Dr. Anna Becker
Co-Founder, CEO. Leads the Artificial Intelligence and Machine Learning teams at EndoTech
Dr. Chiara Longo
Chief Economist at Pareto.Network
Portfolio Recipes for Crypto Markets
4-18-2018

Last year Crypto showed extreme potential for profits ranging from 10% to 1,000% per annum. Of course, in such a young and weakly regulated market, this high potential carried considerable risk. We recently analyzed risk and reward in this new environment. In this article, we seek to identify a good investment recipe fit to compete with traditional Buy-and-Hold investment.

As with any domestic project from baking a cake to buying a car, investing in cryptos demands a plan. Think about it this way: when you need a new car, you don’t approach a dealer’s with a fistful of dollars and say ‘give me a vehicle’. This would be a recipe for disappointment; the performance will turn out lower than you expected (you got a compact when you wanted an SUV) or the miles per gallon rating will make the car uneconomical (you’re stuck with the fuel consumption of a Monster Truck when your budget was more in line with a hybrid).

In short, you need to do your homework, define your preferences, prepare a plan and execute it.

Let’s review the steps needed to build a workable approach for investing in the crypto market:

The steps described above are shown in the following figure, which represents the EndoTech (“ET”) methodology:

Let’s analyze each step in the EndoTech methodology:

1. Risk/Reward profile.

The potential investor hopes for, or better yet, expects big profits with a low probability of losses. But the uncertainty of Crypto trading — especially in Crypto-markets — compels investors to temper such expectations.

Before jumping in, the wise investor decides on their ‘pain tolerance’: large exposure to market risk or accepting that a lower return is a price to be paid for lower risk. Once this is known, progress can be made.

The right answers require the right questions. We don’t ask what investors want most since this is inevitably the highest achievable profit with zero losses. We want instead to know what investors have least tolerance for and build appropriate strategies on these constraints.

The following diagram summarizes an investor’s preferences in terms of exposure to the market (in this case, to the Bitcoin, as the data so far supports the hypothesis that it’s a good proxy of the dynamics of the market).

Alpha Portfolio: Alpha is perceived as a measurement of a portfolio’s profitability. Choose among Alpha portfolios if you are not averse to higher risks which might generate a higher profit.
We offer a methodology of daily rebalancing signals to produce a profit from both bullish and bearish patterns. This methodology holds in all but one type of market — the sidewise market, or sharp reversals during one day. Backtesting this approach gave the following results:

The benefits of ET Majors Alpha compared to Buy-and-hold Bitcoin were:

  • Profiting on Volatility – both up and down trends
  • Almost double the profit — annual profit of 1,000% when Bitcoin showed 360% annual profit
  • Reduced Risk (26% instead of 66%)

Beta Portfolio: Beta is a measure of the security of a portfolio in comparison to the benchmark asset or the market as a whole. Choose among Beta portfolios if you prefer lower risks yielding moderate profits. We offer you a methodology of daily rebalancing signals to profit from bullish patterns while staying away from bearish patterns.

Benefits of ET Majors Beta compared to Buy-and-hold Bitcoin:

  • Reduced Risk (21% instead of 66%)
  • Loosing less on down moves. The peak near the Bitcoin peak
  • Closing Profit is, therefore, higher than buy-and-hold

Overall, annual profits of 700% compared to a 360% Bitcoin annual profit. Where it suits investors to do so, capital can be split between Alpha and Beta portfolios to diversify risk.

2. Choosing Assets

Assessment of investor’s preferences is a function of the choice of assets to be included in the portfolio. The decision is made after evaluating how much each asset contributes to the opportunity, how liquid it is, and how risky it is.

In such a young market, one asset does not dominate the other, with the exception of a few top majors. Instead, it seems more logical to differentiate with respect to a sector, technology, and type of asset. My portfolios mix Majors and Minors, sectors, and add Gold, commodities and fiat currencies with relevant leverage.

3. Choosing appropriate ET Signals

Given the high volatility of the crypto market, the buy-and-hold strategy is rarely the winning one; for now, at least. Using AI/ML algorithms to identify patterns, we can spot which assets are breaking out and when, their time frames, and their correlation. Everything to determine what the optimal return targets are, whilst simultaneously minimizing losses. More on this subject in our upcoming blog post on Coin Rating.

4. Choosing ET Allocation

In choosing how much capital to allocate to each portfolio asset, in order to get the risk/reward combination in line with the investor preferences, the main instrument available in finance is the Capital Asset Pricing Model (CAPM).
This model, used in traditional markets for more than fifty years, simply expresses the expected return on a security or portfolio as a function of the market risk premium, reduced by a factor (β) that represent the risk/reward ratio.
Despite its age, the CAPM has proved itself a valuable tool in the optimization of portfolios on the crypto space too. In this context, we plan to leverage our know-how and to create dynamic portfolio weights in order to optimize investment strategies and maximize expected outcomes.

5. Execution

Being a young market, Crypto involves a lot of uncertainty at the execution stage. Where to execute orders and how to do it?

Fortunately, the situation for the investor is less complicated than for the trader. Nevertheless, it remains a delicate topic, because if the investor cannot execute the order or the exchange is hacked, or files for bankruptcy, no matter how well the portfolio is managed, the investor carries 100% of the execution risk.

We also caution investors about spreads and slippage — on some exchanges bots benefit from market transactions, and while a few percentage points on the spread doesn’t seem too high, during choppy markets when transactions may take place weekly, it can kill a portfolio’s profits. We offer you our Exchange rating on our Market Analysis page.

6. Choosing ET Money Management

Money management is the mathematical process of increasing and decreasing the number of contracts/shares/options. The purpose of utilizing money management should be to increase the profitability during positive runs and protect those profits during losses.

Money management is represented by the ensemble of decisions and strategies regarding how to reinvest the profits or to handle losses. A common opinion is that money management really has the capability of moving the needle for investment return.

There are many aspects and methods — compound vs fixed, active capital %: fixed dollar amount, percent at risk, trading with optimal F, etc. For example, we believe that in a market like Crypto, where results can be as high as those available in leveraged markets, most of the models can be considered as too extreme. Yet, since investor appetite is high, we use 90% of the capital as active capital, and a compound reinvestment strategy to keep up with Bitcoin returns.

And finally to the output of this process. Check these detailed portfolio reports (backtesting results).

We are not financial advisors, and we are not recommending that you follow the system. We share with our clients what we consider previously worked in such markets, though we cannot guarantee that this will work in the future.

When you subscribe to Portfolios (available at EndoTech.io since April 1st, 2018) you will receive daily real-time reallocation signals for each portfolio.

HYPOTHETICAL PERFORMANCE RESULTS HAVE MANY INHERENT LIMITATIONS, SOME OF WHICH ARE DESCRIBED BELOW. NO REPRESENTATION IS BEING MADE THAT ANY ACCOUNT WILL OR IS LIKELY TO ACHIEVE PROFITS OR LOSSES SIMILAR TO THOSE SHOWN; IN FACT, THERE ARE FREQUENTLY SHARP DIFFERENCES BETWEEN HYPOTHETICAL PERFORMANCE RESULTS AND THE ACTUAL RESULTS SUBSEQUENTLY ACHIEVED BY ANY PARTICULAR TRADING PROGRAM. ONE OF THE LIMITATIONS OF HYPOTHETICAL PERFORMANCE RESULTS IS THAT THEY ARE GENERALLY PREPARED WITH THE BENEFIT OF HINDSIGHT. IN ADDITION, HYPOTHETICAL TRADING DOES NOT INVOLVE FINANCIAL RISK, AND NO HYPOTHETICAL TRADING RECORD CAN COMPLETELY ACCOUNT FOR THE IMPACT OF FINANCIAL RISK OF ACTUAL TRADING. FOR EXAMPLE, THE ABILITY TO WITHSTAND LOSSES OR TO ADHERE TO A PARTICULAR TRADING PROGRAM IN SPITE OF TRADING LOSSES ARE MATERIAL POINTS WHICH CAN ALSO ADVERSELY AFFECT ACTUAL TRADING RESULTS. THERE ARE NUMEROUS OTHER FACTORS RELATED TO THE MARKETS IN GENERAL OR TO THE IMPLEMENTATION OF ANY SPECIFIC TRADING PROGRAM WHICH CANNOT BE FULLY ACCOUNTED FOR IN THE PREPARATION OF HYPOTHETICAL PERFORMANCE RESULTS AND ALL WHICH CAN ADVERSELY AFFECT TRADING RESULTS.

Past performance, real or hypothetical, is not indicative of future results.

There is a risk of loss in virtual currency trading.

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