We dive into digital assets and digital assets equities performance thus far this year and share our short- and long-term outlook for this space.
Digital assets and digital assets equities have underperformed the broad market year-to-date. Rising interest rates, inflation, recession fears, and geopolitical upheaval, among other factors, have contributed to a decidedly negative environment for growth and innovative technology across the board. Negative sentiment and price action have affected both the underlying digital assets themselves and digital assets companies.
In this blog, we will explore:
- Why digital assets equities have underperformed digital assets year-to-date.
- An updated outlook on the digital assets ecosystem.
- Where digital assets fit within a broader portfolio.
Digital Assets and Digital Assets Equities Underperformance
There’s no sugar-coating it: digital assets and their equity counterparts have had a brutal year-to-date. As of May 24, 2022, the MVIS Global Digital Assets Equity Index has fallen over -65% and the MVIS CryptoCompare Bitcoin Index has fallen -38%. The S&P 500, MSCI ACWI Index, and Nasdaq 100 Index have all outperformed the digital assets segment.
|Name||YTD||1 Year Return as of 4/30/2022|
|MVIS Global Digital Assets Equity Index||-65.97||-64.88|
|MVIS CryptoCompare Bitcoin Index||-38.28||-32.26|
|MVIS CryptoCompare Ethereum Index||-47.77||1.09|
|NASDAQ 100 Index||-27.64||-6.61|
|S&P 500 Index||-16.81||0.21|
|MSCI ACWI Index||-16.48||-5.44|
Source: Morningstar Direct as of 5/24/2022.
A variety of factors have contributed to the negative performance of the digital assets segment. Here are four.
- Investors still consider Bitcoin to be a risk asset. We do believe that over the long-term, Bitcoin will develop into a store of value and inflation hedge. Currently, Bitcoin is still exhibiting characteristics of a risk asset, with high volatility and the potential for large short-term drawdowns. As Bitcoin adoption accelerates, and blockchain technology adoption spreads, we believe that Bitcoin will evolve towards store of value use-cases, such as being used as an inflation hedge.
- Digital assets correlation to equities has increased since the COVID-19 pandemic. Historically, one of the benefits of a digital assets allocation has been a low to negative correlation with the broad equity market. While correlations to the S&P 500 remain relatively low (low 60s), an increase in correlation to the broader market means that digital assets and the broad market are moving more in sync than previously. It then follows that during an equity selloff, crypto markets are now more affected than before.
Digital Assets Increased Correlation to Equities Since the Pandemic
1-Year Correlations 4/30/2017 – 4/30/2022
|Correlation 4/30/2021 – 4/30/2022|
|MVIS Global Digital Assets Equity Index||1.00|
|MVIS CryptoCompare Bitcoin Index||0.80||1.00|
|MVIS CryptoCompare Ethereum Index||0.82||0.83||1.00|
|S&P 500 Index||0.61||0.54||0.59||1.00|
|NASDAQ 100 Index||0.73||0.57||0.60||0.94||1.00|
|MSCI ACWI Index||0.56||0.45||0.54||0.98||0.89||1.00|
Source: Morningstar Direct as of 4/30/2022
- Idiosyncratic risk within specific digital assets projects can spread. In early May, the largest algorithmic stablecoin, TerraUSD (UST-USD) lost its peg to the U.S. dollar due to large withdrawals from LUNA’s flagship Anchor savings protocol. Amidst the broader market selloff, the large and sudden UST supply that was introduced onto the Binance exchange created reflexive sell pressure, breaking the $1 peg. TerraUSD’s collapse led to a broad selloff in the digital assets space, on fears of heightened regulatory scrutiny in light of large investor losses.
- Rising interest rates may exert downward pressure on high-growth equity stocks. Many high-growth stocks are unprofitable (more on that later), which means that future interest payments will be more expensive for the company, leading to lower present-day valuations. Rising interest rate environments can wreak havoc on highly valued, unprofitable companies’ stock prices. This phenomenon is not affecting only digital assets companies. Other high growth, innovative segments, such as biotechnology, have also suffered in this new macro environment.
Digital Assets Companies Face Dual Headwinds
We believe that digital assets equities, as represented by the MVIS Global Digital Assets Equity Index, are fighting dual headwinds in the current environment. These companies are fighting against a bear market in crypto as well as negative sentiment affecting richly-valued growth stocks. As previously outlined, high-growth equity stocks can suffer in rising interest rate environments, as investors re-value (by selling) companies in light of more substantial future interest payments.
Unfortunately, the situation can be made even worse when high-growth stocks are currently unprofitable. As of May 24, 2022, roughly 52% of the MVIS Global Digital Assets Equity Index had negative earnings per share (EPS) in their last reporting period. In a rising rate environment, with concerns of high inflation and a potential recession, investors are turning to companies that are currently profitable and reasonably valued, as opposed to those which may not be.
Short- and Long-Term Outlook for Digital Assets Equities
Even with the losses sustained year-to-date, timing the bottom of a drawdown is near impossible. We would advise investors to dollar cost average into a position to avoid short-term volatility whipsaws.
From a long-term perspective, we believe that digital assets, and their accompanying equity counterparts, represent a long-term disruptive force that will continue to be adopted by both retail and institutional investors around the globe. Blockchain’s disruptive effects can already be seen very clearly in some areas of the economy, namely finance and technology.
We expect to see further integration of blockchain technology into more consumer-facing sectors, with new applications being used by the general population. We expect the “ease of use” problem to be solved, as developers create new applications that are built on blockchain technology, which runs beneath the surface of the application without requiring any special know-how to participate. Currently, any serious participation or investment in digital assets projects (such as NFTs or DeFi) has a steep learning curve for new users to fully participate.
Digital Assets Exposure in a Portfolio: Positioning, Sizing, and Timing
A small allocation to digital assets exposure within a broader portfolio can lead to meaningful differences in portfolio returns. Historically, a small allocation to bitcoin significantly enhanced the cumulative return of a 60% equity and 40% bonds portfolio allocation mix.
Incorporating a Digital Assets Allocation into a 60/40 Portfolio (1/31/2012 – 5/30/2022)
We believe that a 1-5% position within a total portfolio is an appropriate starting point for clients, dependent upon the client’s individual risk tolerance and investment objectives. For both digital assets and their equity counterparts, we can also think in terms of a core/satellite position. The digital assets portion would represent some or all of the satellite position, offering uncorrelated returns to the broad market with the potential to introduce outperformance and alpha.
We recommend dollar cost averaging into any digital assets position to reduce potentially negative effects of short-term volatility.
Digital Assets Adoption Continues
Digital assets and digital assets equities have underperformed the broad equity market this year. Macroeconomic factors have helped to push digital asset prices lower, which have in turn led to negative returns for their equity counterparts. Despite the current negative environment, we believe that the long-term outlook for both digital assets and digital assets equities remains bright, as the global adoption of this revolutionary technology continues to accelerate.
Access Digital Assets Exposure with VanEck
VanEck currently offers three publicly-traded ETFs which provide access to different areas of the digital assets opportunity set:
- VanEck Digital Transformation ETF (DAPP) provides exposure to companies that are participating in the digital assets economy.
- VanEck Digital Assets Mining ETF (DAM) offers access to companies that are participating in the digital assets mining economy.
- VanEck Bitcoin Strategy ETF (XBTF) seeks capital appreciation by investing in bitcoin futures contracts. The Fund is actively managed and offers exposure to bitcoin-linked investments through an accessible exchange-traded vehicle. The Fund does not invest in bitcoin or other digital assets directly.
MVIS Global Digital Assets Equity Index tracks the performance of the largest and most liquid companies in the digital assets industry.
MVIS CryptoCompare Bitcoin Index measures the performance of a digital assets portfolio which invests in Bitcoin.
MVIS CryptoCompare Ethereum Index covers the performance of a digital assets portfolio which invests in Ethereum.
NASDAQ 100 Index tracks 100 of the largest non-financial companies listed on the Nasdaq stock market.
The S&P 500 Index consists of 500 widely held common stocks covering industrial, utility, financial, and transportation sector.
MSCI ACWI Index is designed to represent the performance of large- and mid-cap stocks across 23 developed and 24 emerging markets.
The S&P 500 Index is a product of S&P Dow Jones Indices LLC and/or its affiliates and has been licensed for use by Van Eck Associates Corporation. Copyright © 2021 S&P Dow Jones Indices LLC, a division of S&P Global, Inc., and/or its affiliates. All rights reserved. Redistribution or reproduction in whole or in part are prohibited without written permission of S&P Dow Jones Indices LLC. For more information on any of S&P Dow Jones Indices LLC’s indices please visit www.spdji.com. S&P® is a registered trademark of S&P Global and Dow Jones® is a registered trademark of Dow Jones Trademark Holdings LLC. Neither S&P Dow Jones Indices LLC, Dow Jones Trademark Holdings LLC, their affiliates nor their third party licensors make any representation or warranty, express or implied, as to the ability of any index to accurately represent the asset class or market sector that it purports to represent and neither S&P Dow Jones Indices LLC, Dow Jones Trademark Holdings LLC, their affiliates nor their third party licensors shall have any liability for any errors, omissions, or interruptions of any index or the data included therein.
The information herein represents the opinion of the author(s), an employee of the advisor, but not necessarily those of VanEck. The securities/ financial instruments discussed in this material may not be appropriate for all investors. The appropriateness of a particular investment or strategy will depend on an investor’s individual circumstances and objectives. This material has been prepared for informational purposes only and is not an offer to buy or sell or a solicitation of any offer to buy or sell any security/financial instrument or to participate in any trading strategy.
Certain statements contained herein may constitute projections, forecasts, and other forward-looking statements, which do not reflect actual results, are valid as of the date of this communication, and subject to change without notice. Information provided by third-party sources are believed to be reliable and have not been independently verified for accuracy or completeness and cannot be guaranteed. VanEck does not guarantee the accuracy of third-party data.
VanEck Bitcoin Strategy ETF
The value of Bitcoin and the Fund’s Bitcoin Futures holdings, could decline rapidly, including to zero. You should be prepared to lose your entire investment. The Fund does not invest in bitcoin or other digital assets directly.
The further development and acceptance of the Bitcoin network, which is part of a new and rapidly changing industry, is subject to a variety of factors that are difficult to evaluate, the slowing, stopping or reversing of the development or acceptance of the Bitcoin network may adversely affect the price of bitcoin and therefore cause the Fund to suffer losses, regulatory changes or actions may alter the nature of an investment in bitcoin or restrict the use of bitcoin or the operations of the Bitcoin network or venues on which bitcoin trades in a manner that adversely affects the price of bitcoin and, therefore, the Fund’s Bitcoin Futures. Bitcoin generally operates without a central authority (such as a bank) and is not backed by any government, Bitcoin is not legal tender, and federal, state, and/or foreign governments may restrict the use and exchange of Bitcoin, and regulation in the United States is still developing.
Futures Contract Risk. The use of futures contracts involves risks that are in addition to, and potentially greater than, the risks of investing directly in securities and other more traditional assets. The market for Bitcoin Futures may be less developed, and potentially less liquid and more volatile, than more established futures markets. Bitcoin Futures are subject to collateral requirements and daily limits that may limit the Fund’s ability to achieve its target exposure. Margin requirements for Bitcoin Futures traded on the Chicago Mercantile Exchange (“CME”) may be substantially higher than margin requirements for many other types of futures contracts. Futures contracts exhibit “futures basis,” which refers to the difference between the current market value of the underlying bitcoin (the “spot” price) and the price of the cash-settled futures contracts.
This risk may be adversely affected by “negative roll yields” in “contango” markets. The Fund will “roll” out of one futures contract as the expiration date approaches and into another futures contract on bitcoin with a later expiration date. The “rolling” feature creates the potential for a significant negative effect on the Fund’s performance that is independent of the performance of the spot prices of the bitcoin. A market where futures prices are generally greater than spot prices is referred to as a “contango” market. Therefore, if the futures market for a given commodity is in contango, then the value of a futures contract on that commodity would tend to decline over time (assuming the spot price remains unchanged), because the higher futures price would fall as it converges to the lower spot price by expiration. Extended period of contango may cause significant and sustained losses.
An investment in the Fund may be subject to risks which include, among others market and volatility, investment, futures contract, derivatives, investments related to bitcoin and bitcoin futures, derivatives, counterparty, investment capacity, target exposure, and rebalancing, borrowing and leverage, indirect investment, credit, interest rate, illiquidity, investing in other investment companies, management, new fund, non-diversified, operational, portfolio turnover, regulatory, repurchase agreements, tax, of cash transactions, authorized participant concentration, no guarantee of the active trading market, trading issues, fund shares trading, premium/discount and liquidity of fund shares, U.S. government securities, debt securities, municipal securities, money market funds, securitized/asset-backed securities, and sovereign bond risks, all of which could significantly and adversely affect the value of an investment in the Fund.
Unlike traditional mutual funds that are structured as regulated investment companies for U.S. federal income tax purposes, the Fund has not elected and has no current intention to elect to be treated as a regulated investment company under the Code because of the extent of our direct investments in Bitcoin Futures would generally prevent the Fund from meeting the qualification requirements under the Code for regulated investment companies.
VanEck Digital Transformation ETF (DAPP)
The Fund will not invest in digital assets (including cryptocurrencies) (i) directly or (ii) indirectly through the use of digital asset derivatives. The Fund also will not invest in initial coin offerings. Therefore the Fund is not expected to track the price movement of any digital asset.
Investors in the Fund should be willing to accept a high degree of volatility in the price of the Fund’s Shares and the possibility of significant losses. An investment in the Fund involves a substantial degree of risk. An investment in the Fund is not a deposit with a bank and is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Therefore, you should consider carefully various risks before investing in the Fund, each of which could significantly and adversely affect the value of an investment in the Fund.
An investment in the Fund may be subject to risks which include, among others, risks related to investing in digital transformation companies, investing in equity securities, Canadian issuers, small- and medium-capitalization companies, information technology and financials sectors, foreign securities, market, operational, index tracking, authorized participant concentration, new fund, absence of prior active market, trading issues, passive management, fund shares trading, premium/discount and liquidity of fund shares, non-diversified and concentration risks which may make these investments volatile in price or difficult to trade. Small- and medium-capitalization companies may be subject to elevated risks.
The technology relating to digital assets, including blockchain, is new and developing and the risks associated with digital assets may not fully emerge until the technology is widely used. Digital asset technologies are used by companies to optimize their business practices, whether by using the technology within their business or operating business lines involved in the operation of the technology. The cryptographic keys necessary to transact a digital asset may be subject to theft, loss, or destruction, which could adversely affect a company’s business or operations if it were dependent on the digital asset. There may be risks posed by the lack of regulation for digital assets and any future regulatory developments could affect the viability and expansion of the use of digital assets.
VanEck Digital Assets Mining ETF (DAM)
An investment in the VanEck Digital Assets Mining ETF (DAM) may be subject to risks which include, among others, risks related to investing in digital transformation companies, investing in equity securities, Canadian, Chinese and European issuers, small- and medium-capitalization companies, information technology and financials sectors, foreign securities, market, operational, index tracking, authorized participant concentration, new fund, absence of prior active market, trading issues, passive management, fund shares trading, premium/discount and liquidity of fund shares, non-diversified and concentration risks which may make these investments volatile in price or difficult to trade. Small- and medium-capitalization companies may be subject to elevated risks.
Digital asset miners and other hardware necessary for digital asset mining are subject to the risk of malfunction, technological obsolescence, the global supply chain issues and difficulty and cost in obtaining new hardware. Malfunctions and normal wear and tear will, at any point in time, cause a certain number of digital asset miners to be taken off-line for maintenance or repair. Any major digital asset miner malfunction could cause significant economic damage. The physical degradation of miners will require replacement of miners. Additionally, as technology evolves, there may be a need to acquire newer models of miners to remain competitive, which can be costly and may be in short supply. Given the long production period to manufacture and assemble digital asset miners and the current global semiconductor chip shortage, there can be no assurance that miners can acquire or maintain enough digital asset mining computers or replace parts on a cost-effective basis for efficient and profitable digital asset mining operations.
Investing involves substantial risk and high volatility, including possible loss of principal. An investor should consider the investment objective, risks, charges and expenses of a Fund carefully before investing. To obtain a prospectus and summary prospectus, which contain this and other information, call 800.826.2333 or visit vaneck.com. Please read the prospectus and summary prospectus carefully before investing.
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Cryptocurrency is a digital representation of value that functions as a medium of exchange, a unit of account, or a store of value, but it does not have legal tender status. Cryptocurrencies are sometimes exchanged for U.S. dollars or other currencies around the world, but they are not generally backed or supported by any government or central bank. Their value is completely derived by market forces of supply and demand, and they are more volatile than traditional currencies. The value of cryptocurrency may be derived from the continued willingness of market participants to exchange fiat currency for cryptocurrency, which may result in the potential for permanent and total loss of value of a particular cryptocurrency should the market for that cryptocurrency disappear. Cryptocurrencies are not covered by either FDIC or SIPC insurance. Legislative and regulatory changes or actions at the state, federal, or international level may adversely affect the use, transfer, exchange, and value of cryptocurrency.
Investing in cryptocurrencies comes with a number of risks, including volatile market price swings or flash crashes, market manipulation, and cybersecurity risks. In addition, cryptocurrency markets and exchanges are not regulated with the same controls or customer protections available in equity, option, futures, or foreign exchange investing. There is no assurance that a person who accepts a cryptocurrency as payment today will continue to do so in the future.
Investors should conduct extensive research into the legitimacy of each individual cryptocurrency, including its platform, before investing. The features, functions, characteristics, operation, use and other properties of the specific cryptocurrency may be complex, technical, or difficult to understand or evaluate. The cryptocurrency may be vulnerable to attacks on the security, integrity or operation, including attacks using computing power sufficient to overwhelm the normal operation of the cryptocurrency’s blockchain or other underlying technology. Some cryptocurrency transactions will be deemed to be made when recorded on a public ledger, which is not necessarily the date or time that a transaction may have been initiated.
- Investors must have the financial ability, sophistication and willingness to bear the risks of an investment and a potential total loss of their entire investment in cryptocurrency.
- An investment in cryptocurrency is not suitable or desirable for all investors.
- Cryptocurrency has limited operating history or performance.
- Fees and expenses associated with a cryptocurrency investment may be substantial.
There may be risks posed by the lack of regulation for cryptocurrencies and any future regulatory developments could affect the viability and expansion of the use of cryptocurrencies. Investors should conduct extensive research before investing in cryptocurrencies.
Past performance is not a guarantee of future results.
Information provided by Van Eck is not intended to be, nor should it be construed as financial, tax or legal advice. It is not a recommendation to buy or sell an interest in cryptocurrencies.
Editor’s Note: The summary bullets for this article were chosen by Seeking Alpha editors.