When crypto winter ends and investment activity blossoms once again in the digital assets space, financial advisors should be prepared to hear a new litany of questions from clients about the risks and opportunities in cryptocurrencies.
But are they ready to answer the key questions, and how much do they really need to know? We explore that in today’s issue.
Crypto Thaw May Be Premature but Advisors Should Prepare for Winter’s End
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The days are slowly getting longer, the birds are singing outside my window and the price of bitcoin hit $23,000 for the first time in months. Could it portend the end of the crypto winter?
As someone who has spent many years of my life living in northern climes, I have a healthy skepticism of early signs of the end of winter. Just when you think winter is over, a big storm blows in and snows the town into submission for a day. Still, there are few financial assets outperforming the 25% or so rise enjoyed by most crypto tokens in recent weeks, and the speculative zeal is starting to return.
“If an RIA doesn’t have a strategy in place, the advisor will end up telling clients to go to some place like Coinbase to invest their assets themselves,” said Goeke. “As a fiduciary, that’s not good enough. We can’t just tell people to throw their money blindly over here or over there. We should be giving them a couple of alternatives.”
But traditional finance, including the wealth management industry, suffers from a knowledge gap when it comes to digital assets. Investors – especially younger, newer investors – often come into an advisory relationship knowing far more about cryptocurrencies and even non-fungible tokens (NFT) than their financial advisor.
“I think that investors learn the terminology, but most people do not really understand a lot of the technology they are investing in, they just understand the end thing,” Goeke said.
For example, an advisor or client might stumble upon a token supporting a new blockchain-based payment method that clears in 10 seconds, much faster than the two-day average for credit cards. While it’s easy to understand the value in faster payment settlement, it’s unnecessary to understand how exactly the blockchain works.
But how much, exactly, does a financial advisor need to know?
At a bare minimum, advisors need to be able to explain why 1% to 5% of a client portfolio should be in digital assets, according to Goeke, and how those assets can be held with the advisor through a separately managed accounts (SMA) or with an outsourced service like Khelp Financial.
In some circumstances, instead of actually buying or selling a cryptocurrency like bitcoin directly, which involves setting up a crypto wallet and navigating through complicated exchanges, futures contracts allow investors to indirectly gain exposure to bitcoin and potentially profit from its price movements.
There are three main components to a crypto futures contract.
Expiration date: This refers to the date when the futures contract must be settled. In other words, one party has to buy, and the other has to sell at the pre-agreed price. It’s worth noting, however, that traders can sell on their contracts to other investors before the settlement date if they wish.
Units per contract: This defines how much each contract is worth of the underlying asset and varies from platform to platform. For example, one CME bitcoin futures contract equals 5 bitcoins (denominated in U.S. dollars). One bitcoin futures contract on Deribit, however, equals 10 U.S. dollars worth of bitcoin.
Leverage: To increase the potential gains a trader can make on their futures bet, exchanges allow users to borrow capital to increase their trading size. Again, leverage rates vary greatly between platforms. Kraken allows users to supercharge their trades by up to 50x, whereas FTX reduced its leverage rates from 100x to 20x.
There are also two different ways futures contracts can be settled.
Physically delivered: Meaning upon settlement, the buyer purchases and receives bitcoin.
Cash-settled: Meaning upon settlement, there’s a transfer of cash (usually U.S. dollars) between the buyer and seller.
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Crypto markets regained the $1 trillion capitalization mark for the first time since November.
Disclaimer: The information contained in this newsletter, and any information linked through the items contained herein, is not intended to provide sufficient information to form the basis for an investment decision. You should seek additional information regarding the merits and risks of investing in any cryptocurrency or digital assets.
