Is there anywhere for crypto to go from here?
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CoinShares partnered with Financial News and MarketWatch to discuss the future of crypto at the second instalment in our Believers & Sceptics breakfast series. Here’s what you missed:
For our second discussion, CoinShares Executive Chairman Danny Masters was joined by Myles Milston, CEO of Globacap, and Joseph Oehmke, Principal of Promontory Financial Group. The panel was moderated by Duncan Mavin, Managing Editor for News Operations & Standards at the Dow Jones Media Group.
Below is a summary of their conversation.
The discussion started with a retrospective look at how crypto assets have evolved and promulgated up to now.
Danny Masters kicked things off by pointing out the lack of visibility in the crypto space, which makes it difficult to gauge the state of industry activity at any given time:
“I often use the analogy of an Ibiza disco — because of loud music and smoke, you can only see the few people around you; but there is a tremendous amount of activity going on that you can’t really perceive.
This industry is geographically diverse, it’s stylistically diverse, and that information is not well reported or disseminated anywhere.”
Danny proceeded to describe how crypto has undergone an evolution in three phases since the 2008 financial crisis opened the door for the advent and proliferation of new cryptocurrencies.
DM: “It was tech people coming to the financial business saying ‘you know what, we’re going to try this a slightly different way.’”
This, he asserted, was the essence of the Bitcoin movement, the evolution’s first phase:
“Indeed, the Bitcoin movement has been — and still is — a form of disruption to gold and fiat money.
That is bitcoin’s base use case.”
According to Danny, the second phase then started with the advent of Ethereum in 2015:
“People began to realise that you could use the Ethereum blockchain to form capital. This ushered in the ICO wave and many other forms of blockchain.
Without any question, a bunch of tech companies managed to raise very significant amounts of money to fund their projects in a novel way in a very short space of time.”
However, the ICO model was quickly exploited by unscrupulous actors:
“This model was soon abused by a number of players, and got to the point that I’m sure the Ethereum Foundation would have never thought they could have seeded.
[Therefore, the] SEC and a number of regulators understandably came down pretty heavily on that.”
In light of these events, Danny sees the third phase of crypto being driven by the emergence of regulated security tokens:
“There is clearly a tremendous market and demand for capital to be raised by the type of companies that entered the ICO space.
This third wave could therefore not only see regulatory safe-harbours fulfilled for asset creation, but also the creation of smart securities that could have your identity attached, could prove that you‘re accredited, etc.”
The pressing question for security tokens then becomes “why would someone want to do this?”
According to Danny, that answer is fairly simple:
“Shares in private companies can become liquid, transferable and transparent — like the features of public securities.”
Myles Milston followed up Danny’s comments with a helpful primer on how securities are traded, cleared and settled today:
“Shares are really a tradable representation of a shareholding. When it’s traded, a series of processes happen — clearing and settlement — which eventually update a centralised register, stored in one specific database at a central securities depositary. When this update occurs is when the legal transfer of ownership has actually happened.”
Why does this matter in the context of security tokens and blockchains? Because at their essence, blockchains are simply distributed databases that preserve the integrity of their data using cryptographic techniques (e.g. hashing), thus eliminating the need for trust.
The benefit of building securities on top of a blockchain is that these securities can now achieve near instant settlement with no single point of failure. A timely — and expensive — process is now reduced to minutes. As a result:
“It becomes economical to securitise any private asset which would have been too difficult or expensive to securitise otherwise.”
Joseph Oehmke offered a more reserved view to Danny and Myles’ bullish sentiments, considering the balance that regulators need to strike:
“There needs to be a shift in perspective. How can we foster innovation without posing a threat to the global financial system?
There are certainly challenges when it comes to crypto assets. We’ve already got plenty of evidence suggesting that there is a tremendous amount of fraud in the space.”
Indeed, Joseph was keen to express that reducing negative aspects of the crypto space can be beneficial for all market participants, and should be given equal priority moving forward:
“There’s obviously a ton of volatility in the market, as well as plenty of illicit uses by bad actors that states, regulators and the general public have an interest in curbing.
These things need to be taken into account and considered, and not just the utopian vision that this is going to be a cure-all for what ails the financial system.”
From here, the conversation narrowed in on security tokens and what their emergence will mean for the broader investor community.
Challenges still persist in the crypto space — surely we can’t ignore them in regards to security tokens?
Danny harbours no illusions:
“When you talk about obstacles at the moment, it is the things that we haven’t really experienced yet which I imagine might become problematic within a security token environment.”
What might some of those obstacles be? For starters, Danny argued, a lack of appreciation for — or even complete ignorance of — the role that various market participants play in the space:
“When we talk about the transferability and liquidity of previously private assets, we’re not necessarily addressing what the public market already does in terms of insider trading, market abuse, orderly market constrictions, directors obligations, etc. for publicly traded assets — all these things which we take for granted in a public company because the nomads and the brokers are the gateway to get to the public market.
Arguably you can now get to the public market easier, but you are not necessarily going to have the same protections.
He posed a hypothetical scenario to emphasise the point:
“What happens when I issue shares in my private company on a blockchain that become liquid and transferable; then I go out and say ‘next quarter we’re going to have a great quarter;’ trades are made based off this information, and then we don’t have a great quarter?
That’s a jail-able offence for a public security.”
In conclusion:
“I want to see a lot of the unnecessary work in the public securities markets taken out, and a sensible approach to the sort of principles that those public markets promulgate encoded in security tokens in a smart way.”
As CEO of Globacap — a company in the FCA Sandbox that is currently attempting to bring security tokens to market — Myles offered perspective on how some of these issues are being addressed.
He started by comparing ICOs to the US railroad boom of the 19th century:
“We’ve had an explosion of ICOs, and with them that wild west status. I use that term explicitly because I relate this to the 1850s in the US when railroads were booming…
You had on every street corner someone put up a stand saying ‘buy some railroad stocks’ and then they’d disappear. This was really the beginning of securities regulation. This evolved after the Great Depression into the Securities Act.”
This continued to evolve into the regulatory frameworks in place today:
“What we have now is a really robust securities regulation system. It really does, to a large extent, protect end users of those products.”
As such, he suggested that it’s unnecessary to “reinvent the wheel” when it comes to regulating crypto assets:
“Even though we’re creating something that’s really novel and a new way of doing things… we’re still creating a security — it fits into existing securities legislation.”
Although that’s not to suggest that current regulations are completely adequate, especially in regards to global access to capital:
“Currently there’s no global unified legislation, which really means looking at every country on a case-by-case basis which is an extremely complicated process.”
Joseph echoed this sentiment, pointing out how complicated servicing multiple jurisdictions can quickly become:
“Even looking at this just from a US perspective, it’s a challenge to get cohesive regulatory stances just between the 50 states [and] the federal government…
You take that global and you run into a number of other issues.”
So where do we currently stand in this “third wave,” and where does crypto go from here?
Danny noted that we’re already seeing signs of the third wave approaching:
“In terms of where we are today — Tzero raised in the order of $134m to build a tokenised market platform. Then you have Templum in the US who have done the first real estate project called Aspen Realty.”
In his view, this indicates that we’re in the first stage of a process that will drive the broader security token trend.
Now that regulatory safe harbours have been created where companies can create and issue these tokens, the questions then become:
- How do we make these tokens operable? (e.g. embedded identity, verification, audit trail, etc.)
- How do we make these tokens interoperable among different regulatory environments in different jurisdictions, and the intersections between them?
To move beyond experimentation and achieve this reality, Joseph argued that collaboration between regulators and these innovators will be key:
“Regulations are inherently backward looking. They are designed to solve the problems that you already know about.
There is real value in having regulators have the tools, the technology, and people that they need in order to understand what is happening at the cutting edge of financial services.”
Concluding the conversation, Danny pointed to some of the unique challenges in talking about crypto assets:
“It’s been a PR disaster. This is due, in large part, to bad actors but also there is something particularly acute when you start to tell people who have worked hard to amass wealth in sterling or dollars that their money is no good anymore because bitcoin is the thing.
In response, Myles asserted that time may be the ultimate key to overcoming some of these obstacles:
“If we skip forward 30 to 40 years, then the politicians, the regulators, the business leaders that are in power … will have been teenagers now that grew up with crypto.
Their view, their take on it, will be entirely different. It won’t be a question of ‘is this legitimate, is it not?’ It’s just going to be the way the world works.
In his view, this shift will occur sooner rather that later:
“There are discussions like this happening continually. There are firms like ours, firms like CoinShares; there’s a lot of movement into this space.
There’s a lot of realisation that there is a huge amount of value in private assets that is currently untapped.”
The Believers & Sceptics breakfast series aims to encourage debate and educate financial industry participants around the progress that is being made within the digital asset and blockchain ecosystems.
By partnering with Financial News and the Dow Jones Media Group, our goal is to assemble trusted voices from both the crypto-asset and legacy finance sectors in order to challenge deeply held beliefs around money and the current financial system that is, in our opinion, largely built on trust.
We will be hosting the third breakfast in this series later in the year. If you are interested in attending, follow @CoinSharesCo and @xbtprovider on Twitter for the most up-to-date information and details on how to RSVP.
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