6 min readInvesting in crypto exchange-traded products (ETPs) requires careful consideration of several factors to ensure you're making informed decisions. Here’s a breakdown of the key metrics to consider when comparing crypto ETPs.
Management Fees
Explanation: Management fees are charges levied by the ETP issuer for managing the product. These fees are typically expressed as a percentage of assets under management (AUM), and while they may seem small, they can have a significant impact over time.
Impact on returns: For example, an ETP with a 1.5% management fee will eat away more of your returns compared to one with a 1% fee. Over the long term, this difference compounds, leading to substantial divergence in overall returns.
Comparison: Crypto ETP fees can range from as low as 0.35% to over 2%, depending on the issuer, underlying exposure, and the operational complexity of the product. While traditional equity ETFs may offer lower fees (typically between 0.05% and 0.75%), crypto ETPs tend to have slightly higher costs due to the added complexity of dealing with digital assets and specialised custody solutions.
Liquidity and Trading Efficiency
Bid-ask spreads: The bid-ask spread—the difference between the buying (bid) and selling (ask) prices—affects your transaction costs. A narrow spread indicates better liquidity and lower implicit costs. For example, a spread of 0.10% is preferable to one of 0.50%.
Trading volume: The average daily trading volume is another important liquidity indicator. Higher volumes suggest that it's easier to buy and sell the ETP without significantly impacting its price. ETPs with low volume may be subject to higher volatility and wider bid-ask spreads, adding friction to your trades.
Market makers: Professional market makers play a crucial role in ensuring liquidity. They help keep the bid-ask spreads narrow, providing stability in markets with fluctuating demand. This becomes especially important in the volatile crypto space.
Stress testing: It’s crucial to evaluate how an ETP performs under market stress. In turbulent times, liquidity can dry up, leading to wider spreads and higher trading costs. Review the product’s historical performance during downturns to gauge its resilience.
Staking Rewards
Staking explanation: Some crypto ETPs offer exposure to proof-of-stake (PoS) cryptocurrencies, where investors can earn staking rewards by holding the asset. PoS blockchains like Ethereum or Cardano provide rewards to holders who participate in validating transactions on the network.
Integration in ETPs: A few ETPs pass on staking rewards to investors. This adds an extra layer of yield that is not present in all crypto products, but it requires diligent tracking to ensure consistency.
Frequency and reliability: The rate and consistency of staking rewards vary by ETP and the underlying cryptocurrency. Look for products with a proven track record and transparent method of distributing these rewards to maximise returns.
Issuer Credibility and Stability
Regulation: It's essential to choose crypto ETPs from issuers regulated by credible financial authorities. Regulation ensures investor protection and a higher degree of transparency.
Public companies: Issuers linked to publicly listed companies may provide additional financial stability and transparency. For example, being subject to quarterly financial reporting and shareholder scrutiny can provide investors with extra peace of mind regarding the parent company.
Track record: Look at the issuer's history in both the crypto space and traditional financial markets. A firm with a long-standing track record and extensive experience handling crypto products is potentially more likely to manage risk effectively.
Transparency and Reporting
Coin Entitlement: For most physically-backed crypto ETPs, daily reports that disclose the exact amount of cryptocurrency backing each share in the ETP ensure that investors know precisely what they own. This practice is the gold standard in crypto ETP transparency.
Independent attestation of proof of reserves: Some leading issuers provide third-party verification of their asset holdings to further assure investors of the product’s legitimacy. Independent audits reduce the risk of under-collateralization and fraudulent activities.
Security Measures and Custody Solutions
Asset backing: Any physical crypto ETP you invest in should be fully backed by the underlying asset it tracks. This guarantees that each share of the ETP corresponds to a portion of the actual crypto held by the custodian.
Segregated collateral: Ideally the ETP issuer uses segregated collateral—keeping each product's assets separate from one another. This protects investors in case of insolvency or operational issues with a specific ETP.
Custody solutions: The safety of the underlying assets is paramount. Reputable custodians with robust security measures, such as multi-signature wallets and regular audits, should be prioritised when choosing a crypto ETP.
Insurance: Some crypto custodians offer insurance policies that cover losses from hacking, theft, or other security breaches.
Conclusion
In conclusion, choosing the right crypto ETP requires a thorough comparison across multiple dimensions, from quantitative factors such as management fees and liquidity, to more qualitative factors like the issuer's credibility and custodian security measures.
By evaluating these factors, investors can make informed decisions that align with their risk tolerance and long-term financial goals.