Indexing the Blockchain
Since its inception, Bitcoin has faced an onslaught of fear, uncertainty, doubt and sanctions ranging from nation states such as the Chinese Government in 2009, to the former CEO of the collapsed Credit Suisse Bank in 2017. The irony in 2024 is how Bitcoin joins major asset classes on listed exchange venues as an Exchange Traded Fund (ETF), offered by more than twenty ETF issuers in the United States, featuring a record-breaking number of inflows as the best performing ETF at launch in financial history.
The adoption of Bitcoin by incumbent financial players in the worlds centre for financial services ushers in a new era for the asset and investment managers alike. In recent months since the ETF launch, dollar inflows continue to pile in, with BlackRock’s IBIT recording $10 billion in assets under management within the first 40 days of trading. In comparison, gold ETFs took nearly three years to achieve an equal result.
Since the Bitcoin ETF has taken centre stage and its performance making headlines, a closer examination of dollar flows reveals some intriguing insight after just a few weeks of listing, specifically, how gold ETFs have recorded steady outflows since the Bitcoin ETF approval. According to recent market analyses, investors appear to be swapping out their holdings of gold backed ETFs for Bitcoin. This suggests that some investors are testing the long held narrative of early Bitcoin adopters, that it is a true inflation hedge, muting some of gold’s glitter in recent weeks. The stars may align on this narrative since the flatlining of the Federal Reserves M2 money supply took place in May 2023, followed by a gentle uptick in October last year that is still trending upwards. Bitcoin’s price at the time of writing is hovering just above $65,000, and if price action serves as an indicator of investor sentiment, it would be fair to suggest the sentiment for Bitcoin is even stronger than most anticipated. The Bitcoin ETF performance slams a stake in the ground for the industry, leaving the door ajar for the next digital asset to feature on the Nasdaq. Ethereum, the second largest asset by market capitalisation is speculated to be approved next, while vastly different from Bitcoin in functionality, the decision due in May this year will catapult the confidence in blockchain technologies at large. Bitcoin and Ethereum, akin to gold and energy in commodities markets, are the obvious choices for anyone dipping their toes into the world of digital assets. The next level for investment managers and those looking to outperform the two most successful assets in crypto today, will need to venture deeper down the rabbit hole. For investment managers in financial markets and those specialising in digital assets, the race is on to develop more sophisticated strategies. Indexing digital asset markets to be the next S&P or Vanguard equivalent is officially on the horizon.
As single asset ETFs such as Bitcoin grip the allocations of portfolio managers, such solo investment products are not a novelty in Europe. European exchanges, while thorough in their scrutiny of tokens they have listed, feature more than twenty cryptocurrencies including investment products with staked assets and baskets products of the top 10 and 20, weighted by market capitalisation. Following the introduction of ETFs in the United States, the race to bottom in fees intensifies for Europe’s ETP issuers as competition enters the global marketplace at scale.
Of the most well-known index providers globally, both STOXX and MSCI have begun weighing in on indexing digital assets, for which investment products already feature on European exchanges. While STOXX is recognised as one of Europe’s leading index providers, MSCI boasts a strong global presence. The approaches taken by these two index-provider titans could not be more different. MSCI’s Global Digital Asset Index features a vanilla yet robust market cap weighted selection method of the top 30 assets in crypto, making it the baseline approach for any Index. In contrast, the STOXX Digital Asset Blue Chip Index scores and ranks individual protocols using a sector-based approach to compare digital assets like for like. The final result of the STOXX approach is a basket of assets considered “Blue-Chip”, a term previously reserved for equities now adopted for digital assets. The STOXX index is positioned as a tool for asset selection, aiding investors who lack an understanding of crypto protocols with a more rigorous approach to their asset selection when seeking where to invest.
Although there is little room for debate regarding the MSCI market cap weighted index approach, it certainly assumes that crypto markets are efficient with perfect knowledge, yet participants have struggled to find fair value in the last decade. By comparative measure, STOXX Digital Asset Blue Chip Index ranks and scores all cryptocurrencies featured in the top 75 by market capitalisation and compares their respective on-chain protocol performance each quarter when rebalanced. Bitcoin is not compared to Ethereum in this case, as they are categorised into different sectors. The sector-based approach was adopted from the Bitcoin Suisse Global Crypto Taxonomy (GCT), developed in early 2022 as a product capable tool for the compartmentalisation and characterisation of digital asset protocols. Resulting in a basket of about ten assets, with the best on-chain fundamentals, the STOXX index peers through the hype behind several token projects, assuming inefficiency in the market for digital assets and flipping the script on the more conventional approach to indexing adopted by the mainstream.
Whether or not a basket index can rise above the single asset underlying, only time will tell, yet given the trend in equity and commodity markets since indexing became popular, it is possible that a basket index will keep up with, or even surpass the standalone Bitcoin ETF. In conclusion, the investment age for cryptocurrencies has just begun and a future of crypto assets living in a retirement portfolio is more and more likely thanks to institutional adoption and ETF products.
About the Author
Authored by Laurent Irgolic, Senior Business Analyst for Invest & Advice at Bitcoin Suisse