Pomp Explains Why Crypto Hedge Funds Might Be Closing Their Doors in 2018

Cryptocurrency Hedge Funds Might Be Closing Their Doors This Year

It seems that several cryptocurrency hedge funds will be closing their doors this year. This is according to Anthony Pompliano, co-founder of Morgan Creek Digital. On a twitter thread, Pompliano wrote that several cryptocurrency hedge funds are going to shut down in the next 12 months. However, this is not because of the reason that most of us would think about.

He starts the thread explaining how cryptocurrency hedge funds work and how they manage investors’ funds. Most of the time, these hedge funds trade actively and charge a small management fee & incentive fee. In general, hedge funds charge 2% management fees.

Pompliano explains that the incentive fee is calculated at the end of the year on the profits that were generated by the fund, but in general, this fee is close to 20%.

Clearly, during 2017, hedge fund managers benefited greatly since the crypto market experienced an incredible bull run. In 2017, Bitcoin moved from under $1,000 dollars to $20,000 in December 2017. If a cryptocurrency hedge fund raised $20 million dollars and turned them into $100 million dollars, the fund manager would take $16 million dollars from incentive fee.

However, hedge funds have something called ‘high water mark.’ This water mark clause states that fund managers cannot take an incentive fee unless the fund is above any previous year’s high water warm, explains Pompliano.

He says that the high water mark is the highest amount of value that the fund was previously worth. In the example that Pompliano gave, this water mark would be $100 million dollars. That means that the fund manager would not be rewarded if the fund was below $100 million dollars in December 2018.

It would be very difficult this year for hedge funds to achieve better results than the last year when the market is more than 70% down. In consequence, there will not be an incentive fee for crypto fund managers. Pompliano explains that hedge funds can raise more capital, ‘ride the bear market out’ or shut down the fund.

There are some crypto hedge funds that are currently raising funds because this money will not be subject to the high water mark from the last year. In a bear market like this one, these hedge funds would need the market to be four times higher than where it’s now. In 2019, we don’t know what can happen to the crypto market.

Other cryptocurrency hedge funds will likely shut down since they know that they will be working just for their salary without incentive fees.

The cryptocurrency market  has experienced a hard year. At the moment of writing, the total market capitalization is $209 billion dollars and several virtual currencies are down more than 90%.

In the future with new investments from institutions, the market could recover and reach new all-time highs.

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