Boosting Returns With Strategic Rebalancing
Key Takeaways:
Regular rebalancing drastically changes a token’s exposure to the underlying asset and weakens its relationship with the performance of the underlying asset.
Binance Leveraged Tokens adopt a strategic rebalancing approach and only rebalance as needed (usually in extremely volatile markets).
This is possible because Binance Leveraged Tokens do not maintain a constant leverage target, unlike conventional leveraged tokens.
Leveraged Tokens reduce or increase their exposure to their underlying assets to maintain daily objectives, which is known as rebalancing. Investors holding a leveraged token for longer than a day could see their exposure levels rise or fall dramatically due to regular rebalancing and this can affect their original investment.
Rebalancing can boost the positive effects of compounding during trending periods. Still, it can magnify the negative effects of compounding during volatile periods and result in additional transaction costs because it involves reducing and increasing exposure regularly.
Binance Leveraged Tokens Rebalancing Strategy
Over an extended period, regular rebalancing drastically changes a token’s exposure to the underlying asset and weakens its relationship with the performance of the underlying asset. Unlike conventional leveraged tokens, Binance Leveraged Tokens (BLVT) are uniquely designed to avoid regular rebalancing.
Binance Leveraged Tokens adopt a strategic rebalancing approach and only rebalance as needed (usually in extremely volatile markets). It does not force rebalancing as a daily protocol, as such normal oscillations of the market do not trigger rebalancing. This means investors incur lower fees and Binance Leveraged Tokens have a lower probability of value erosion.
This is possible because Binance Leveraged Tokens do not maintain a constant leverage target, unlike conventional leveraged tokens. Instead, Binance Leveraged Tokens maintain a variable target leverage between 1.5 to 3x.
This rebalancing mechanism is designed to protect its investors from the long-term detrimental impact of conventional leveraged tokens while maintaining the key characteristics of a leveraged product.
Comparing Rebalancing Strategies
There two common rebalancing strategies: Strategic and Interval-based rebalancing.
Interval-based rebalancing occurs when a leveraged token is forced to rebalance to a preconfigured target leverage (let’s say 3x) at preconfigured times (daily, or on 10% underlying movement). On the other hand, strategic rebalancing, the preferred practice for Binance Leveraged Tokens, rebalances only in extremely volatile markets.
Here we compare the two methodologies and analyze how they differ from each other.
To compare, let’s outline a few factors:
Conventional leveraged token promises a constant 3x leverage
Binance leveraged Tokens promise variable leverage between 1.5x to 3x.
Both tokens start with an initial fund size of $100 million.
Now, let’s imagine that the price of the underlying asset exhibits a volatile and trending movement, where its daily net returns are as follows:
Here is how a conventional leveraged token conduct daily rebalancing:
As the price of the underlying asset moves, the leveraged token aims to multiply its performance by 3 times. As such, the token has to rebalance daily to maintain its primary objective, even under normal oscillations of the market like 5% and 10%.
Due to regular rebalancing, the total exposure and real leverage on a 3x token constantly fluctuate to maintain its ‘fixed’ leverage mandate as shown in the graph below. Thus, conventional leveraged tokens do not provide a good correlation with the underlying asset because of their ever-changing exposure to the underlying asset.
Chart 1 - Regular rebalancing: Drastic changes in exposure and leverage
In contrast, investors of Binance Leveraged Tokens enjoy a stable leveraged exposure as it has no mandate to force rebalancing on a regular basis.
As shown in the graph below, BLVT maintains a uniform exposure through normal oscillations in the market. Rebalance was only triggered after a +30% price change in the underlying asset, where its real leverage ratio falls below the minimum threshold of 1.5x. To rebalance, the token has to increase its exposure from $332 million to $465 million, where its real leverage ratio re-configures to 2x.
With this methodology, the price of Binance Leveraged Tokens maintains a strong correlation with the underlying asset.
Chart 2 - Strategic rebalancing: Stable exposure and strong correlation with underlying
As shown in the illustration, a conventional leveraged token continuously increases its position as the underlying asset goes up, while reducing its position as it goes down. This constant rebalancing eventually leads to the erosion of the net asset value of a leveraged token.
By contrast, Binance Leveraged Tokens do not adopt a regular rebalancing strategy and have, fewer rebalancing events over time while retaining a tight correlation with the underlying asset.
How Has BLVT Performed Since Inception?
Since its inception, Binance Leveraged Tokens have outperformed conventional leveraged tokens. Thus far, BTCDOWN has generated +17.4% for investors, in contrast, a popular 3x short Bitcoin token only generated 5.07% in the same period, which means BTCDOWN has outperformed the 3x token by more than 300%.
On the other hand, BTCUP tokens have successfully minimized losses for investors despite the near-term downtrend in Bitcoin. Similar tokens such as a popular 3x long Bitcoin token have performed poorly in this period, returning -18% (vs BTCUP: -15%).
Chart 3 - Return on investment comparison of BLVTs vs conventional LT
Despite being a new entrant, BLVTs have shown early indications of their ability to outperform existing leveraged token products in the long run.
Factors that Affect Rebalancing Frequency
Target Leverage - A leveraged token that promises ‘fixed’ leverage will regularly rebalance to meet its objective, while Binance Leveraged Tokens promise a variable target range from 1.5 to 3x, which means the tokens do not need regular rebalancing.
Volatility - A leveraged token based on a crypto asset with higher volatility may require more frequent trades to rebalance than one that has lower volatility.
Strategic or Interval - In a strategic rebalancing approach, a larger trigger implies fewer rebalances over time. In an interval rebalancing strategy (typically daily), frequent intervals imply more rebalances over time.
How Can Investors Keep Track of Rebalancing Activities on BLVT?
As the fund rebalances to increase or decrease its positions, transaction history is also available and transparent for investors.
For instance, if the fund increases its positions, its total position size before and after rebalancing will be transparent to the public. Investors will know the exact size of positions increased and its real leverage after rebalancing.
Real-time Data Transparent to BLVT Investors
Investors must understand the information displayed on the BLVT page in regards to current parameters. The main details are:
Net Asset Value - The price of the BLVT
Number of Tokens - Number of outstanding BLVT tokens
Fund Value - Total capital held by the BLVT fund
Real Leverage Ratio - Actual Leverage Ratio held by fund
Target Leverage Ratio - This ratio will always be between 1.5 to 3x, but the exact number will be confidential. This feature allows BLVTs to be unpredictable in rebalancing to reduce the vulnerability of front-running tactics.
Additionally, investors can also keep track of changes in NAV with real-time price charts available and transparent for public viewing.
A token’s price reflects the value of its underlying assets. The token’s market price is the price at which investors can buy or sell BLVTs on Binance.
In Summary
Regular rebalancing changes an investor’s exposure level from one day to the next, which can significantly impact how closely his original purchase tracks the performance of the underlying asset. Therefore, investors of leveraged tokens over periods longer than one day are encouraged to actively monitor their investments and to consider a strategy that mitigates the effects of daily rebalancing.
A strategic rebalancing mechanism solves this issue and ensures that a token maintains stable exposure to its underlying asset in normal market conditions. Thus, maintaining a strong correlation with the underlying asset. This feature protects investors from value erosion while retaining the key characteristics of a leveraged product.
As shown, Binance Leveraged Tokens are less impacted in side-ways markets and their value will not receive an oversized impact from normal market fluctuations. This means that over a reasonable period, BLVTs have a higher likelihood of outperforming existing leveraged tokens in the long term.
Read the following helpful articles for more information about Binance Futures:
(Blog) Crypto Futures Trading: Things You Need to Know Before You Begin
(Blog) Crypto Futures Risk and Money Management: 5 Things You Can Do to Better Manage Trading Risk
(Academy)The Psychology of Market Cycles
And many more Binance Futures FAQ topics…
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