Cryptocurrencies HowTo

How I Started My Own CryptoCurrency Index Fund

How I Started My Own CryptoCurrency Index Fund
Written by Izak Van Heerden

There are many cryptocurrency trading strategies, from simply buying to hold, to actively trading different cryptocurrencies. The problem with active trading is that one has to time individual coin purchases to make a decent profit, and you must have the foresight of a crystal ball to know when something will start to move.

The Honey Trap of Short-Term Cryptocurrencies Trading

A friend of mine recently sold all his Ripple to move his cash into IOTA, which showed decent climbs in price. This was only a day or two before the Ripple price explosion, where the XRP price climbed from about 25c to $2.50 in the span of 2 weeks. IOTA did not do much during that period, and I can put money on the fact that when he sells to buy something else, IOTA will probably start to rise.

Jumping around between coins like this is usually only good for the exchange, which makes a lot of money out of traders, but if you’re only starting out, odds are your portfolio might not grow as fast as the index. Let’s face it. In a raging bull market selling anything is usually a mistake you regret a day or two later.

The Index Kicks Ass

Speaking of indexes, in the traditional trading world, indexes have an uncanny way of outperforming both brokers and funds. For example, in the last 15 years, the S&P500 outperformed 92% of large cap funds.

If we look at cryptocurrencies, how have the top 10 based on market cap performed over the last year?

Note: The market cap is the dollar value of all the coins in circulation. In the table below it is the circulating supply times the current coin price.

   

By looking at the historic chart of CoinMarketCap (from the home page, click on Tools, Historical Snapshots), we see that the combined market cap of the top 10 has risen from 17,174,337,232 at the beginning of 2017 to 517,687,064,030 a year later. That is a 30-times increase in value over a year. Bitcoin’s growth in a year’s time was only a factor of 14 times.

Buying the index makes a lot of sense, even if you decide to open a separate portfolio that you let run to complement your primary trading portfolio. Don’t be surprised if this portfolio outperforms your trading one.

Preparing for Bitcoin’s Eventual Demise

Buying the index will also ensure that you are not over invested in bitcoin when the eventual decline starts. Bitcoin uses blockchain 1.0, which has shown that it is not a long-term scalable platform.

[Also read: 6 Dangers for the Future of Bitcoin]

Owning the index will ensure that you own enough of bitcoin’s eventual successor(s) as well.

How to Invest in the Index?

Many Altcoin Index Funds have recently popped up. BITTWENTY’s fund focuses on the top 20, ETF.com has a HOLD 10 Index, etc.

Most of these funds take a percentage, some a flat fee from 1% to about 5%, and others charge a per-trading fee. It will be OK to purchase a share of one of these index funds and just leave it to grow, but IMHO, it is a lot more fun starting your own private little index.

How I Started My Own CryptoCurrency Index Fund

My first decision to make was: Will I buy the top 5/10/20/50? I decided to go for the top 10 to minimize buying and selling when rebalancing monthly.

Second decision was how much I wanted to invest. Remember this is cryptocurrencies with regular crashes. A better question might be: How much was I willing to lose?

My investment would be spread over the top 10.

I opened up at least two trading accounts:

CoinBase to turn dollars into bitcoin.

Coinbase

Binance for the actual altcoin trading. For example at the time of writing, IOTA was mainly trading on Binance. If Binance does not have your coin, you might decide to just skip the coin or look at what exchange has it.

Note: Coinmarketcap shows which markets a coin is trading on. From the home screen, click on the specific coin, and click on “Markets” near the middle of the screen.

I sent the Bitcoin funds to Binance.

(Binance uses bitcoin as trading currency, so you can’t use fiat currency to buy coins.)

Once my bitcoin was on Binance, I bought equal proportions of the top 10 coins.

Now comes the hard part:

I rebalance monthly. In other words, at the end of each month, I sell all coins that have fallen off the Top 10.

Note: Why monthly and not daily? Hunter Horsley from Bitwise Asset Management recommends the following: rebalance too often and you get caught up in short-term price action; rebalance only once in 3 months and your index become outdated. His back testing found the turnover to be about 20% per year.

How to Rebalance

I compute the average value of the coins remaining in the portfolio, as well as the average price of the ones that dropped off.

The money I get for the coins sold is on average not worth the same as the existing (surviving) coins in my portfolio, as these ones were typically the slowest growers. (After all they’re not in the top 10 any longer.)

For example: Let’s say 3 coins dropped off and I got $300 from selling them, that would give me $100 per coin to purchase 3 new coins that have climbed into the top 10. But the rest of my portfolio (the other 7 coins) might average $150, I therefore need to make a plan of how to subsidise the shortfall when buying the new coins.

I Have a Choice Here:

  • Use only the proceeds from the coins sold that fell off the top 10, or
  • Add more funds to buy new coins at the higher average value of the other coins, or
  • Sell a small portion of the other coins and distribute evenly. If you have a large portfolio, say 50 coins, this becomes a bit of a schlep.

(The highest portfolio growth will be if new money is added monthly to purchase newcomers to the top 10 at the same average that the other coins are worth in dollar terms. This can become expensive, but on the other hand, your asset is growing at a faster pace.)

Rinse and repeat every month.

Infographic

How I Started My Own CryptoCurrency Index Fund Infographic

 

Warning: I do not give financial advice in this article. Gain proper external advice before investing in Crypto as it is a high risk asset class.

About the author

Izak Van Heerden

Izak has witnessed a couple of decades worth of changing tech. He hopes to make it a couple more until his conscience can be copied to a cyborg body.

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