Washington Awakens: This Is What Alpha Looks Like

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By Matthew Hougan

“Alpha” is the rarest commodity in the world.

Investopedia defines alpha as “an investment strategy’s ability to beat the market,” or its “edge.” It’s rare because markets are competitive. To unlock alpha, you need to know something the market doesn’t.

That’s hard. There are hedge funds, institutions, and high-frequency trading firms with vast experience and billions of dollars lined up against you.

Good luck!

This is why index investing is so popular and why active fund managers mostly fail to beat the market. Over the past 10 years, nearly 90% of active managers have trailed the market, according to Standard & Poor’s.

I am a true believer in indexing. I help manage the world’s largest crypto index fund, and wrote the foreword to Eric Balchunas’ book on Vanguard founder Jack Bogle, widely considered “the father of index investing.”

But every once in a while I see something in the market that smells like alpha. And when I do, there is nothing more exciting.

One of those moments is now.

The Shot Heard Nowhere in the World

As readers of this memo know, there has been a significant change in Washington’s attitude towards crypto over the past month.

For the past few years, crypto has largely broken down on partisan lines. The GOP has been broadly favorable toward crypto, while big segments of the Democratic Party have been hostile.

As evidence of Democratic hostility, consider Senator Elizabeth Warren (D-MA), who announced her plans to “build an anti-crypto army” last March. It doesn’t get more hostile than that.

But crypto has been building political muscle in recent years, including assembling one of the ten largest political action committees in Washington.

It appears that effort has paid off.

The shift started on May 8, when 21 Democrats crossed the aisle in the House to vote for the repeal of SAB 121, an absurd rule put in place by the SEC that effectively prevents large banks from custodying crypto assets. Days later, 10 Senate Democrats (including Senate Majority Leader Chuck Schumer) joined the GOP to vote for its repeal. It was the first piece of positive legislative action on crypto in U.S. history.

Then, on May 20, a stunning 71 Democrats joined 208 Republicans to vote for FIT21, a comprehensive piece of crypto legislation that would (among other things) grant primary oversight of crypto to the crypto-friendly Commodity Futures Trading Commission (CFTC).

Adding to the momentum, the SEC—led by Democrat-appointed chair Gary Gensler—approved filings to list spot Ethereum ETFs, something few expected this spring.

To be clear: Crypto still has a long way to go, politically speaking. On Friday, President Biden vetoed the SAB 121 repeal, defying the growing bipartisan majority in both houses of Congress.

But even this is a minor setback. We’ve been sailing upwind for a decade in crypto. Finally, the winds have started to change.

Why This Is Alpha

The reason this smells like alpha to me is that, outside of the crypto bubble, no one cares.

I’ve been on the road speaking at conferences for the past few weeks and, try though I might, I cannot get this story to resonate with people. I talk about the votes, and Warren’s anti-crypto army, and the surprise progress on Ethereum ETFs, and people’s eyes glaze over.

The story is too complex, and the impact too far removed. After all, no policies have actually changed in Washington yet. SAB 121’s repeal was vetoed; FIT21 is unlikely to make it through the Senate before the elections; and the Ethereum ETFs haven’t actually launched.

The tide has changed, but the water hasn’t come in yet. Wake me up when the action happens.

But here’s the thing: If people understood the ramifications of the shift in D.C., the crypto market would be at new all-time highs.

Let me give you an example.

Financial advisors in the U.S. manage an estimated $20 trillion in wealth. Each year for the past six years, we’ve asked these advisors to share what’s preventing them from having greater exposure to crypto in their portfolios. And for five consecutive years, the top answer has been the same: regulatory uncertainty. That was Headwind Number One for 64% of advisors in our most recent poll. That bears repeating: nearly two-thirds of advisors.

Imagine, then, how much of that $20 trillion will go into crypto when the biggest barrier gets lifted.

Or take Wall Street. In recent years, some of the largest banks have either backed away from crypto or tiptoed into the waters for the very same reason. For example, The Bank of New York, Nasdaq, and State Street Bank each announced plans to launch crypto custody services in the past two years, only to shut down those initiatives in the face of regulatory uncertainty.

If you think BlackRock’s move into the crypto space positively impacted the market, imagine if all of Wall Street accepted crypto as a normal part of the market. Talk about mainstream.

The market will wake up to the fact that we are in a new era for crypto, and when it does, I suspect it will move the industry towards all-time highs. But until it does, there may just be some alpha laying around.

Risks and Important Information

No Advice on Investment; Risk of Loss: Prior to making any investment decision, each investor must undertake its own independent examination and investigation, including the merits and risks involved in an investment, and must base its investment decision—including a determination whether the investment would be a suitable investment for the investor—on such examination and investigation.

Crypto assets are digital representations of value that function as a medium of exchange, a unit of account, or a store of value, but they do not have legal tender status. Crypto assets are sometimes exchanged for U.S. dollars or other currencies around the world, but they are not currently backed nor supported by any government or central bank. Their value is completely derived by market forces of supply and demand, and they are more volatile than traditional currencies, stocks, or bonds.

Trading in crypto assets comes with significant risks, including volatile market price swings or flash crashes, market manipulation, and cybersecurity risks and risk of losing principal or all of your investment. In addition, crypto asset markets and exchanges are not regulated with the same controls or customer protections available in equity, option, futures, or foreign exchange investing.

Crypto asset trading requires knowledge of crypto asset markets. In attempting to profit through crypto asset trading, you must compete with traders worldwide. You should have appropriate knowledge and experience before engaging in substantial crypto asset trading. Crypto asset trading can lead to large and immediate financial losses. Under certain market conditions, you may find it difficult or impossible to liquidate a position quickly at a reasonable price.

The opinions expressed represent an assessment of the market environment at a specific time and are not intended to be a forecast of future events, or a guarantee of future results, and are subject to further discussion, completion and amendment. The information herein is not intended to provide, and should not be relied upon for, accounting, legal or tax advice, or investment recommendations. You should consult your accounting, legal, tax or other advisors about the matters discussed herein.