IIP-7 CoinShares Gold and Cryptoassets Index Lite Version (CGCI-LV)

Simple Summary

The CoinShares Gold and Cryptoassets Index Lite Version (CGCI-LV) is an adaptation of the original EU Benchmark Regulated index launched by the CoinShares Group in 2020 (see here: https://coinshares.com/products-services/index-strategies) that only includes ERC-20 tokens in order to be compatible in a tokenized index smart contract.

Since the original CGCI is constructed using physical gold and 5 individual cryptoassets some re-engineering of the initial structure was required, whilst ensuring that the core theory and value proposition was preserved. The CGCI-LV therefore deploys the same theory but instead limits the index to 3 ERC-20 token constituents; a gold stablecoin and 2 cryptoassets.

For the gold basket, wrapped-DGLD (wDGLD) was chosen as the ERC-20 gold stablecoin. For the cryptoasset basket wrapped-bitcoin (wBTC) and Wrapped-Ether (wETH) were selected based on being the largest and most established cryptoassets.

Abstract

Academic research conducted in partnership with Imperial College London found that a pairing of gold and cryptoassets in a way that accounts for their risk contribution delivers a risk-adjusted return profile that is superior to holding gold or cryptoassets alone. The CGCI-LV is designed with the aim of providing diversified exposure to the alternative asset space in a way that yields a superior risk-return profile when compared to holding such assets in isolation while being orthogonal to traditional financial markets. Accordingly, the Index must:

1. Be comprised of a small number of liquid, investable constituent assets
2. Exhibit a relatively stable composition of asset weights that do not vary dramatically between rebalancing periods, leading to low turnover
3. Utilise some means of principled risk control leading to lower volatility
4. Be specified in a clear and unambiguous manner to facilitate validation and reproducibility
5. Hold constituent assets on a long basis only
6. Not make use of leverage.

Motivation

Two noteworthy characteristics of the returns of non-stablecoin cryptoassets are their high volatility, which brings with it a high level of risk, and their high intraclass correlation, which limits the benefits that can be had by diversifying across multiple cryptoassets. Yet cryptoassets exhibit no correlation with gold, a highly-liquid yet scarce asset which has proved to function as a safe haven during crises affecting traditional financial systems.

Although volatility poses challenges in terms of increased uncertainty, there are also benefits to be had from its proper management through diversification and regular rebalancing (Bouchey et al., 2012, The Journal of Wealth Management. Volatility harvesting: Why does diversifying and rebalancing create portfolio growth?). This is exemplified by the so-called Shannon’s Demon approach in which two, ideally uncorrelated, assets – at least one of which is highly volatile – are periodically rebalanced to maintain an ideal target allocation. The resulting expected growth rate is greater than the arithmetic mean of the individual expected growth rates, while the variance of the returns is less than the mean of the individual variances (Poundstone, 2005. Fortune’s Formula.).

The CGCI-LV is a low-volatility index that utilises the concept of volatility harvesting through (a) forming a basket of cryptoassets and (b) combining it with gold using weighted-risk contribution as a rebalancing mechanism. By decreasing volatility levels, it seeks to yield superior risk-adjusted returns when compared to a number of alternative strategies, including holding cryptoassets or gold alone. Further, it presents a moderate turnover, which should translate into moderate operating costs.

Size of opportunity

This index has already gained a lot of demand and CoinShares is currently investigating opportunities to deploy the index as an investable benchmark in its passive products business. Additionnaly, the index is likely to be well received by the native crypto community and is expected to be picked up by CEXs to offer it to their users.

Liquidity commitment

Liquidity and assets will be committed. The gold stablecoin issuer will also commit assets and liquidity.

Differentiation

While there are several existing cryptoasset indices that offer broad exposure to crypto assets through market capitalization weighting, they have proven to be limited in risk diversification due to the high correlation among cryptoassets and are characterised by a volatility close to that of a single cryptoasset. CoinShares developed the index to bring more effective risk control to cryptoasset index products.

Statistics

Annualised Return: 0.4604

Annualised Std Dev: 0.2498

Annualised Sharpe (Rf=0%): 1.8431

Annualised Sortino (Rf=0%): 3.0473

Annualised Avg Turnover: 1.0233

Year-to-Year Return (%): 60.9701

30-day High: 7355

30-day Low: 6635.82

Return Since Inception (%): 632.248

On-chain liquidity analysis

All assets are supported by on-chain liquidity providers and committed resources will be mandated to maintain liquidity for the CGCI-LV.

Fee Split

CGCI-LV will have an annual streaming fee of 0.60% (60 basis points). Revenue from the annual streaming fee will be split with 60% to CoinShares, 40% to the Index Coop.

Methodology

Constituent Weighting:

For the constituent weighting, we examine each constituent’s native asset (i.e. for wrapped-bitcoin we investigate bitcoin, for wrapped-DGLD we investigate DGLD, etc.). We follow a bi-level approach that involves studying the historical volatilities of a crypto-basket (containing BTC and ETH) and gold (DGLD), separately in order to inform the crypto-gold asset allocation decision.The Index is calculated following a two-stage allocation scheme that involves:

1. Computation of the historical volatility of (a) the Equally weighted crypto-basket, and (b) DGLD;
2. Asset allocation among the crypto-basket and DGLD expressed as the bivariate weighted risk contribution problem.

Rebalancing schedule:

In order to fully capture the diversification benefits of the time varying correlations between gold and the cryptobasket, a monthly rebalancing frequency is employed. Constituent weights are announced on the last business day of the running month. The rebalancing is employed on the first business day of the following month

Index Calculation:

In the CGCI-LV, the crypto-basket is formulated as an Equally Weighted basket of 2 defined cryptoassets, each with a weight of 0.5. The crypto-basket price base level is set on 100 on July 1st, 2015. The Index base level is set on 1 000 on January 1st, 2016

Author background and commitment

The CoinShares Group is a pioneer in digital asset investing and manages more than $1 billion in assets on behalf of a global investor base, with offices in Jersey, Stockholm, London, and New York. Over the last seven years, the firm has built innovative, regulated, institutional-grade products and services backed by robust research. This legacy started with the first regulated Bitcoin fund in 2014, and continues today via the XBT Provider ETP offerings and other asset management and trading services built by the Group. For more information on CoinShares, visit: https://coinshares.com/.

The Group originally launched the CGCI in May 2020 and was the first EU Benchmark Regulations (EU BMR) compliant index for the digital asset industry that combines digital assets and gold. The index is now live on Bloomberg Terminals (ticker: COINCGCI) and Refinitiv (ticker: .COINCGCI).

Reference

Index Whitepaper: https://coinshares.com/assets/index-strategies/koutsouri-poli-alfieri-petch-distaso-knottenbelt-marble-2019.pdf

Original CGCI Methodology: https://coinshares.com/assets/index-strategies/CGCI-Methodology.pdf

Stress Testing the original CGCI: https://coinshares.com/products-services/index-strategies

Original CGCI Benchmark Statement: https://coinshares.com/assets/index-strategies/CGCI-Benchmark-Statement.pdf

Index Coop Work Teams Analysis

Index Coop work teams recommend a FOR vote on the CGCI-LV. https://gov.indexcoop.com/t/iip-7-work-team-analysis/557

Voting

• FOR - Accept CGCI-LV into the Index Coop.
• AGAINST - Do not accept CGCI-LV into the Index Coop.