Portfolio Adviser • Portfolio Adviser Magazine June 2022 • Crypto crashes in wake of terra collapse

● Viability of digital currencies market is called into question as more and more investors rush for the exit

● PGIM brands digital currencies ‘portfolio kryptonite’ and ‘a poor choice for long-term investors’

Major digital currencies including bitcoin and ether saw their prices tumble after the collapse of the terraUSD (UST) stablecoin and its support coin luna.

The implosion of UST, a token that used an algorithm to maintain its dollar value, has set alarm bells ringing.

Many cryptos have not lasted the pace since digital coins first arrived in 2009. But the terra stablecoin was seen as an unexciting token that simply tracked the dollar. In theory, it shouldn’t have been vulnerable.

Its sudden collapse has called into question how the entire crypto market will function in future. In early April, luna peaked at $116 (£92.8), helped by strong interest from retail investors. But a month later its value sunk to zero after its sister token, UST, collapsed in value.

The ‘algorithmic’ stablecoin attracted $80bn of investor money with promises of token- based returns of 20% per annum. When it was clear these returns were not going to happen there was a dash to exit.

The impact was severe. The valuation of exchange Coinbase crashed and the price of bitcoin fell below $30,000 for the first time since last summer. A far cry from its high of more than $68,000 in November 2021.

A number of big investment houses have been sceptical of the unregulated asset class, with PGIM describing it as “portfolio kryptonite”. It said the luna collapse “highlights just one of the many reasons why cryptocurrency is a poor choice for long-term investors”.

Chief executive David Hunt said it met none of PGIM’s investment criteria: a clear regulatory framework, an effective store of value, and predictable correlation to other sectors.

PGIM research shows crypto is also an unreliable portfolio diversifier and an inadequate safe-haven asset or inflation hedge. Recent risk-adjusted returns are not much different than other asset classes but with greater drawdowns.

Additionally, the unsettled regulatory backdrop and considerable ESG concerns pose significant headwinds for long-term investors.

“Crypto may be a heroic quest to build a viable, decentralised peer-to-peer payment system, but its pricing is based on speculative behaviour, rather than a fundamental thesis around its value or utility,” said PGIM’s head of thematic research Shehriyar Antia.

Investors’ appetite for the white-knuckle ride that is crypto investing might be severely supressed right now. The ‘fear of missing out’ mindset may no longer have the same pull.

Clara Medalie, research director at cryptocurrency market data provider Kaiko, said: “Investors are taking a wait-and-see approach to how the aftermath plays out.”

The crypto world is not unfamiliar with market shocks. Last year, it went into meltdown following China’s expulsion of crypto miners and traders.

Emma Wall, head of investment research and analysis at Hargreaves Lansdown, believes the market will continue to develop but which names will be left standing after a probable shake-out is open to debate.

“We do think crypto will find a place in the financial system in some form, given the interest by large companies and governments. However, it’s unclear which of the thousands of currencies will retain their value in the future and what role they will play in finance.”

IN NUMBERS

$68,990

$30,412

-36.33%

REGULATORY ROUND-UP

● Money market funds look set for a shake-up after the Financial Conduct Authority (FCA) and Bank of England, with the backing of HM Treasury, published a discussion paper seeking views on reform proposals. Increased selling pressure, volatility and illiquidity in March 2020 pushed financial watchdogs to assess the systemic risk they pose to the economy.

● The US Securities and Exchange Commission (SEC) has fined BNY Mellon Investment Management for ‘mis-statements and omissions’ regarding ESG investment processes in a number of funds. The regulator also issued a warning to other firms guilty of similar ‘greenwashing’.

● The FCA issued another warning to consumers about the risks associated with investing in cryptoassets and non-fungible tokens (NFTs). This comes amid a crypto meltdown, with coins such as ether, dogecoin and avalanche suffering huge price collapses. Bitcoin is now less than half its peak value, while ‘stablecoin’ terra has collapsed.

● Allianz Global Investors has admitted defrauding US investors and agreed to pay more than $6bn (£4.8bn) in fines and restitution. The SEC found that three portfolio managers materially misled investors about the significant downside risks associated with Allianz Global Investors’ US Structured Alpha funds.