If you’re lucky enough to be a bright hedge fund portfolio manager with 10 or 20 years of experience, who could blame you for wanting to run your own shop? Now, more than ever, many of these talented investors are being drawn into managing digital assets for understandable reasons. The space is both among the most volatile (the largest coins typically have 70% annualised volatility, smaller tokens even more), the most liquid ($300 Billion daily volume vs U.S. listed equities with c. $500 billion) and Bitcoin has higher risk adjusted returns (Sharpe ratio) than most big name tech stocks like Amazon, Alphabet, Netflix and Meta.
Surely there’s money to be made?
Despite the crypto market’s apparent attractiveness to traders, most crypto hedge funds struggle to get off the ground, let alone make their founders rich. At the start of last year, the average pure-play crypto fund was managing less than $30 million in AUM (assets under management),
and 80% of funds were running less than $50 million.
Crypto funds v traditional hedge funds assets undermanagement
Source: Old Street Digital/Prequin.Pro/Coinbase
Management and performance fees are still healthy for those managers offering funds that invest in cryptocurrencies, stubbornly clinging on to the 2/20 structure that has been under pressure for traditional hedge funds. But even so, according to Galaxy’s Vision Hill crypto fund database, 35% of all funds (250/713) closed during the bear market of May 2022 to December 2023. The economic reality of running your average crypto fund is stark. Assuming a 2% management fee, a $30m AUM fund can only count on $600,000 in annual revenue. After the cost of setting up and maintaining a proper fund structure and staying on the right side of regulators and auditors, precious little is left to pay investment staff the sort of salaries they were accustomed to in the “traditional” world. Things look a bit better at these funds when markets are hitting new highs and performance fees are factored in. A 20% management fee in a good year (say +25%) could bring in $1.5 million but split between a half dozen staff that’s little consolation compared to the $500k+ that’s routinely offered to investment staff at established traditional hedge funds. However, performance fees only materialise when a fund’s Net Asset Value (NAV) is above its previous “high water mark”, so many managers will have only started to get paid for performance when Bitcoin passed $70,000. Some managers running diversified long-only strategies are likely to still not be above their high-water marks from 2021/2022, as the market cap of crypto tokens other than Bitcoin is currently 1.1 trillion, well below the $1.6 trillion peak of November 2021.
So why do managers struggle to raise AUM?
After countless conversations with institutional investors, the reasons become clear:
To start, most institutional investors from “early adopter” segments like family offices and endowments have little, if any, in-house knowledge of blockchain technology. Unlike in other asset classes, the vast majority of investors are starting from a position of zero knowledge and the process of getting comfortable enough to make an allocation can understandably take years. Of the small percentage of institutions that do have an interest in the space, it typically comes from an existing staffer volunteering to field inbound calls from crypto funds. He or she likely owns a little Bitcoin personally and as a result gets the nod to be “our crypto person.” This person always still has a day job, so crypto gets relegated to what’s affectionately referred to as “magic time” that exists only when your day job is done. Incidentally, at one of the largest public pension funds in the U.S., their “crypto guy” is a real estate specialist. While one day this could lead to an allocation, it isn’t a clear path to building real institutional knowledge and the confidence that most investment committees need to make a serious commitment. The second factor that comes into play has already been addressed - manager size. For many institutions that do want to allocate to a crypto fund, they often find that their minimum ticket size violates in-house “concentration limits”, or the maximum percentage of a manager’s AUM that their investment represents (e.g. “we can’t be more than 15% of the entire fund’s total AUM”). This leads crypto fund managers to try to assemble precipitous “club deals” where any single allocation is dependent on other allocations coming in at the same time. If done well, this could grow a manager’s AUM dramatically. Sadly, the stars rarely align and the crypto fund world is littered with club deals gone awry. The third and final nail in many crypto fund coffins is, again, size related. Because most managers are new, thinly resourced and struggling survive their operational controls and processes often don’t meet institutional requirements. There just aren’t enough resources to build the risk management and back-office infrastructure that investors expect. Furthermore, digital asset managers use a stable of service providers that institutions have never heard of, meaning that nearly every step of the ODD (define official due diligence) process requires detailed and tech-heavy diligence. This is particularly painful when the allocation in question would make up only 1-2% of the investor’s portfolio.
So why do investors bother?
In sum, cryptos have all of the characteristics that should allow active managers to add value. It’s a fast-moving and tech-heavy space where genuine subject matter expertise can produce outstanding returns. Market prices are volatile and inefficient, and there aren’t yet any “industry standard” approaches to token design or valuation despite the fact that more than 300 crypto businesses have generated meaningful, verifiable revenue in the past year (DefiLlama). Few institutional investors are knowledgeable enough about the space to do it themselves, and there are hundreds (if not thousands) of managers vying for their business. So, what needs to change to transform crypto investing from a cottage industry into an asset-gathering powerhouse? There’s no doubt that the industry is more mature today than it was even 24 months ago, but there’s a lot still to be done. Necessary consolidation will bring talented but sub-scale managers together, gradually solving the ‘chicken or egg’ issue of concentration limits. Managers will gradually learn the value of investor education over ‘dialling for dollars’. And, like in other asset classes, AUM inflows will be won by the largest and best-resourced managers - not necessarily the ones with the best returns or most brilliant portfolio managers. Fund of funds will also likely become more important to help bridge the knowledge gap between crypto markets and investors. With that said, these funds will struggle with many of the same difficulties of scale and investor knowledge as individual managers.
What now then?
In short, there is indeed a multi-billion dollar prize for crypto fund managers that’s yet to be won, and brilliant returns for investors that are willing to be early. But make no mistake. It’s still early days in the crypto hedge fund world and the economics for managers rarely matches the ambitions of their founders.
Crypto hedge funds promise immense opportunity, yet most remain trapped in a paradox - offering some of the highest volatility and liquidity in financial markets but struggling to attract institutional capital. But, why? AUM remains too low for sustainable fees, institutions lack crypto expertise, and operational weaknesses deter serious investors. If the crypto market is as inefficient and fast-moving as believers claim, why haven’t more funds thrived? Will consolidation and fund-of-funds models unlock institutional adoption, or will only the largest players survive? The prize is massive, but can crypto fund managers escape their own structural limitations before the industry matures without them?
This article first appeared in Digital Bytes (25th of March, 2025), a weekly newsletter by Jonny Fry of Team Blockchain.