Industry Updates

ETF Wrap: Crypto is terra-fied

The terra implosion, virtues of minimum volatility ETFs and the passive-market inefficiency debate made headlines this week

Jamie Gordon

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Terra exchange-traded products (ETPs) grabbed headlines for all the wrong reasons after falling as much as 99%, in a moment of reckoning for crypto assets.

The 21Shares Terra ETP (LUNA) collapsed 99% on Thursday, falling to 0.01 Swiss Francs from 22.29 Francs on 6 May. After the TerraUSD (UST) stablecoin decoupled from its US dollar peg, the price of Terra’s sister coin Luna also crashed sending the VanEck Terra ETN (VLNA) and Valour Terra (LUNA) ETP into a freefall.

According to Bloomberg Intelligence, Thursday’s Terra plunge marked the worst single day of performance of any ETP in history and trumped the 93% single-session drop of the VelocityShares Daily Inverse VIX Short-Term ETN (XIV), which was forced to shut in 2018.

Unfortunately for digital asset proponents, the storm was not confined to terra – as illustrated by bitcoin falling as low as $25,800 on Thursday, 57% down from its highs last November. Interestingly, this is back to a level seen almost a year ago, where bitcoin floating around $30,000 drew the gaze of dip-buying investors.

The furore within crypto ETP land would no doubt be louder if wrapped terra products existed in the US, however, the reluctant stance of Securities and Exchange Commission (SEC) chairman Gary Gensler, and his sceptical counterparts at the Financial Conduct Authority (FCA), will no doubt look somewhat justified after the events of this week.

Looking ahead, it will be interesting to see how such moments impact the enthusiasm of US, UK and EU policymakers in their ongoing efforts to bring crypto assets within the regulatory fold – and ultimately offer more avenues for access to the general public.

The keep calm factor 

Outside of crypto, the picture is not so rosy either, with a slowdown in western economies, central bank interest rate hikes, inflation remaining at alarming levels and the longest US equity drawdown since 2016 all painting a sobering picture.

This week, Deutsche Bank found web searches of the word ‘recession’ are already at their third-highest level in a decade – and responding to this, analysts from a series of banks and research firms have pitched in with their suggestions for how to hedge against the potentially choppy waters ahead.

Whereas the COVID-19 drawdown in 2020 lasted just 33 days, the recent market peak was 3 January, meaning the current drawdown has already been four times as long with more headwinds on the horizon. Reacting to this, papers from Citi, Investment Metrics and Piper Sandler, all suggested recession-conscious investors should consider going more defensive with ETF portfolio factor construction – and look towards low volatility strategies.

As part of this, Citi argued exposures with correlation to low volatility – such as quality, high dividend, certain single countries and even water thematics – tended to outperform other factors during the half year after the last six times US industrial activity inflected, meaning they have a track record of shielding portfolios from economic slowdowns.

Incidentally, ETF Stream nominated a low volatility, high-income strategy as its ETF of the month for April.

Passives equal inefficient markets? 

Elsewhere this week, research from the Universities of California and Minnesota argued stock market elasticity – how reactive share prices are to supply and demand – fell by -35% between 2004 and 2016, with the rise of passive investing alone accounting for a 15% decline. 

In the US, the share of passive funds has grown from 0% in 1990 to 15% in 2019, according to the research. Meanwhile, the share of active funds fell from their peak of 20% at the turn of the millennium to 15% in 2019.

The paper adds to a chorus in recent years accusing passives of taking a market-agnostic view, allocating capital with far less sensitivity to issues such as company balance sheets or corporate stewardship, with AllianceBernstein famously describing the rise of index-tracking behemoths as “worse than Marxism”.

Many, including Rob du Boff, ESG analyst at Bloomberg Intelligence, believe the long-term investing habits of passive users tend to encourage more thoughtful engagement with companies in the long run while the gradual roll-out of democratised voting rights should hand more engagement powers to end investors over time.

ETF Wrap is a weekly digest of the top stories on ETF Stream

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