwise Asset Management
Founded in 2017, Bitwise was the first cryptocurrency index fund. Bitwise holds the top 10 cryptocurrencies based on their 5-year diluted market cap, according to their SEC filing. The company readjusts the fund’s holdings monthly and claims it stores all assets in 100% cold storage, meaning they’re offline.