Cryptocurrencies Run on These CompaniesJohn Patrick Lee, CFA, Product ManagerAugust 16, 2021
Digital transformation companies represent a distinct and separate investment opportunity, when compared against digital assets like bitcoin, Ethereum, and against other equities in your portfolio. We break out key takeaways to understand some of these differences and how to position digital transformation companies within a client portfolio.
Digital asset companies are doing business within the digital asset ecosystem, but are NOT the same as underlying digital assets. An investment in Coinbase is not the same as an investment in bitcoin, although a significant portion of Coinbase’s business relies upon users trading bitcoin on the Coinbase platform. There are a wide range of business lines that digital transformation companies can participate in — from exchanges, to mining, to asset management. Generally speaking, bitcoin and other digital assets may play a crucial role in a company’s business operations, but companies should not be conflated with digital assets.
Low Correlation to Major Indexes
Investment 1 2 3 4 5 6 MVIS Global Digital Assets Equity Index 1.00 MVIS CryptoCompare Bitcoin Index 0.70 1.00 MVIS CryptoCompare Ethereum Index 0.57 0.75 1.00 NASDAQ 100 Index 0.48 0.19 0.02 1.00 S&P 500 Index 0.32 0.17 0.26 0.72 1.00 MSCI ACWI Index 0.24 0.00 0.09 0.62 0.92 1.00
Source: Morningstar as of 4/11/2021 – 7/31/2021 based on weekly returns.
Digital transformation companies reflect 1) varying degrees of correlation to bitcoin and Ethereum 2) low correlation to broad market and tech benchmarks and 3) low overlap with broad market and tech benchmarks. Based on VanEck research, less than 1% of the total weights of the Nasdaq 100 Index, S&P 500 Index and MSCI ACWI Index are comprised of stocks comprising the MVIS Global Digital Assets Equity Index.
Low correlations and low overlap with broad market and tech-heavy indexes indicate that an allocation to digital transformation companies makes sense from a modern portfolio theory perspective. Digital transformation companies are providing portfolio diversification and the potential for alpha. Keep in mind, these companies are early-stage movers, operating within a long-term structural growth environment.
Own Part of the Value Stream
A publicly-traded digital transformation company is a centralized organization. These companies typically have a CEO, a board of directors, shareholders, and other characteristics which are shared by the majority of publicly traded companies. Publicly-traded companies are centralized organizations working towards a common goal of generating profits and cash flows for investors and shareholders. In the vast majority of cases, digital assets aim to be decentralized software protocols, without a CEO or voting rights for shareholders.
Cash flows are also a key difference. Digital asset companies generate cash flows related to their various business lines. One of the pillars of modern finance and equity valuation, discounted cash flow analysis, is based on the idea that a company can be valued by estimating the sum of all future cash flows and then tying those cash flows to a present value. So while vast majority of publicly traded digital transformation companies have some type of cash flow, bitcoin, and the vast majority of cryptocurrencies, do NOT generate cash flows. For a user to make a profit on a bitcoin trade, the user has to sell bitcoin at a higher price than what it was bought for, which is not the same as a business-related cash flow.
Fred Theil, CEO of Marathon Digital, explains,
“If you own gold or you own Bitcoin, you only get the benefit of the markup and value over time as the asset itself grows. Whereas if you invest in the miners who essentially generate the Bitcoin and earn the rewards, you get the benefit of their full profit stream…So, you get to own a piece of the value stream and the full value stack versus just owning the appreciation of the Bitcoin itself.”
DAPP: Exposure to Digital Transformation
The VanEck Vectors Digital Transformation ETF (DAPP) seeks to track the MVIS Global Digital Assets Equity Index (MVDAPPTR), which provides exposure to the companies involved in the digital transformation of the global economy. DAPP’s underlying index only invests in digital transformation companies, and does not invest in actual digital assets like cryptocurrencies, or cryptocurrency investment vehicles. The index is designed to provide pure-play exposure to the companies that are actively participating in the digital transformation, which may benefit from the structural long-term growth of digital assets.
This is not an offer to buy or sell, or a recommendation to buy or sell any of the securities or financial instruments mentioned herein. The information presented does not involve the rendering of personalized investment, financial, legal, or tax advice. Certain statements contained herein may constitute projections, forecasts and other forward looking statements, which do not reflect actual results, are valid as of the date of this communication and subject to change without notice. Information provided by third party sources are believed to be reliable and have not been independently verified for accuracy or completeness and cannot be guaranteed. The information herein represents the opinion of the author(s), but not necessarily those of VanEck.
The Fund will not invest in digital assets (including cryptocurrencies) (i) directly or (ii) indirectly through the use of digital asset derivatives. The Fund also will not invest in initial coin offerings. Therefore the Fund is not expected to track the price movement of any digital asset.
Investors in the Fund should be willing to accept a high degree of volatility in the price of the Fund’s Shares and the possibility of significant losses. An investment in the Fund involves a substantial degree of risk. An investment in the Fund is not a deposit with a bank and is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Therefore, you should consider carefully various risks before investing in the Fund, each of which could significantly and adversely affect the value of an investment in the Fund.
An investment in the Fund may be subject to risks which include, among others, risks related to investing in digital transformation companies, investing in equity securities, Canadian issuers, small- and medium-capitalization companies, information technology and financials sectors, foreign securities, market, operational, index tracking, authorized participant concentration, new fund, absence of prior active market, trading issues, passive management, fund shares trading, premium/discount and liquidity of fund shares, non-diversified and concentration risks which may make these investments volatile in price or difficult to trade. Small- and medium-capitalization companies may be subject to elevated risks.
The technology relating to digital assets, including blockchain, is new and developing and the risks associated with digital assets may not fully emerge until the technology is widely used. Digital asset technologies are used by companies to optimize their business practices, whether by using the technology within their business or operating business lines involved in the operation of the technology. The cryptographic keys necessary to transact a digital asset may be subject to theft, loss, or destruction, which could adversely affect a company’s business or operations if it were dependent on the digital asset. There may be risks posed by the lack of regulation for digital assets and any future regulatory developments could affect the viability and expansion of the use of digital assets.
Investing involves substantial risk and high volatility, including possible loss of principal. An investor should consider the investment objective, risks, charges and expenses of a Fund carefully before investing. To obtain a prospectus and summary prospectus, which contain this and other information, call 800.826.2333 or visit vaneck.com. Please read the prospectus and summary prospectus carefully before investing.
Authored byJohn Patrick Lee, CFA
Explore Related Blogs
BUZZ Investing: Are Healthcare Stocks What the Doctor Ordered?
BUZZ Investing: Virgin Galactic Takes Off
The Future of Tomorrow: Powered by Semiconductors
BBH: Biogen Surges on Alzheimer Drug Approval
Thematic and 'Meme' Classified Stocks Gain Despite Technology Stocks Continued Underperformance