Cryptocurrency index funds allow investors to gain diversified exposure to the digital asset market at a relatively lower cost.
But what about index funds for other asset classes — particularly for digital assets?
Cryptocurrency index funds represent a new and exciting way for investors to gain exposure to the digital asset market and are rapidly growing in popularity among both traditional and crypto-native investors.
In this article, we will take a closer look at some of the most popular cryptocurrency index funds available today, including their pros and cons, as well as general information about how they work — helping you make a more informed investment decision.
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What Are Traditional Index Funds?
One of the main benefits of index funds is that they offer low-cost investment options compared to actively managed mutual funds. This is because index funds follow a passive investment strategy, which requires fewer resources and therefore results in lower operating costs. As a result, traditional index funds typically have lower expense ratios — more on this later.
Investing in traditional index funds is a simple way to gain diversified exposure to a broad market or specific sector, with the potential to achieve returns that closely track the benchmark index. The low-cost nature of these funds also makes them an attractive option for long-term investors who seek to build wealth over time.
Crucially, index funds are not designed to outperform the underlying index they track, but to mimic its returns as closely as possible.
What Are Crypto Index Funds?
While traditional index funds are a well-established investment medium, cryptocurrency index funds remain an emerging investment option. They also operate in vastly different regulatory environments, with traditional index funds typically being subject to heavy regulatory scrutiny, whereas cryptocurrency are regulated differently based on the jurisdictions.
How Do Crypto Index Funds Work?
Cryptocurrency index funds work by investing in a basket of different cryptocurrencies, rather than individual assets.
By investing in an index fund, investors can gain exposure to a broad range of coins and tokens in a single swoop, rather than having to pick and choose individual assets to invest in. This helps to both diversify risk and reduce the barrier to entry.
Index funds are often managed by professionals, who will make decisions about which coins to include in the portfolio to align with the index it is tracking, and when to re-balance the fund. These are known as actively managed funds and typically track specific sectors or indexes. They can offer greater returns but often have higher fees.
Cryptocurrency index funds have a variety of fees associated with them. But the most important are the management fees, expense ratio and performance fees.
- Management Fee: This is a fee charged by the fund manager for running and maintaining the fund — typically charged as a percentage of the assets in the fund. For example, if you invested $100,000 in a fund with a 1% management fee, the yearly management fee will be $1,000
- Expense Ratio: This is the total cost of operating the fund, expressed as a percentage of the fund's assets. It is the total of all the fees associated with running the fund — such as management fees, administrative costs and other expenses.
- Performance Fees: Some funds charge an additional sum if the fund outperforms a specific benchmark. This often ranges between 10-20% of profits above the benchmark.
Cryptocurrency index funds take the research and decision-making burdens off of individual investors and make it easy to speculate on a broad range of cryptocurrencies at once.
Cryptocurrency index funds can be described as either ‘off-chain’ or ‘on-chain’ based on the way they are accessed.
Benefits and Risks of Cryptocurrency Index Funds
Cryptocurrency index funds are popular among traditional investors since they provide a simple way to gain exposure to the price action of cryptocurrencies and crypto companies without needing to understand the technicalities of acquiring and securing digital assets.
Besides this, they also have a range of other potential benefits:
- Low Minimum Investment: Many cryptocurrency index funds either have a low or no minimum investment requirement. This can make them attractive to those setting up a relatively small portfolio or looking to deploy small amounts of capital regularly — e.g. by dollar-cost averaging.
- Simplified: By eliminating the manual effort involved in securing, storing and managing cryptocurrencies, cryptocurrency index funds can be attractive to those that prefer a hands-off or simple investment approach.
- One-Shot Diversification: Cryptocurrency index funds provide price exposure to potentially dozens or even hundreds of crypto assets in a single investment vehicle. This makes diversification within crypto much simpler.
- Cost-Efficiency: Rather than needing to buy, store, and manage multiple separate crypto investments, cryptocurrency index funds wrap this into a single investment, making them extremely cost-efficient.
That said, they’re not without their risks. Some of the most prominent risks and drawbacks that can come with investing in a cryptocurrency index fund include:
- Volatility: Cryptocurrencies are typically highly volatile. This can see the value of cryptocurrency index funds fluctuate considerably over a short time period — potentially leading to sizable losses for investors.
- Lack of Regulation: The regulatory environment around cryptocurrencies is still evolving. Some cryptocurrency index funds may not be subject to the same level of oversight as traditional investment funds, which can increase the risk of fraud or mismanagement.
- Lack of Liquidity: Some cryptocurrency index funds may have limited trading volume, making it difficult to buy or sell shares in the fund without significant slippage.
Crypto Index Funds vs Crypto Mutual Funds
Cryptocurrency index funds and cryptocurrency mutual funds are both investment vehicles that allow investors to gain exposure to the cryptocurrency market.
However, there are some key differences between the two.
While cryptocurrency index funds aim to track the performance of a specific cryptocurrency market index by investing in a basket of cryptocurrencies weighted in a manner that reflects the composition of the index, cryptocurrency mutual funds are actively managed by a fund manager who makes active decisions about which assets to invest in.
This can include deciding the portfolio composition and asset allocation, as well as investment timing and risk management practices. Because of this, they are considered actively managed, whereas crypto index funds are passively managed.
Popular Cryptocurrency Index Funds
The cryptocurrency index fund landscape is still relatively small, but there are a number of well-established funds that track different crypto sectors or strategies.
Some of the most popular currently include:
- Bitwise 10 Large Cap Crypto Index Fund: This index fund includes the top 10 largest cryptocurrencies weighted by market capitalization.
- CoinShares Blockchain Global Equity Index: Tracks the performance of companies worldwide that have significant exposure to blockchain technology.
- Grayscale Bitcoin Trust: This index fund primarily includes Bitcoin, but may also include other cryptocurrencies in the future.
- Galaxy Crypto Index Fund: This index fund includes a variety of cryptocurrencies, with a focus on the top performers in the market.
- The DeFi Pulse Index (DPI): Tracks the most popular Ethereum-based decentralized finance (DeFi) protocols and tokens.
- Binance CoinMarketCap Top 10 Equal-Weighted Index: This index tracks the top 10 cryptocurrencies on CMC (excluding stablecoins), and is equally weighted and rebalanced on a monthly basis to reflect the most recent market movement.
Cryptocurrency index funds can vary considerably in the types of assets they track, how they are rebalanced, participation requirements, fees and more. Because of this, it’s important to do your due diligence and research before investing in one.
Learn about index fund tokens, here.
Where to Buy Cryptocurrency Index Funds?
Instead, they are typically traded on asset management platforms. Some of the most popular platforms for trading cryptocurrency index funds currently include:
- Bitwise: Offers a variety of low-cost index funds tracking top crypto market caps, with diverse portfolios and easy investment options.
- ICONOMI: Platform offering index funds based on a basket of cryptos weighted by market cap, with a user-friendly interface and low fees.
- Coinshares: Coinshares’ index funds track the top crypto market caps, with low management fees and diversified portfolios. Offers physically-backed funds for added security.
- Bitfund: Bitfund's index funds are based on a basket of cryptocurrencies and track the performance of the top cryptocurrencies by market capitalization. Its low management fees are one of its standout features.
- Fidelity: Well-established platform offering index funds tracking top crypto market caps. Known for its reputation and reliability, it also provides custody and trading services.
- Uniswap: For on-chain crypto index funds like the DeFi Pulse Index, it can be bought directly on DeFi platforms, with DPI having the most liquidity on Uniswap.
- Binance: The Binance CoinMarketCap Top 10 Equal-Weighted Index can be bought directly on Binance, and the auto-invest feature is available for users interested in DCA.