In the first part of our series on Bitcoin, we provided a recap of recent ETF developments and examined the likelihood of approval by the US Securities and Exchange Commission (SEC) in the coming months.* This time, we explore the possibilities of institutional money entering the crypto space.
In this series, we shed some light on where Bitcoin might be headed (while focusing on the state of institutional exposure), the potential creation of a Bitcoin exchange traded fund (ETF), the comprehensive technological project pipeline and various concerns regarding current developments involving Bitcoin.
Last time, we took a look at the challenges faced by companies that are trying to gain approval for a Bitcoin ETF in the US. There is no doubt that the introduction of such an index fund would accelerate Bitcoin’s adoption in the institutional space, given, among other things, the liquidity, transparency and custody that such products would enjoy. In practice, this would afford institutional investors managing trillions of dollars with a secure way to buy bitcoin. More importantly, given its scarcity, its potential for high returns and its nature (it is not correlated with most traditional assets classes), asset managers could benefit, from a diversification perspective, by allocating small portions of their portfolios to Bitcoin investments. We therefore believe that future investor appetite for Bitcoin will, to a large extent, be driven by institutional money. Though slightly belated, Morgan Stanley called Bitcoin “a new institutional investment class” in a recent report. Notwithstanding the investment bank’s new narrative, the cryptoassets space is still predominantly retail, despite the emergence of notable over-the-counter (OTC)** players there. The entry of asset managers, family offices and endowments could therefore spur an enormous influx of capital into the industry. However, the space is still lacking much-needed requirements, most notably expertise, regulatory clarity and custody solutions.
There has been a wave of news surrounding well-established institutions in recent months, most notably Bakkt, an affiliate of the Intercontinental Exchange (ICE), the owner of the New York Stock Exchange. Although it postponed the launch of its trading and custodial platform for digital assets from December 12, 2018, to January 24, 2019, this move is expected to be a game-changer in Bitcoin investing. The company plans to start by offering one-day, physically-settled Bitcoin futures contracts, which allow customers to gain exposure to real bitcoin as opposed to cash settlements used by other regulated futures exchanges, such as the CME and the CBOE. Bakkt still needs to obtain regulatory approval from the US Commodity Futures Trading Commission (CFTC), an agency that regulates futures and option markets, before launch. Unlike with cash-settled futures, however, institutional inflows on the Bakkt platform are further reducing the already-limited amount of available bitcoin supply traded on exchanges. Only a limited amount of the roughly 17.4 million bitcoin in circulation is available for purchase, while the majority of coins are held by “hodlers” that bet on future price appreciation. At a later stage, Bakkt plans on introducing a system to facilitate the spending of digital currencies by partnering with Microsoft and Starbucks.
Fidelity’s announcement that it will open a trading platform is also likely to give fresh impetus to Bitcoin. For now, the large financial-services firm, which manages about USD 2.5 trillion in assets, will not hold crypto in custody but will provide a range of services for institutions and hedge funds.
Another institutional player entering the space is Yale University’s endowment, which has invested in two funds focused on cryptocurrencies, crypto exchanges and new blockchains. The Yale endowment, which manages about USD 30 billion, is the second largest fund in US higher education. As a whole, allocations to cryptocurrency funds have increased notably within the past two years. Morgan Stanley estimates that investments will amount to USD 6bn in 2018, after they amounted to only about USD 300mn in 2016. This increase is being driven in part by fundraising from crypto companies, such as Coinbase and BitGo, and from venture capital firms.
* This piece first appeared in our newsletter, which is a collaboration between Genesis Mining, Blockchain Consulting GmbH, and our research division. It goes out every Friday, so make sure you subscribe to it.
** Over-the-counter (OTC) cryptocurrency trading is a type of trading where participants seek attainment of substantial cryptocurrency positions via transactions of significant volumes. It is done directly between two parties, without the supervision of a crypto exchange. Want to hear more? Join the OTC Crypto Trading group on LinkedIn to keep track of important updates from this space.
