World’s first DeFi ETF to launch in Brazil next month

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The world’s first exchange-traded fund (ETF) dedicated to decentralized finance (DeFi) networks is due to launch in Brazil next month, deepening the US$10-trillion ETF industry’s foray into virtual assets.

The move will allow investors to track a basket of projects betting on decentralized finance, trading, and lending networks whose standards are automated and often decided by consensus.

Hashdex DeFi Index ETF marks a departure for an industry that until now has encompassed funds investing in listed crypto businesses or popular cryptocurrencies such as bitcoin BTG22 and ethereum – where permitted by regulators. It will list on the Brazilian stock exchange on Feb. 17.

“By offering the first DeFi ETF in the world, we are providing our global investors with the ability to play a part in the next evolution of the crypto ecosystem,” says Marcelo Sampaio, chief executive of Hashdex Asset Management Ltd., a Brazil-based crypto asset manager.

DeFi aims to do away with a centralized intermediary – like a bank or an exchange – to provide financial services such as lending and trading through an algorithm. Supporters say it offers greater transparency, resistance to censorship, and faster settlement times than traditional finance.

It was one of the fastest-growing areas of the crypto-asset industry, although interest has cooled in the past two months as crypto prices have fallen. Decentralized applications (Dapps) hold about US$107-billion of customers’ funds, down from a November peak of US$180-billion, according to data from DappRadar.

Hashdex DeFi Index ETF will invest in the tokens developed by Dapps, networks built on blockchain technology and that use preprogrammed algorithms to execute cryptocurrency trades. Dapp tokens can be traded on other crypto markets but also allow owners to vote on governance proposals and developments for the network.

The ETF will invest in eight Dapps as well as related service providers such as oracles, which gather data on asset prices from the outside world and send it to a blockchain or distributed ledger.

The Dapps it has targeted include Uniswap, used to exchange cryptocurrencies and tokens; lender Aave; Polygon, a service designed to speed up transactions on blockchains; and Chainlink, an oracle. The ETF will track the CF DeFi Composite Index – Brazil.

The launch highlights a divide between global financial centres that have thus far permitted little innovation in the growing field of digital assets and relatively laissez-faire secondary financial hubs.

While Canada, Sweden, Germany, Switzerland, Jersey, and Liechtenstein all boast spot cryptocurrency exchange-traded products and Australia and India are poised to join them, U.S. regulators have only approved futures-based versions, while those in Britain, Hong Kong and Singapore have not even permitted these vehicles.

Not everyone is convinced by the more liberal approach, though.

“This strikes me as an artifact of a race to the bottom with respect to crypto asset regulation in general and the regulation of registered funds that invest in such assets more generally,” says Ben Johnson, director of global ETF research at Morningstar Inc., of the Hashdex ETF.

A rival issuer described the ETF as “cool,” but says it was “more iterative, rather than highly innovative,” building on the network of crypto basket exchange-traded products already available.

Bruno Sousa, head of global operations at Hashdex, says Dapp tokens are “structurally very different” from cryptocurrencies. Many use the ethereum blockchain, which can hold financial assets and allows programmers to code functions for buying and selling into smart contracts. That allows them to be used for lending, insurance, trading, and staking assets.

“These are similar to start-ups. They have solutions for given sections of the market. If they do well they will grow, if they don’t they will diminish and the token will dwindle in value,” Mr. Sousa says.

Formed in 2018, Hashdex currently has one ETF in Brazil, the US$350-million Hashdex Nasdaq Crypto Index ETF, which has attracted investors ranging from retail to macro hedge funds. It also runs a similar U.S.-based private fund in conjunction with Victory Capital Holdings Inc.

Hashdex hopes to launch similar products elsewhere but is reliant on the speed of regulatory change.

“Other places are moving with different rhythms. Given the current regulatory landscape in the U.S., there is no clear pathway for a spot ETF,” Mr. Sousa says.

“Our expectation, in general, is that the regulators will become ever more comfortable with structures like this and acknowledge that this is a way to buy into the market that the regulator can see and touch, and can engage with the issuers,” he adds.

In the meantime, launching in Brazil gives Hashdex “the ability to test new products and see how the public reacts.”

Hashdex DeFi Index ETF will charge an annual fee of 1.3 per cent, high for an ETF but competitive for digital asset funds, particularly multi-asset baskets.

With smaller market capitalizations than cryptocurrencies such as bitcoin and ether, the underlying tokens may be even more volatile. Amid a global market sell-off, the CF DeFi Composite Index – Brazil has fallen 44 per cent since its launch on Dec. 1 last year.

“That is a consequence of assets that are seen as risk assets, in general, from stocks to crypto,” Mr. Sousa says. “Crypto does respond to the regular market. Over longer periods there’s less correlation, but in times of high stress, that does affect investors [as] they will have hands in different pots.

“This is normal. A 40-per-cent dip is something that happens with some frequency in crypto, but what happens is that it continues to grow,” Mr. Sousa argues.

“Look at this with intellectual humility. This is a phenomenon that’s based on a technological advance that is massive. This is a major advance like the internet in the 1990s.”

Additional reporting by Philip Stafford.

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