Advantages of Actively Managed SMAs Over Crypto ETFs for Institutional Investors

Exploring the Advantages of Actively Managed SMAs Over Crypto ETFs for Institutional Investors

There’s no denying that cryptocurrency exchange-traded funds (ETFs) have made a significant impact since their introduction in the United States earlier this year, exhibiting potentially record-breaking growth. In this edition, Leo Mindyuk, CEO of ML Tech, delves into the differences between investing in cryptocurrencies through Separately Managed Accounts (SMAs) and ETFs. Additionally, CoinDesk Indices’ Kim Greenberg Klemballa addresses questions regarding SMA ownership and its adoption in the segment titled ‘Ask an Expert.’ – Sarah Morton

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The Rise of Crypto in the Mainstream

This year marked a pivotal moment for cryptocurrencies, signifying a leap toward mainstream acceptance as the U.S. Securities and Exchange Commission approved the trading of U.S. ETFs that track spot bitcoin and ether. This groundbreaking decision allowed investors for the first time to trade regulated instruments based on Bitcoin and Ether on official U.S. exchanges. More crucially, it signified that cryptocurrencies had gained the endorsement of securities regulators, shedding their image as speculative assets primarily traded by tech enthusiasts.

Comparing Crypto SMAs and ETFs

While millions of novice investors are exploring cryptocurrencies through bitcoin and ether ETFs, the question for seasoned institutional investors is whether ETFs truly represent the optimal investment vehicle. Separately Managed Accounts (SMAs) provide notable advantages for institutional investors seeking to invest in cryptocurrencies through actively managed portfolios.

Benefits of SMAs Over Crypto ETFs

Understanding SMAs

Crypto SMAs consist of portfolios of digital assets managed on behalf of investors by professional investment managers. The role of a “professional investment manager” is particularly vital in the crypto space, which remains relatively nascent. Unlike traditional stocks, cryptocurrencies don’t trade in the same manner, and their “fundamentals” are not defined by earnings or accounting metrics but rather by a unique set of variables, including blockchain usage, individual activities of significant holders, and more. Therefore, having an experienced active investment manager is invaluable when navigating the complexities of crypto investments.

Direct Ownership: Enhanced Control and Tailored Risk Management

One of the primary distinctions of SMAs is that they provide direct ownership of assets, allowing for greater customization of portfolios to meet specific risk and return objectives. SMAs can be tailored by investment managers to align with individual requirements, encompassing risk tolerance, investment horizons, and financial goals. This direct ownership also facilitates transparent and efficient tax management strategies, such as tax-loss harvesting. Furthermore, SMAs are custody-agnostic, permitting investors to select from a variety of custodians and venues, including Anchorage, BitGo, Coinbase, and Kraken.

Diversification Opportunities

In addition to customization, actively managed SMAs foster diversification. Owning a BTC ETF typically means tracking the performance of Bitcoin exclusively. In contrast, an actively managed SMA allows access to an extensive array of cryptocurrencies (with over 248 cryptos currently listed on Coinbase and more than 200 on Kraken), enabling investors to diversify their portfolios as they see fit. Active management permits adjustments in allocations, which is particularly beneficial in the volatile crypto market, where passive strategies may lead to substantial losses.

Potential for Outperformance

Active management within SMAs can lead to potential outperformance when compared to an underlying coin or coin index. Experienced managers can leverage market analysis, strategic trading approaches, and timely decision-making to capitalize on market fluctuations—advantages that ETFs do not provide. For investors focused on specific coins, SMAs can offer opportunities to generate additional alpha (outperformance) above the underlying coin exposure (beta).

24/7 Trading Advantage

Unlike ETFs that trade only during standard market hours, crypto markets operate continuously, 24/7. This difference is crucial for those who are not familiar with crypto investing. The most notable benefit is the elimination of opening gap risk, which can catch traders off guard. Actively managed SMAs empower managers to respond swiftly to market movements, allowing for timely adjustments to portfolios.

Determining the Right Investment for You

While crypto ETFs are capturing the interest of new investors, trends suggest that institutional investors, high-net-worth individuals, and registered investment advisors are likely to gravitate towards actively managed SMAs in the future. The personalized approach, flexibility, and potential for enhanced returns offered by SMAs make them a compelling option for sophisticated investors.

– Leo Mindyuk, CEO, ML Tech

Ask an Expert

Can I tailor a crypto SMA?

As previously mentioned, the structure of an SMA allows for direct ownership of the underlying assets, enabling customization. For instance, an SMA could be crafted to allocate 50% of a portfolio to Bitcoin and 50% to Ether, based on client preferences. Furthermore, crypto SMAs grant access to a broader spectrum of assets, allowing for exposure beyond just Bitcoin and Ether. Multi-asset support can lead to deeper diversification and more extensive exposure to the crypto asset class, potentially embracing the top 5, 10, or 20 cryptocurrencies.

What are the potential tax benefits of an SMA?

An SMA may provide investors with flexibility for tax-loss harvesting, customization to manage concentrated exposures, and potential tax-advantaged charitable gifting. For more in-depth information on this topic, J.P. Morgan Private Bank has published an informative article. Please note that this should not be construed as tax advice; always consult a tax professional.

How has the SMA market evolved in recent years?

A recent survey indicates that SMAs are gaining traction among advisors. There is a notable shift, with fewer advisors planning to increase allocations to model portfolios while simultaneously intending to raise their allocations to SMAs. As of 2023, assets under management in SMAs have surged to nearly $2.2 trillion.

– Kim Greenberg Klemballa, Head of Marketing, CoinDesk Indices