It’s amazing to look back at how far we have come in the seven short years since XBTO grew from an ambitious vision into an established leader in global finance.
Back in 2015 we pooled our financial acumen and decided to serve as a crypto liquidity provider to the very thin and Bitcoin-dominated marketplace of the time. The promise of blockchain was there, but almost none of the necessary infrastructure was in place to bring it to its potential.
We branded as "XBT Opps", named after Bitcoin’s original ticker, XBT and ‘opportunities’. It was an exciting time, building relationships, experiencing the growing-pains and working alongside some of the most brilliant and dedicated pioneers in crypto. At XBTO, our task was to create market depth and consistency. In a word “liquidity”. We built the connections so that counterparties could always find a trading partner and so the markets never turned off.
As time went on, we ran our own book and began to focus more on taming volatility and improving price for our institutional partners. We made markets and provided liquidity to some of the largest exchanges. We’ve also been at the forefront of derivatives trading and involved early with some of the most well-known DeFi protocols.
In 2017 we began to expand into venture capital in the crypto space with XBTO Ventures. We also launched the XBTO Humla fund in 2020 to manage accredited investor capital.
We were early investors in Deribit exchange and are now jointly launching the first institutional-grade OTC block-trading and communications platform for crypto-derivatives with Paradigm. We also recently invested in Lukka, providing software solutions to streamline the middle and back-office functions of global finance.
Humla focuses investment on some of the most promising disruptive players and segments in crypto, for example we made an investment in Valkyrie who sponsored the second Bitcoin Futures ETF and also just announced the first bitcoin mining ETF with a strong emphasis on GSE responsible companies.
XBTO was one of the main sponsors of Bitcoin 2021 and Bitcoin 2022. In April of last year we opened our Miami office, then in September, we announced our partnership with Inter Miami CF as their first-ever jersey sponsor. This was done in co-ownership with entrepreneur Jorge Mas and soccer star David Beckham and was among the largest Major League Soccer sponsorship deals to date.
Our "Origin Story" goes into a great level of detail about our past activities, but we continue to grow every day since then. One of the most significant landmarks of this past year has been the opening of our regulated and licensed digital assets platform, through our company Stablehouse.
Early on we set “the democratization of money” as our end goal at XBTO. The Stablehouse retail platform brings us a step closer. It presents a large cohort of investors with a very easy, user-oriented way to participate in a wide range of cryptocurrencies and stablecoins.
XBTO sees no shortage of opportunity in the future. We will continue to grow with an open mind to all the possibilities of crypto and invest wherever we can make the most meaningful impact.
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The full breakdown
In our first article, "Navigating Crypto Volatility: The Advantages of Active Management," we explored how the high volatility and low correlation of digital assets with traditional asset classes create unique opportunities for active managers. We discussed how these characteristics enable active managers to execute tactical trading strategies, capitalizing on short-term price movements and market inefficiencies. Building on that foundation, we now turn our attention to the unique market microstructure of digital assets.
Conducive market microstructure of digital assets
The market microstructure of digital assets - a framework that defines how crypto trades are conducted, including order execution, price formation, and market interactions - sets the stage for active management to thrive. This unique ecosystem, characterized by its continuous trading hours, diverse trading venues, and substantial market liquidity, offers several advantages for active management, providing a fertile ground for sophisticated investment strategies.
24/7/365 market access
One of the defining characteristics of digital asset markets is their continuous, round-the-clock operation.
Unlike traditional financial markets that operate within specific hours, cryptocurrency markets are open 24 hours a day, seven days a week, all year round. This continuous trading capability is particularly advantageous for active managers for several reasons:
- Immediate response to market events: Unlike traditional markets that close after regular trading hours, digital asset markets allow managers to react immediately to breaking news or events that could impact asset prices. For instance, if a significant economic policy change occurs over the weekend, managers can adjust their positions in real-time without waiting for markets to open.
- Managing volatility: Continuous trading provides more opportunities to capitalize on price movements and volatility. Active managers can take advantage of this by implementing strategies such as short-term trading or hedging to mitigate risks and lock in gains whenever market conditions change. For instance, if there’s a sudden drop in the price of Bitcoin, managers can quickly sell their holdings to minimize losses or buy in to capitalize on the lower prices.
Variety of trading venues
The proliferation and variety of trading venues is another crucial element of the digital asset market structure. The extensive landscape of over 200 centralized exchanges (CEX) and more than 500 decentralized exchanges (DEX) offers a wide array of platforms for cryptocurrency trading. This diversity is beneficial for active managers in several ways:
- Risk management and diversification: By spreading trades across various exchanges, active managers can mitigate counterparty risk associated with any single platform. Additionally, the ability to trade on both CEX and DEX platforms allows managers to diversify their strategies, incorporating different levels of decentralization, regulatory environments, and security features.
- Arbitrage opportunities: Different venues often exhibit price discrepancies, presenting arbitrage opportunities. For example, managers can buy an asset on one exchange at a lower price and sell it on another where the price is higher, thus generating risk-free profits.
- Access to diverse liquidity pools: Multiple trading venues provide access to diverse liquidity pools, ensuring that managers can execute large trades without significantly impacting the market price.
Spot and derivatives markets (Variety of instruments)
The seamless integration of spot and derivatives markets within the digital asset space presents a considerable advantage for active managers. With substantial liquidity in both markets, they can implement sophisticated trading strategies and manage risk more effectively.
For instance, as of August 8 2024, Bitcoin (BTC) boasts a daily spot trading volume of $40.44 billion and an open interest in futures of $27.75 billion. Additionally, derivatives such as futures, options, and perpetual contracts enable managers to hedge positions, leverage trades, and employ complex strategies that can amplify returns.
Overall, the benefits for active managers include:
- Hedging and risk management: Derivatives offer a powerful tool for hedging against unfavorable price movements, enabling more efficient risk management. For instance, a manager holding a substantial amount of Bitcoin in the spot market can use Bitcoin futures contracts to safeguard against potential price drops, thereby enhancing risk control.
- Access to leverage: Managers can use derivatives to leverage their positions, amplifying potential returns while maintaining control over risk exposure. For instance, by employing options, a manager can gain exposure to an underlying asset with only a fraction of the capital needed for a direct spot purchase, thereby enabling more capital-efficient investment strategies.
- Strategic flexibility: By integrating spot and derivatives markets, managers can implement sophisticated strategies designed to capitalize on diverse market conditions. For instance, they may engage in volatility selling, where options are sold to generate income from market volatility, regardless of price direction. Additionally, managers can leverage favorable funding rates in perpetual futures markets to enhance yield generation. Basis trading, another strategy, involves taking offsetting positions in spot and futures markets to profit from price differentials, enabling returns that are independent of market movements.
Exploiting market inefficiencies
Digital asset markets, being relatively nascent, are less efficient compared to traditional financial markets. These inefficiencies arise from various factors, including regulatory differences, market segmentation, and varying levels of market maturity. For example:
- Pricing anomalies: Phenomena like the "Kimchi premium," where cryptocurrency prices in South Korea trade at a premium compared to other markets, create arbitrage opportunities. Managers can exploit these by buying assets in one market and selling them in another at a higher price.
- Exploiting mispricings: Active managers can identify and capitalize on mispricings caused by market inefficiencies, using strategies such as statistical arbitrage and mean reversion.
The unique aspects of the digital asset market structure create an exceptionally conducive environment for active management. Continuous trading hours and diverse venues provide the flexibility to react quickly to market changes, ensuring timely execution of trades. The availability of both spot and derivatives markets supports a wide range of sophisticated trading strategies, from hedging to leveraging positions. Market inefficiencies and pricing anomalies offer numerous opportunities for generating alpha, making active management particularly effective in the digital asset space. Furthermore, the ability to hedge and manage risk through derivatives, along with exploiting uncorrelated performance, enhances portfolio resilience and stability.
In our next article, we'll delve into the various techniques active managers employ in the digital asset markets, showcasing real-world use cases.
