The year institutions took notice of crypto
Four reasons 2018 will be looked back on as the period in which the foundations were laid for a 2019 institution-backed rally in cryptocurrencies
by David Wills, COO and Co Founder, Caspian
The great cryptocurrency correction of 2018 is grabbing headlines in the mainstream media. But the more important cryptocurrency story from the first half of this year is its transformation as an institutional investment opportunity — from a pariah asset to an essential presence in the diversified portfolio of the future.
Institutional investors have long been reluctant to invest in cryptocurrencies against a backdrop of political and regulatory instability. The absence of a functional cryptocurrency investment ecosystem has been another sticking point. After all, hedge funds and institutions need to be sure that investments can be safeguarded, losses can be hedged, trade can be relatively frictionless, and that sufficient liquidity exists.
But the good news of 2018 is that this infrastructure is being built out, the political and regulatory environment is stabilising, and the will to invest in crypto is consequently increasing.
The even better news is a virtuous circle is forming.
As the institutional appetite to invest increases, so does the political will to facilitate this investment and the economic incentive to build out the crypto investment ecosystem naturally follows. This is what we could see beginning to happen in the first half of 2018.
Here’s four reasons why.
1) The emergence of institutional-grade trading platforms
For years, traditional institutional investors eyeing a big move into cryptocurrency have been held back by problems associated with the fragmentation of the 200 or so crypto-exchanges. Investors have had to endure liquidity and slippage issues, as well as a challenging audit and compliance environment.
Institutional investors needed to be able to execute trades and maintain target allocations across many exchanges. So the absence of a relatively frictionless, integrated, institutional-grade ecosystem that easily facilitates large purchases of crypto was something of a crypto dealbreaker.
But new trading platforms have emerged this year that offer tools traditional markets are used to — such as a single interface into all major crypto exchanges, profit & loss and exposure tracking. The full lifecycle of the trade — order and execution management, portfolio management, and risk management — is covered.
That’s a big deal for institutions.
2) Safe custody for crypto assets
The emergence of institutional-grade cryptocurrency custodian services by platforms such as Coinbase or Japanese investment bank Nomura’s custodian venture with Ledger & Global Advisors, Komainu — as well as qualified custodians such as Northern Trust, JPMorgan Chase and BNY Mellon potentially entering the space, are also removing barriers to crypto investment. Financial institutions and hedge funds needed to be sure that storage of their digital assets could be outsourced to a trusted third-party to minimise the risk of loss due to theft or operational errors.
Now they can put faith in solutions offering multiple layers of security, rigorously tested cold storage solutions, on-chain segregation of crypto assets, auditing and reporting, and split, offline private keys that require an assembly of agents dotted across the world to use cryptographic hardware to sign off transactions.
3) Regulatory and political approval
Regulators across the world are starting to work with leading stakeholders in the cryptocurrency world to forge understandings and even partnerships. This is reflective of an increasing political acceptance of cryptocurrencies across the world.
Of course, many issues still need to be tackled, not least the routing out of parties that are systematically defrauding investors with fraudulent initial coin offerings. But the significance of this new overall pragmatic approach can’t be under-estimated. And the bursting of the crypto bubble caused by the flight of so many speculative cryptocurrency investors will further ease political concerns. Regulators are being given the freedom to gradually mould a functional secure marketplace that incentivises innovation while protecting investors.
4) Mainstream acceptance
If 2017 was the year in which people across the world signalled their overwhelming support for cryptocurrencies, 2018 was the year in which the financial mainstream began to follow suit. Whether this stems from the realisation that blockchain will be the new internet, or a simple fear of missing out, the big institutions are either getting on board, or signalling they’re about to.
In July, Blackrock CEO Larry Fink revealed the world’s largest exchange-traded fund had started a working group to assess the potential of investing in cryptocurrencies. Meanwhile Goldman Sachs succumbed to pressure from clients, becoming the first major Wall Street bank to commit to opening a bitcoin trading desk while NYSE:ICE launched the Bakkt Exchange with investors such as Starbucks and Microsoft. As the crypto community awaits the outcome of the SEC ruling in September on the VanEck ETF, financial giants everywhere are starting to talk about the potential of cryptocurrencies as an asset class.
Whether, cryptocurrencies thrive in the future or not, the case for giving them a presence in diversified institutional portfolios is becoming compelling.
Eight years of rapid growth in cryptocurrencies does not, of course, guarantee future returns. And 2018 has shown that any upward line of trajectory will be jagged. But its has become generally accepted that cryptocurrencies could represent a once-in-a-generation investment opportunity — arguably with similar potential to gold when it was first traded, or to tech companies like Amazon and Google in the early years.
Also, no other asset class offers the diversification potential of cryptocurrency — especially for institutional investors running equity and foreign currency portfolios. Crypto assets have zero or negative correlation to other asset classes like bonds and gold. And cryptocurrencies can also represent an investment in many different businesses — owning bitcoin can be a proxy for owning an ETF on the entire Bitcoin-Blockchain sector.
A new dawn for crypto
The big drop in crypto prices of 2018 has understandably panicked investors everywhere. But the fall will one day be seen as a healthy cleansing of the ecosystem. The correction is effectively reducing cryptocurrencies’ reliance on short-term day traders, and increasing the significance of the long-term value creators commitments.
This year might be currently seen as the year of the cryptocurrency price crash. But in the years to come it might be looked back on as the year cryptocurrencies became a feasible institutional investment.
About The Author
David Wills is Caspian’s COO and Co Founder. He has served as Kenetic COO since inception. Prior to that David spent 10 years as Managing Director and Head of Asia Trading at Och-Ziff Capital and was the former chairperson of HKeX Hedge Fund market council. David holds a B.A. in Psychology and B.Comm. in Finance & Economics from the University of Sydney.
Caspian is a full-stack crypto asset management platform tying together the biggest crypto exchanges in a single interface, so as to facilitate investments in crypto instruments for newcomers and veterans alike. The joint venture between heavyweights Tora and Kenetic brings to the table a wealth of experience in asset management, accumulated over decades of building and operating trading platforms and technologies.