Building a Multi Fund Crypto Strategy Diversification Across Thesis, Strategy, and Vintage

0:00 All right, guys. Um, most of you probably cannot see the intros on the screen. So, maybe we'll allow our panelists here to give a quick intro of themselves and how they were able to get into a multistrap format and a little bit of context on their background. >> Uh, yeah. So, thanks for having me. Uh, my name is Ray. I'm the co-founder of L1Z. L1D is a Swissbased crypto fund. We allocate to uh funds on the liquid side and we do uh direct venture deals as well.

0:30 I'm Joe Miranda. I uh run crypto research and hedge fund research for Cambridge Associates. Uh we invented the endowment model about 50 years ago. Managed about $680 billion on behalf of endowments, foundations, and pensions and sovereign wealth globally. All of my answers will be given from the context of the way we deploy capital, which will be to venture and crypto hedge funds, not to directs. Uh, I'm Paul Yablon.

1:00 Uh, I run Room 40 Capital. We are a multistrat liquid hedge fund focused on the crypto markets. Um, I spun out of more capital which, uh, was a global macro hedge fund and, um, having traded pretty much every asset in the world, uh, wallet more and in my previous life, um, now I'm focused solely on crypto and cryptoreated securities. All right. Um, because we're missing one panelist today, I'll probably fill in a little bit on the questions as well. Um, my name is David. I run Inception Capital. I was previously at KBY leading institutional investments and also fund investing. So, we run a venture strategy early stage as well as a fund of fund strategy ourselves. Uh so just really wanted to kick it off by asking the panelists here what are some of the investment opportunities you see today and how do you sort of navigate the current landscape and to just make it spicy we don't want anyone to agree with each other so like try to have different perspectives and really just give everyone a very unique view on what you're seeing in the market.

2:06 Um so so from a top down perspective the um we've been um we've had high conviction during this cycle so far so um you know um December 1st 2022 till today that the opportunity set was uh in liquid investing in crypto. Um and reason being uh was um that there was a misallocation of capital that was very prevalent. Uh in 20 uh 21 and 2022 um institutions in the US and and all over the world uh created a crypto VC bubble uh that is uh still being digested as we speak and that uh disparity between aums in VC versus liquid was very very large to a point where liquid was the uh the place to be.

2:54 uh we haven't done as well as we could have uh due to that bitcoin dominance uh that was prevalent and the fact that fundamentals came from stratfi and you know the flows u but I think that today um liquid active crypto as management is interesting and probably in a year's time uh VC will become interesting again. >> Yeah. So Ray and I are um sometimes in opposition on this one. Um but it's really I think a reflection of uh the types of volatility that client portfolios can handle. Um I agree that there has been a traditional like sort of a crypto overhang on on VC structures. They are still for most institutional investors the easiest way to access the sector. Um and that's for a couple of reasons. Um, frankly between us, humans like to buy high and sell low.

3:52 That is not news. But what is difficult when you have a high volume asset like this is um you can't really control when they get excited because they only get excited in bull markets. And so they get excited to invest. Now the problem is that I know that if I put them in a liquid vehicle, they're going to redeem at the worst possible moment. And so I put them in venture structures so that they can't redeem. Um and then there's this other interesting behavior um with humans which is once something goes into privates, they tend to stop paying close attention to it. Uh partly because they know they can't do anything about it. Um and so you can allow um the crypto uh managers accumulate uh over long periods of time uh because they can't redeem and they aren't paying attention to it. And so it actually works out really really well. And so one of the things that I've always found challenging with, you know, Ray's approach is like how do you actually keep the investors invested um because they really do want to sell at the bottom.

4:51 I completely disagree with Joe here. So Paul, can I disagree with him for a bit and then I'll pass it on to you? >> Okay. All right. So, uh the data doesn't show that at all. Um I can tell you that um you know Joe is underestimating um you know sophisticated investors out there. uh since 2022 since the beginning of the cycle the major inflows have been from Swiss pension funds in our liquid product today to a point where it represents 15% of the AUM and some of them came in uh late but the the way they view that position which is very volatile is that they view it when you know when when you've corrected significantly during uh a 2022 they view that position as an out ofthe- money option automatically. And you know, humans don't like to get rid of an out- of-the- money option. When you view your liquid crypto as an out-of-the-oney option, you you and and if crypto continues to be volatile, the probability that you get back into um in the money is pretty high. And this is what uh has happened. The opposite happens when things uh when things explode to the upside. you have uh a structure in Switzerland where all those positions are added to the alternative uh investment bucket. That alternative investment bucket is capped to 15%. Most of it is composed of illquid trfy strategies. So if you come up and give them uh you know let them allocate 50 base points or 1% to something that has venture like returns that is liquid they're able to control their DPI so as soon as they go beyond that 15% as soon as that position which happened uh the first Swiss pension fund invested in 2019 after the first cycle their position was up uh 8 to to 10x they were forced to sell and essentially they were forced to sell high but then came back in after 2022 and they were forced to to buy low.

7:00 So I'm not going to agree with Joe on this one. Um those are the data points that I see. Maybe it's a Swiss phenomenon. I'm not Swiss by the way. Um but uh so I'm not biased but yeah. So volatility in crypto historically um was very different from most other assets that people are involved with. And when we put together Room 40 um part of our goal was to institutionalize the product. And what does that really mean?

7:36 um as it relates to this discussion, it means harnessing that volatility and controlling that volatility. Big money, pensions, you know, uh and and other institutions can't stomach the volatility of of even owning Bitcoin ETFs. So um you know we developed a multistrat approach so that we could give consistent returns um with much lower volatility and and so our multistrat approach means that you know a portion of your portfolio is is long or short the major assets. Um, but then there's there's other parts of the portfolio that are more involved in arbitrage related activities that can generate excess yield and and you get a blended return and hopefully very limited downside. We've been able to achieve that in our our nearly four years of doing this. Um, and I I think that's a more appealing thing for most investors. Probably more appealing than, you know, 10x. 10x is great, but if it's 10x and then 10% of X, that's not something most investors can handle. And I think that's, you know, as you, as you kind of look at the landscape now, institutions are dying to get into crypto. Um, and you see it in the equity markets. Um, you kind of see Tradfi eating crypto, which is the exact opposite of what we all thought would happen four years ago. We thought crypto would eat Trady, and it's kind of happening the opposite way. Um and and I think if you talk to most of these institutions um they are indeed interested in the space but trying to figure out a safe way to do it, a way to do it that they're not going to lose their jobs.

9:32 >> Yeah. I mean just to tack on to that um so we run a fund that both invests in venture and liquid. So we try to give our LPs a balanced portfolio and we're ultimately the ones that decide when to redeem um both on liquid um and obviously when venture gives us DPI. So I think having a small sleeve of liquid allows us to give DPI faster to our LPs. You know it's 11-year fund vehicle but they're able to get DPI as early as fund as year four because of our liquid position. So gives our LPs a lot more flexibility with their capital and um within each capital call um they're able to get their DPI a lot faster. And similarly with our ventor vehicles like we have a small sleeve of that in liquid so it can give that DPI a lot faster that they can really redeploy their capital into future funds or other sort of portfolios into our selection. So I guess a lot of you guys talked about sort of the needs of the LPs and the clientele. Would you mind sharing some insight on sort of what are sort of the clients needs currently and how you tackle those needs into sort of the strategies that you're running today?

10:34 So I'm going to do a polit a politician um pivot here and reframe the question to one that I can answer easily. Um we have a cryptovc benchmark and this will get to actually your point. So we have a cryptovc benchmark um and cryptoc 135 and 10 has just absolutely destroyed traditional VC. The median cryptoc manager has returned exceptionally good numbers compared to traditional VC. Um, so you really just needed an exposure to you didn't even have to be good at picking your crypto VC to be honest. You just picked one and you probably did great relative to traditional VC. Um, and that uh led a lot of folks to think well you know there's clear alpha here and there is and I should be invested in the space and there is but then they run into a problem which is crypto VCs have a hard time giving back money. So the numbers the topline IRRs look great. the DPI looks terrible except for the small funds that are required to give back money to make the money that they want to make uh personally. So there's very good alignment on the small fund size to returning capital because management fees aren't making them rich but return of capital does make them rich but the larger VCs are holding on to the capital and what I don't understand even though I tell them this apparently I'm not communicating clearly to them if you give back the money you get money and unless you give back the money you can't get more money and so the the cryptocs are holding on to it because numbers go up and they're like this things going to a million like great that's great you are not going to raise another fund if you don't get back the money and they still don't get back the money so um I'd say that you know even though we see great alpha and and profitability on these total positions we're not seeing a return of capital and this is actually going to hobble the next round that's currently right now of fundraising amongst the crypto VCs and so they are not able to raise the money because they're not giving back the money even though they're sitting on really good at least returns from at least some of their positions which honestly sets up better returns going forward from the more liquid focused strategies because they aren't dependent upon a return of capital to fund the private investments that are going to happen in the future.

12:51 >> It's also partly that the market isn't deep enough for them to realize the numbers that they're reporting. So if they go to try and create liquidity, they're just going to knock down their performance. So they'll sell a partial and then they'll have worse returns. So they have a conundrum. Do they market higher returns with no capital returned or do they accept that their returns are a little bit overstated? Yes, except they're not even selling their Bitcoin and ETH. So they really just don't want to sell. Uh and this is sort of like a where crypto needs to grow up and understand how Tradfi invests and how Tradfi, which actually has all the money uh relative to us, uh works. And if you don't play the game, you're going to have one fund and then there's going to be no other funds. So if you got Bitcoin and ETH and soul and other stuff in your portfolio, you really need to sell it. And then you will find magically that your LPs and new LPS will appear because you've proven that you give back money. All traditional institutional portfolios are under a huge liquidity squeeze. And the complaint I hear over and over again is simply that they're not getting money out of the privates. and privates are 35 to 50% of the portfolio now. So, if they don't give back money, they don't get more money. And it's going to be um a major impediment to future fundraises by any crypto VC that does not return capital.

14:15 >> Um yeah, I think Joel made a good point earlier on like big funds or small funds. Obviously, I'm biased. run a smaller vehicle and I think the biggest advantage is running a smaller vehicle is that we can liquidate any of our positions fairly seamlessly without really impacting the market too much. Um so we love to see Ray if you have any thoughts on on that on the small versus larger vehicle sizes and what you're seeing in the market today.

14:40 >> Yeah. Um so I mean you you've got that um that effect that is prevalent in crypto which is uh you know the transformation of founders and GPS once they've succeeded. Um you know wealth is created very quickly sometimes in crypto and that changes that uh changes incentives and you see it among founders you see it among uh you see it among GPS as well. So and and the reality is that um maybe 5 to 10 5 to 10% of really well selected GPS out there or or funds are able to generate alpha. Most of them do not generate alpha. That's the reality.

15:24 And so if you are lucky to have one fund that outperforms and you you're able to make sure that that that fund despite all the success that they've had, they're still um in a mission and and have a north star, then you keep that position and you keep it large. You double down on that position. That is something that I believe in, but that's again very very scarce. So you might as well uh try to find the next winners. Uh you're going to have a higher number of emerging measures that will succeed, but you need to monitor them very aggressively, especially when they're successful. Uh so you know, good measures out there in crypto are very very rare. It's very scarce. Uh unfortunately, size is not the only answer. It makes it much easier. I'm with you. Um, but you need to consider uh, you know, uh, consider it from a bottom up uh, perspective.

16:22 >> Got it. Got it. I think Joe gave really good input and perspective to and advice to some of the GPS out there. Um, would love to hear, you know, other than sort of like the DPI side of things. um what other advice do you have for some of these young emerging managers that are able to build out a legacy fund and sort of what are some of the steps that they need to do to get there and what are some of the things I need to watch out for. So specifically our fund of fun invest in like emerging managers. So you know we definitely you know want to find more of these guys out there and hopefully they can be successful down the road too. So any of you guys want to take that?

16:58 >> I'll just give one quick one and then I'll hand it off. Um so the behavior when when people get rich fast well if it happens in their mid20s it's a question of what happens after that but uh assuming they get through that what I've seen this behavior of well I raised $100 million fund last time so I want to raise a $200 million fund this time oh and now I want to raise a $400 million fund oh and now I want to raise a five like because they think that like the amount of capital they manage somehow validates their I don't let's not get into the psychotherapy of that whole thing But it is absolutely not the way to generate great returns. I think Paul, you know, like I bet you're focused on sharp.

17:38 >> I'm just focused on making money. >> Okay. Same thing. Uh but the point is that like just >> I'm not losing money. >> Not losing money. Therefore, you're focused on sharp. So the the point is that just fund sizes should not be the metric by which you measure your success. The multiples that you return to your LPs and the DPI that you return to your LPs is the measurement of your success. And I have seen so many fund managers in across the board fail by feeling that they have to raise ever larger amounts. What you're good at is typically defined by where you're able to find those investment opportunities.

18:11 And that typically means you are capital constrainted. And it doesn't matter whether it's a hedge fund or a long only fund or we're talking crypto or not. Once people move out of the area where they've historically been able to generate these exceptional returns to a larger asset base, they move out of the things that they have made made the most money in and then returns suck. And once your returns suck, LPS move on and they do not come back to you. It does not matter if you rejigger your fund and go back to the thing that made you great.

18:37 LPs never forget bad performance. >> I'm You're looking at me. I'm not going to disagree with you. You have to disagree. >> I had somebody I had somebody recently ask me. He was you know because I run a small crypto fund and look I have a lot of my own money in it and I I care about keeping it at a size that I can exactly do what you say which is not suffer style drift. And of course in the strategies that I manage they are somewhat constrained. And and I was I was telling somebody at one time I managed over two billion dollars at more and I I feel like you know it it to in macro once you go across a billion and you you things change it's just harder to get in and out of positions and I'm not exactly sure where that threshold is in crypto because I haven't hit it yet but you know once I do we will stop taking new capital for that exact reason is that we don't want to suffer style drift and I don't want to become something that I'm not good at. Um like for me I it's it's I want to win. Like that's that's all we want to do. And and so um I I do agree with what you're saying.

19:56 So in the at least in the Asian markets I've noticed that um a lot of the best performing liquid funds are actually entirely prop. So just back to your point earlier like what is the amount of distribution of like how you how much you should commit from a GP commit perspective both on the venture on the liquid side you know Joe what what have you seen historically the numbers have been and how performance has been as you increase more on the GP commit versus a lower commit.

20:25 >> Yeah the it's it's actually interesting it's a there's no clear rule on this one. um you know, new funds, they can't commit much more than 1 or 2% because they just don't have any money. Um then we had an extreme example where the GP took up a third of the venture fund and it was a big venture fund. So that didn't help. Um but it showed commitment. It just left no room for anybody else. So don't do that either.

20:46 Um, I think it's it's just more of a, you know, the best alignment comes when they're making money off of the total funds returned to the LPS. And so the GP commit becomes less it becomes more it's more of a signal at that point. Um it's very hard though from just an institutional perspective if you trying to get something past investment committees or trustees you know and the GP's committed like 1% and you know it's clear that they're very rich everyone's like what's what's the deal here are they really just taking advantage of you so there's signaling value in that I don't think that there's any specific number uh that actually says whether or not this is a great manager or whether they're going to be great other than the total return on the fund the GP commit is more or less a signal that the GP is like invested alongside the LPS. Uh but small funds you have automatic alignment because they don't make any money if the LPs don't make money.

21:45 >> Any of you guys want to touch on that on the liquid side? >> Yeah, I mean it's you said that perfectly. You know, you you want alignment. I mean, gosh, I've been doing this for I've been on it's going to be my in August, it'll be the 40th anniversary of my first job on Wall Street and like OPM other people's money. Uh, some people play that game really well. I think as an investor, you want to avoid that. You might, it might work, but over time, you know, you're going to get caught in some bad stuff.

22:20 So, uh, I think finding alignment with the manager is is is uber important. I mean at the end of the day it it depends on uh the the way we break down those type of measures. We've got what we call GPA and GPBs. GPA are the GPS that are still running the fund irrespective of those of the size by optimizing for a performance right and um you know the successful ones will have large funds um your typical GPB which is and and you know it's hard right if you start running a billion dollars uh in in crypto um or you get to a billion dollar through performance you've been successful you're incentivized to um crush the volatility in a way because yeah it's attractive to uh to uh run the firm and the fund to prioritize management fee. I mean it's easy right? So you collapse the um the um uh the volatility of the fund, you hire, you overhire, you over delegate because now you're wealthy, you've got other interests, right? And it's absolutely normal. Um and so you always look at those signs. Did the team expand significantly? Is the risk taker still the primary risk taker or has he become a risk manager? If he's become a risk manager, you're going to see the portfolio construction get completely transformed. It becomes over diversified and so your alpha uh you've got massive alpha decay and this is you know the move from a small GPA to a GPB is very typical and happens most of the time.

24:00 >> Got it. Got it. And for some of these emerging managers out there um how do you guys evaluate this type of investment opportunity um to take this type of underlying risk? they may or may not have some performance track record from the previous firms, but I definitely have never really managed other people's money. Um, it's really their first go at it. Maybe Joe. >> Uh, okay. So, uh, the one of the things I like many I love many things about crypto, but one of the things I love about crypto is that the reference checks are actually useful. Uh, and that's because the people you're referenced checking are typically like the entrepreneurs and the founders and the protocol development people and they're all engineers. Um, they're probably somewhere on the spectrum.

24:40 That's a compliment. Um, and they will just be honest with you like with no filter. They will tell you exactly what they think about the VC or the hedge fund or whatever it is and whether or not they were helpful and did what they said they were going to do. And then they tell you about other funds that you aren't even asking about. So, they're wonderfully honest. And if you do a Tradfi reference check with like a third-time founder for a venture fund or somebody who runs a public company, it's like talking to a politician. You're like, "What the hell did What did I just like?" You don't even need to actually do the reference check at this point because they are so nuanced in what they say.

25:17 You can read it 12 ways from Sunday. But crypto reference checks, they just tell you exactly what they think in like 30 words. So much shorter than what I just told you. So the point is that crypto still is not smooth and it makes it really easy to do your diligence in ways that you cannot do due diligence in Trafy and it's wonderful and I hope it never changes. >> Any of you guys want to share anything on the liquid side?

25:49 >> I I don't diligence managers so they diligence me. So I'm not sure what they do but But don't you diligence investment opportunities though on the >> Yeah. Yeah, we do. We diligence in and we diligence privates as well from in our venture fund, but I I I can't add much to this. >> Yeah. Ray, I mean, you run a liquid fund of funds, right? So, >> yeah. So, I would say uh we're in the lookout for uh new skill sets. um you know as you know if there's a constant in crypto is that it's evolving all the time and um uh you know I mean the the performance attribution across the liquid space in Q2 had nothing to didn't like the the the the space didn't even exist in Q1 or in Q4 of last year. Uh and so you need to if you want to run um a multistrat effectively you need different skill sets that uh enables you to capture what's hot in crypto at the time whether it's opportunistic or long-term and I would say you know during the last cycle for example uh you know that we uh we were looking for uh a small team an emerging manager that was very fundamental in nature uh looked at protocols in a very different way uh and uh that aligned with that fundamental al meta that we're going through today. And so we're looking for um skill sets and the potential of an edge out there um to fund some of those.

27:12 >> So so for our fund we actually look for something pretty interesting is that like we look for competitive value ad, right? So I think there's a interesting conundrum within crypto is that like some of the best investors might not even be able to get into the round, right? Especially at the earlier stage, right? I think you know a lot of these emerging managers it's actually pretty easy to diligence on like what value ad can they provide above of everyone else right that helps them be able to get into these early stage rounds that kind of are able to out bid other managers um and I know we're a bit out of time here so wanted to sort of take the last couple minutes to just allow you guys to share what are some of your predictions for the future of like fund management and how do you see sort of the landscape evolving going forward both on the liquid venture side.

27:59 >> I think Joe's going to disagree with me on that one and u but I think I the prediction is that um and and Paul will probably disagree as well but the prediction is that uh liquid while passive crypto is dominated by Tratfi. Liquid active crypto will be dominated by native uh crypto manager and uh trfy has no chance uh in active management in crypto. Huh? Not sure. I'll think about that.

28:31 Uh, okay. So, predictions. So, uh, you know, this is still disruptive technology. We are still very very early in its roll out. So, I still think that venture will have, uh, crypto native venture will continue to play an important role for our portfolios. Uh, and I would expect returns to decline just over time. we've kind of seen the easiest money frankly you know when you had to roll out a bunch of L1s like throw money at four of them and three of them worked uh so that worked out great um I but I so I do expect venture to remain important I would expect though for both the liquid and the venture side more of focus on risk management we have been so much in this you know number go up world where it's an 80% ball and it definitely goes down that if we actually saw better risk management out of uh liquid and uh venture structures, you would actually see more capital flowing into the space because most LPs simply cannot take an 80% down. Uh so if we actually saw venture structures which have liquid portfolios after about 3 years doing better risk management, we would see that and I think when we start to see more risk management out of the liquid side, you will see a lot more institutional capital. Look to replace mostly beta hedge funds with the alpha that you can get out of crypto.

29:49 Yeah, as it relates to what Rey is saying, um I I I think that the the liquid crypto traditional liquid crypto manager who's a native um is suffering uh from the fact that money is flowing in from traditional asset managers into c- into crypto. equities and and any kind of crypto that has been equitized. So whether it's an ETF or a treasury company, um the flow of money is coming from the traditional sources, not from the cryptonatives. And in many ways, you know, the crypton natives lost a lot of their money and the traditional managers have trillions.

30:37 And I I I think uh as time goes on um and we get more regulatory clarity and more of an ability for uh there to be access points into the liquid broader liquid crypto space beyond just the majors. Um you will see a lot of performance from those native managers. But I I think those native managers are are going to be absorbed into the traditional uh financial architecture and the future is that is not that crypto will be separate from traditional finance. It will be merged with traditional finance.

31:14 So those managers which we now call crypton natives those are just like early stage tech managers in a particular segment of technology. Um and uh and I agree that risk management and and an ability to uh to produce consistent returns will be rewarded over time and it will be desired over time and and and volatility for sure in the entire space is going to be lower. Um you know implied volatility in Bitcoin is half of what it was um you know two years ago. And I think it's going to all merge and look a lot more like the volatility in traditional tech stocks.

31:57 All right, thanks guys.