Mon, Jun 27, 2022
Welcome Guest
Free Trial RSS
Get FREE trial access to our award winning publications
Industry Updates

A new way to trade Bitcoin

Tuesday, November 30, 2021
Opalesque Industry Update - The recent launch of the Proshares Bitcoin Strategy ETF has attracted a lot of media attention. The ETF aims to track the price of Bitcoin, using Bitcoin futures. But how can you generate trading ideas on this newly launched product? No historical data is available, the product itself is unproven and we don't know how closely it will track the underlying price of Bitcoin. All that investors have to go by is the ETF prospectus - which doesn't provide the level of detail required to test quantitative trading strategies.

Bitcoin's extreme price moves over the last few years have driven huge demand from institutional and retail investors. However, there are many downsides to owning Bitcoin directly:

• Bitcoin wallets are a prime target for financial criminals.

• There is no way to find and unlock Bitcoin once the authorization key has been lost.

• Banks are often unwilling to deal with cryptocurrency exchanges due to anti-money laundering and other regulatory concerns.

• Cryptocurrency exchanges are attractive targets for hackers.

Therefore, holding a Bitcoin ETF is attractive for those that don't want the risk exposure associated with Bitcoin wallets or are unable to use a Bitcoin exchange due to geographical constraints.

Will Fisher, Senior Quantitative Developer at SigTech, set out to investigate how  Proshares' Bitcoin ETF  works in practice and how to simulate its performance: "The simulated ETF was under-performing Bitcoin by 9.6% a year, due to the combined effect of the management fee and the rolling costs."

So far, the SEC has refused to approve physical bitcoin ETFs. Therefore, according to its prospectus, the Proshares ETF plans to hold futures contracts that reference the price of Bitcoin, but settle in cash. It also charges a management fee of 0.95% per year. To simulate the performance of the Bitcoin ETF, you need to backtest a strategy that holds futures contracts and incorporates the management fee.

The downside to holding a futures contract is that it will eventually expire. To maintain constant exposure to Bitcoin, you need to sell your contracts just before expiry and then buy the next contract - this is called "rolling".

The front month contract price will converge with the reference rate as expiry approaches but the next contract might trade at a very different price. If the next contract is more expensive, the market is in 'contango', a situation where the price for delivery later is higher than the price for delivery sooner. If later deliveries are cheaper than sooner deliveries, then the market is in "backwardation".

It is important to note that a contango market is not an indicator of expected rising future prices, but tends to be a fundamental aspect of the underlying market structure. For example, oil is in contango most of the time because it is expensive to store.

In a contango market, it will cost money every month to maintain the same exposure. Bitcoin futures have been consistently in contango since their inception.

Using the SigTech platform, Will was able to quickly backtest a simulated version of the ETF. He built a rolling futures strategy, using one of SigTech's pre-built strategies, then added the management fee to his backtest.

The first conclusion was that rolling costs are substantial, averaging almost $140 per Bitcoin every month since the start of 2020 if you simply held the front futures contract and rolled the day before expiry.

The second conclusion was that on average, the simulated ETF was under-performing Bitcoin by 9.6% a year, due to the combined effect of the management fee and the rolling costs.

The final step was to create a long Bitcoin, short simulated ETF strategy. The backtest confirmed that this strategy historically returns 9.6% annualised before stock borrow costs. Stock borrow costs are currently around 1% for this ETF, leaving investors to reap 8.6% annual returns with no risk exposure to the dramatic price moves of Bitcoin.

What do you think?

   Use "anonymous" as my name    |   Alert me via email on new comments   |   
Today's Exclusives Today's Other Voices More Exclusives
Previous Opalesque Exclusives                                  
More Other Voices
Previous Other Voices                                               
Access Alternative Market Briefing


  • Top Forwarded
  • Top Tracked
  • Top Searched
  1. Alts managers sitting on over $2.5tn+ of dry powder[more]

    Laxman Pai, Opalesque Asia: In the current rising interest rate environment, investment activity in the private markets has continued to grow, revealed a study. "With alts managers sitting on over $2.5T+ of dry powder and continuing to enjoy premium valuations and interest rates on a prec

  2. Satori Capital intros energy transition fund, a long/short equity strategy[more]

    Laxman Pai, Opalesque Asia: Dallas-based alternatives manager founded on the principles of conscious capitalism, Satori Capital has launched Satori Environmental, a long/short equity strategy that primarily invests in securities impacted by the global energy sector's shift from fossil-based s

  3. The Big Picture: With the war, E, S, and G have collectively moved back to the fore[more]

    B. G., Opalesque Geneva: In this interview, Dr. Patrick Welton, founder and CIO of Welton Investment Partners, offers his observations on the major macro themes expected to affect the comm

  4. Other Voices: The selloff is overdone[more]

    Authored by Heeten Doshi, founder of Doshi Capital Management. Anyone who is still bearish and calling for more downside is foolish. The selloff is overdone. To point to further declines from here is poor risk management. With the Nasdaq 100 down 22% and S&P 500 down 13% for the year

  5. Other Voices: ESG exuberance is at all-time highs. But will investors buy?[more]

    As investors increase their focus on mission-based investing, they continue to grapple with ESG and what it means to them. By David Shalom, Director of Capital Introductions at Pershing Innovation. New investment solutions. That's how managers deliver value and attract new inve