Tokyo FinTech
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Cryptocurrencies are here to stay

An essay by Frank Thole, Managing Partner at WEPEX — Consulting for Financial Markets.

Not only has the number of Bitcoin transactions increased since the launch of the network more than ten years ago, but the breadth and variety of discussion threads is also growing steadily. The key question is: are cryptocurrencies like Bitcoin really sustainable?

The reactions to and expectations of cryptocurrencies are still very diverse. While some investors use cryptocurrencies to improve their risk-return profiles, to diversify their portfolios and thereby reduce the risk of traditional bond and equity investments, other players are holding back. These investors see only dangerous hype and refer again and again to the dotcom era and the associated market crash in the end. In addition, they urge caution due to prevalent market manipulation, money laundering and hacker attacks. They project a quick end to the hype, just as the Bitcoin bear market of the last year seems to provide them with support for their argument. The cryptocurrency advocates, however, point out that Bitcoin is resilient and has always recovered from setbacks in market prices. The current bear market, Bitcoin will survive, simply because the boom-and-bust cycles experienced so far are comparable to the classic life cycles of new inventions and new asset classes. Therefore, professional and fact-based analysis is urgently needed. It is clear that not all 2,000 of the currently existing cryptocurrencies will survive in the long term.

Bitcoin & Co — let’s check the facts

Even today it is clear that from 2024 onwards Bitcoin will be the “hardest” currency created by humans. Despite increasing demand, the “money supply” is limited. This follows directly from the regular, four-yearly halving of the “mining rate”: the Bitcoin algorithm invariably involves producing fewer and fewer bitcoins, to the point where the maximum number of bitcoins is reached. Unlike traditional fiat currencies, Bitcoins cannot be freely minted. The number of Bitcoins is limited to a maximum of about 21 million. Contrast that with gold, where the amount in circulation is increasing annually between 1.5 and 2 percent.

The cryptocurrency market is looking back on a turbulent year 2018. While the total market capitalization of all cryptocurrencies reached an all-time high of about 840 billion US dollars, it has fallen back to approximately 110 billion US dollars. Bitcoin is often used synonymous with the entire crypto market. With a 50 percent share of the total market capitalization, Bitcoin certainly assumes the role of the reserve currency. Add to that Ethereum and Ripple, the share of total market capitalization is around 90 percent. On the other hand, other currencies, such as EOS, Litecoin, Stellar, Binance Coin etc., lead only a niche existence. Despite the continuous media coverage, the rapid growth of the crypto market, and the corresponding positive outlook, the market share and significance of cryptocurrencies should be compared to the overall financial market.

The cryptocurrency market represents only a fraction of the gold market and even less of the equities and derivatives market. Roughly, the gold market is about 25 times bigger than crypto, the stock market 600 times and the derivatives market 4,000 times. While the average daily trading volume is currently only a fraction of the volume of established stock exchanges, the growth rates in crypto trading are enormous. Remarkably though, OTC traded volume of traditional currencies (fiat currencies) is many times higher than stock exchange trading worldwide, for example, 12 times higher than the three largest stock exchanges — New York Stock Exchange, Tokyo Stock Exchange, London Stock Exchange.

Bitcoin — Changing trading patterns

Despite the turmoil, Bitcoin has become part of the global trading and payments system. Global Bitcoin trading volume is reported at more than 2.2 trillion US dollars in different currency pairs (for example, Bitcoin / EUR, Bitcoin / USD, Bitcoin / ETH — with the usual caveats around the current discussion on fake exchange volumes and wash trading). In terms of transaction volume, Bitcoin is now on a par with providers such as Mastercard and Paypal and has overtaken Western Union. Significant progress can be seen in the Bitcoin network in terms of scaling and speed.

An example is the so-called Lightning Network, which builds on the Bitcoin blockchain and allows almost instantaneous transactions for real payments almost free of charge. Early adopters such as online retailers can thus access new markets at low cost. It is particularly suitable as an optional payment method if neither credit cards nor Paypal are available.

Despite all the uncertainties, there is currently a sense of optimism. New participants are entering the market: there are currently in excess of 100 cryptocurrency exchanges and security token platforms, and more and more institutional (hedge funds, family offices, asset managers, etc.) and private investors as well as online traders invest in cryptocurrencies. Internet groups such as Amazon, Google and Alibaba are also considering entering the crypto business. Established fund providers and banks are gradually adjusting their product strategies. Further evidence: notable institutional investors such as Black Rock, Wellington Asset Management and Soros Fund Management have announced further significant investments in cryptocurrency in the future.

While some projects succeed, others had to fold. The niche crypto exchange belongs to the latter. Although it offered many tokens, in particular those based on the Ethereum ERC20 standard, it has recently withdrawn from the market. A major project is planned by the major stock exchange operator Intercontinental Exchange (ICE) in collaboration with Starbucks, Microsoft and the consulting firm Boston Consulting Group. A service for trading and custody of digital assets is planned under the name Bakkt. A global network is planned as a platform in which private investors and institutional investors can buy, sell and store digital assets.

In Germany, the Stuttgart Stock Exchange plays a pioneering role. The tokenization of rights and assets should allow the Stuttgart Stock Exchange to open up new business areas and to offer central services along the value chain in the future. A first success is the already available through the app BISON, which provides easy access to cryptocurrency trading. A platform for Initial Coin Offerings (ICOs), through which companies can issue tokens with standardized procedures, as well as a multilateral trading facility for tokens and cryptocurrencies, is to follow shortly thereafter. Finally, the exchange provides solutions for the safekeeping of digital assets. The aim of the Stuttgart Stock Exchange is to set standards as an established market player that contribute to the acceptance of this new asset class.

What is the future for cryptocurrencies?

Current developments suggest that only a fraction of the cryptocurrencies traded today will exist alongside traditional currencies. A key success factor is that they can withstand existing frictions and inefficiencies in the global financial markets. In particular, the past year has shown that trust, supply and demand as well as liquidity significantly influence the acceptance and sustainability of a cryptocurrency. In addition, the value and sustainability of the technology is important in order to assess the long-term viability of a cryptocurrency. For example, the Bitcoin algorithm is designed to bring inflation in line with that of gold from 2020, even fall below the inflation of gold from 2024 onwards, and continue to fall steadily — until inflation finally reaches zero. This is something no fiat currency offers.

In addition to the cryptocurrencies themselves, the trading of derivatives has also started. For options on Bitcoin, prices are actively quoted, such as on the trading platform Deribit, usually in the form of implied volatilities for several exercise prices over different maturities of up to one year. These volatilities are relatively high at around 80% — compared to 8% for EUR / USD or 30% for common stock indices.

Those looking at cryptocurrencies strategically should consider the following factors in detail.

Trustworthy price formation

For widely accepted crypto products, trustworthy, non-manipulable pricing is essential. But there is still need for action. This requires transparency about trading prices and volumes, sufficient liquidity to promptly execute existing buy and sell orders, valuation and risk measurement precision and regulation. There is currently no robust financial mathematics procedure for cryptocurrency pricing that is highly trustworthy: even though the valuation and pricing models of other asset classes can generally be used, the high volatility of cryptos as a “teething problem” is a challenge for quants.
After all, the first signs of progress are visible: the attempt to establish regulated crypto exchanges, to evaluate crypto derivatives and to manage corresponding collateral points in the right direction. Along with a maturing market this will solve the problem of high volatility. Regulated cryptocurrency exchanges and the admission of crypto products to the exchange market meet these criteria by definition.

Technology/economic considerations

Energy consumption remains a key criticism. After all, mining, i.e. the processing of crypto-assets while executing a cryptographic hash function, requires a high level of computing power and thus energy — at least on public blockchains. But with Bitcoin, this energy decreases thanks to the specific algorithm because fewer and fewer bitcoins are being mined. Better suited for banks are private blockchains — not only from the perspective of energy consumption, but also to better enable data protection. As the debate on energy use and emissions continues, many actors are using blockchain technology to accelerate the transition to a low-carbon global economy. They traditionally open up centralized carbon markets for alternative energy sources. In Norway, for example, mining companies use sustainable energy sources such as hydropower.

Regulatory considerations

Naturally, cryptocurrencies are also subject to regulatory requirements. However, the decentralized nature of the crypto-economy complicates the definition of a suitable legal framework. Above all, it must be clarified under which supervisory framework the various cryptocurrencies and tokens fall. Cryptocurrencies are software-only payment methods on a global, virtually tamper-proof database (blockchain). Stock-like security (investment) tokens issued under Security Token Offerings (STOs) are more stringent to regulate than are utility tokens issued through Initial Coin Offerings (ICO) just like a coupon or reward point, enabling access to a scheduled service. Security (investment) tokens have to be governed according to securities law based on the model of classic IPOs. Brochures (white papers) must be compulsorily audited and approved by the regulator. The providers are liable accordingly. Hybrid tokens also require clearer rules. The clarification is progressing slowly and there is not even unity among supervisors. The US regulators that even disagree about the true nature of virtual cryptoassets are not an isolated case. Similar discussions can be observed in other countries as well as different views between politics, central banks and supervisory authorities. There is still no harmonized view in the EU. At present, only national initiatives exist in parallel with the approach of the European Banking Authority (EBA). Thus, problems are inevitable, for example with regard to investor / consumer protection, operational resilience of market participants and equal competition. There are very different aspects to be regulated. In addition to consumer and investor protection, money laundering, terrorist financing and tax evasion must be prevented and market integrity and IT security ensured. The current uncertainty and ambiguity must be stopped as soon as possible.

International Token Standardization Association (ITSA) proposal

Much depends on a consistent approach. The desire for uniform European rules is more than understandable. The current special regulations in micro-states such as Gibraltar, Malta, Liechtenstein and Monaco, on the other hand, are counterproductive. The past has shown that European regulation is exemplary in nature. Asia, in particular, took over specifications. But all involved should be aware that existing rules will not be overturned or substantially expanded. The International Token Standardization Association (ITSA) is currently making an important contribution to standardization, classifying tokens and cryptocurrencies with the issuance of a Token Identification Number (ITIN) analogous to the Securities Identification Number (in Germany: WKN) and the International Securities Identification Number (ISIN) many investors are familiar with from trading equities and debt.

ITSA proposed Economic, Technological and Legal Dimensions for classification of tokens

Blockchain startup Bitbond became the first German company to receive regulatory approval to launch a digitized security (Germany’s first security token offering (STO) began on March 11, 2019). These developments are being watched with great attention, as the German BaFin has been perceived as a passive observer so far.


In the course of digitization, the younger generation in particular is dealing more intensively with cryptocurrencies and blockchain technology. They develop a completely different relationship with accounts, payments, investments, banks and virtual financial service providers than their parents and grandparents. Individual cryptocurrencies will come and go, but blockchain technology will remain. Even the German government has now submitted the first draft of a blockchain strategy. Therefore, it is necessary to establish an eco-system that allows a regulated market. There will be investments (cryptocurrencies, tokens) that better or worse fulfill the defined individual criteria of investors and investors.

This essay was published in the German magazine “die bank” in their April 2019 edition, and reproduced here with permission by the author.

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Norbert Gehrke

Norbert Gehrke

Passionate about strategy & innovation across Asia. At home in Japan. Connector of people & ideas.