Excess Returns No Coincidence For Coincident Capital
San Francisco-based cryptocurrency hedge fund manager Coincident Capital is aptly named. Not only do the founders believe that it’s no coincidence that they have found a way to work together – the management team of CEO Bryce Gilleland, Chief Investment Officer Wen Hou and Chief Operating Officer Sunil Shah all worked in other jobs before teaming up to start Coincident in 2019 – but the launch of their first fund in March of this year coincided with a spike in Bitcoin volatility in the middle of the month that would unnerve even the most staunch Bitcoin believer. On March 12th, the Bitcoin Historical Volatility Index increased from 66.46 to 112.01, a rise of 45.55 or 68.54%, due to a precipitous decline in the BTC price as investors rushed to liquidate some of their investments (regardless of asset class) due to the panic brought on by government lockdowns designed to halt the spread of Covid-19.
The volatility of Bitcoin, and cryptocurrencies generally, is often cited as a primary reason why institutional investors shy away from allocating to the asset class. For Coincident, however, they see the volatility as an ally and say that managing it is the key to generating alpha.
“If you manage the volatility of cryptocurrencies through a consistent set of trading and risk management rules, volatility can be a huge advantage,” says Gilleland. “Crypto moves in a manner that’s six to ten times more volatile than equities, for example, but we adapt our risk controls specifically to the cryptocurrency market. We’ve been able to gain outsized returns while limiting our downside because of that.”
Gilleland, Hou and Shah started managing money for friends and family in 2016 and have been active in the space as retail investors since 2014. They’ve been advocates of technical analysis since they began trading, and examining the charts is a significant part of the foundation they have built in order to look for a signal to enter or exit the market. They don’t, however, use that as the exclusive trigger.
“We look at signals that the charts are showing us, and market indicators, and then we compare that to broader policy trends that are developing. We look at open interest levels on Bitcoin futures, we look at news of innovation of crypto assets – we even look at Twitter so we can see what crypto market participants are saying. All of this rolls up into our decision as to whether to make a trade,” says Gilleland.
Like many other crypto hedge fund managers, Coincident trades primarily Bitcoin and Ethereum not only because of the liquidity they offer but because of how Coincident trades; they are short to medium-term swing traders and take large positions which rules out much of the rest of the cryptocurrencies available to them.
“Our trading is 85% - 95% in those 2 coins because of the liquidity. It’s not unusual for us to be in a position for several days, sometimes weeks, because of the way we trade. But we need to be able to close our position quickly if necessary,” Gilleland says.
Managing the volatility that is inherent to the crypto trading world takes many forms. They are immediately notified of large price movements, in case they need to quickly place a trade, and predominantly trade using perpetual swaps not only for hedging but also for the ease of shorting and convenience of not having to roll a typical futures contract. The human analysis still provides the bigger picture view to guide Coincident towards a decision, however.
“While rare, if you’re in the crypto world a 10% move can happen in minutes,” said Gilleland. “But after it happens, we reflect on why. If it’s a negative move, was it an exchange hack? Was it a government announcement banning crypto or setting up their own? On the upside, was it systematic momentum buying? “We look at the prevailing medium-term narrative and decide on whether it’s a news blip or whether there is really something more fundamental going on. This is where we feel that our experience in crypto markets is an advantage.”
Raising money for crypto hedge funds is difficult; not only do fund managers have to sell against the volatility objection but capacity in crypto funds is perceived to be small and there is distrust in the security of exchanges and the custody of the underlying cryptocurrencies for those purchasing on a spot exchange. Gilleland encounters all of these objections but believes that the ever-evolving nature of the industry means that they are shorter to medium-term objections which will eventually be made redundant as the industry matures.
“What’s happening now is that the technologies used in the industry are better equipped to withstand the rigour that an institutional investor conducts their due diligence with. Brand-name firms like Fidelity now have offerings in the space and we now have prime brokerage type offerings as well. Also, people who are known for being responsible investors like Paul Tudor Jones, Mark Yusko and Michael Novogratz are making positive comments about Bitcoin. It’s important to understand that it’s still a nascent industry but it’s evolving rapidly,” Gilleland said.
Coincident is investing in this technology to make itself more appealing to institutional investors which set high bars for risk and operations management; it’s also looking at the DeFi (decentralised finance) space – “it’s definitely something we want to get involved in,” says Gilleland – and the team is building algorithms with a view to launching a systematic-based product that manages risk even more tightly. In the meantime, however, Gilleland, Hou and Shah will be pushing the message that even though cryptocurrency investing is comparatively new, as in traditional asset classes, expertise and experience counts for much.
“We’ve been managing money in the crypto space for almost 7 years now,” said Gilleland. “There are stories out there about crypto hedge funds that launched and closed but many of them were wall street managers who tried an equity model on cryptocurrencies, and it didn’t work. We grew up – trading wise – in the crypto markets. We’ve managed external money through periods of extreme volatility. I think that experience is a key differentiator for us.”
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