6 major asset management companies involved in the crypto industry: Cryptocurrency is the bridge to the future of finance

Interview source | Euromoney magazine

Compiled and edited by Bai Ze Research Institute

Theory of Bitcoin has shifted from a payment layer to a digital store of value

Genesis Trading is one of the oldest SEC- and FINRA-regulated crypto brokerages. The company grew out of the 2008 financial crisis when its founders left their investment banking employers to form SecondMarket, a firm that traded distressed credit assets from bankrupt securitization businesses. Nasdaq later acquired SecondMarket, and the founders created Genesis, adding cryptocurrencies to the securities users can trade in 2013. Now it trades primarily in crypto spot and derivatives markets, provides lending for repo, and is building custody to become a prime broker.

Joshua Lim, head of derivatives at Genesis, told Euromoney: "Our first users were crypto-native institutions such as venture capital firms, crypto exchanges and some miners, as well as ultra-high net worth investors who were early adopters. They are still trading now, but they only account for a small part of our licensed crypto portfolio. Our company has grown to face more institutional counterparties from the traditional financial world." In the second quarter of 2021, the counterparty base of Genesis' derivatives division grew by 15%, including a significant increase in large macro hedge funds entering the crypto derivatives market for the first time.

“For example, macro traders who are used to trading across emerging market FX, commodities and credit are very familiar with market neutral return strategies in crypto and can present a retail approach to their investment committee without having to make a directional investment.” (This is a basis trade between cash and derivatives markets, often called a cash carry trade. An investor might buy bitcoin futures in the spot cash market and sell them at a premium, or go short during a market dip on a crypto exchange such as Kraken that allows lending, and go long in futures.)

“The big banks see much the same thing,” Lim added. “The thesis for Bitcoin has shifted from being a payments layer initially to a digital store of value, the digital equivalent of gold. CME [Chicago Mercantile Exchange] listing futures was a big step in approval, almost making the market too big to fail. Global investment banks see Bitcoin as just another commodity to offer to investors, and typically their commodities and FX desks trade crypto.”

Why do we need a Bitcoin ETF?

Since 2013, qualified investors can buy shares of the Grayscale Bitcoin Trust (GBTC) on the over-the-counter market - without having to buy, store and keep Bitcoin directly, and only paying a 2% management fee. It is by far the largest cryptocurrency fund. The trust is privately held and only opened periodically, with a minimum investment of $50,000 and a holding period of six months. The Bitcoin community has long believed that an ETF would be better for investors because it would be cheaper and easier to trade and have greater liquidity. Although Grayscale has not yet applied to the SEC for a Bitcoin ETF, it has long been in dialogue with regulators and has said it would convert GBTC into an ETF as soon as possible if it was allowed.

What is the point of a Bitcoin ETF? ETFs tend to replicate a diversified portfolio and allow for easier tracking. Bitcoin is a single asset, so why don't investors buy it directly on the spot market? The answer is that the spot market is unregulated.

Some European cryptocurrency exchanges have attracted the interest of some traditional exchanges with their trading products, but trading cryptocurrencies is a quintessentially American sport. If the SEC accepts it, this step will have huge symbolic significance, although the SEC may never admit it. They need to be confident in the maturity of the Bitcoin and other cryptocurrency markets.

David LaValle, managing director and global head of ETFs at Grayscale Investments, told Euromoney: “For years, the question has been whether the SEC will approve a Bitcoin ETF. It’s no longer a question of yes or no, but when. The Bitcoin story has become the story of digital assets and has created a new dialogue between different types of investors, exchanges, regulators, broker-dealers, custodians, index providers and money management platforms.”

“The S&P 500 was the exposure for institutions until someone came up with this crazy disruptive idea of ​​a market cap weighted ETF. That opened it up to everyone. Factor weighted strategies were the preserve of hedge funds until ETFs allowed the same exposure to the whole world. ETFs bring new liquidity to the bond market. I’m sure we will incorporate GBTC into the ETF structure.” Many asset management companies have applied to the U.S. Securities and Exchange Commission to launch a Bitcoin ETF, but it is expected that if it is successfully approved, the investor demand behind it will be huge.

The underlying cryptocurrencies (altcoins) are not traded on regulated markets. The SEC is more concerned about the potential for a gap to emerge between the regulated exchanges where the ETFs may trade and the cryptocurrency spot markets where Bitcoin index providers source their prices.

Could these prices be manipulated? That’s a scary thought.

Cryptocurrency market needs to wait for regulation

What’s happening in traditional debt and equity markets right now looks equally or even more alarming: the financial world’s equivalent of long-running environmental degradation that’s now threatening imminent financial disaster. Investors are looking for regulated vehicles to gain exposure to cryptocurrencies. The U.S. Commodity Futures Trading Commission allowed bitcoin futures in late 2017. While that hasn’t boosted spot market volumes or institutional participation as many expected, mutual funds have been buying those futures. Daily trading in bitcoin has increased from $5 billion a day in 2017 to nearly $30 billion a day during a surge in the first few months of 2021. Investors have been buying private funds that track the prices of specific cryptocurrencies, particularly bitcoin and ether.

Crypto promoters and evangelists have been hoping that Gary Gensler, chairman of the U.S. Securities and Exchange Commission (SEC), who reportedly once taught a crypto course at MIT, would push for regulation to enable traditional investors to flock to the cryptocurrency space. A source told Euromoney: “The regulators always seem to be two years behind because it takes so long to make new rules. So they were still treating ICOs as securities when no one has been pushing for regulation since 2018. Maybe under the current SEC chairman Gensler, the SEC will only be 18 months behind.”

Gensler offered some thoughts at the Aspen Security Forum on August 3. "Right now, we don't have adequate investor protection in cryptocurrencies. Frankly, at this time, it's more like the Wild West, and this asset class is rife with fraud, scams, and abuse in certain applications. There's a lot of hype about how crypto assets work. In many cases, investors don't have access to rigorous, balanced, and complete information. If we don't address these issues, I'm concerned that a lot of people are going to get hurt."

Gensler expressed the pressure on regulators to address cryptocurrencies, asking for more resources and suggesting that Congress and the Biden administration should focus on cryptocurrencies: "In my opinion, the focus of legislation should be on crypto trading, lending, and DeFi platforms." He hinted that the SEC may be more optimistic about ETFs that invest in Bitcoin futures rather than cash markets.

While the debate over a Bitcoin ETF continues, the largest crypto asset manager, Grayscale Bitcoin Trust (GBTC), is getting bigger. In mid-August, it managed $29.7 billion in assets, while returning 288% over the past 12 months. No wonder more institutional investors want in, even if just for a small strategic allocation of assets in their alternative portfolios.

In July, Fidelity Asset Management, which manages $10 trillion in assets, released a survey of 1,100 institutional investors in the United States, Europe, and Asia. The results of the survey indicate that the adoption of cryptocurrencies will continue to rise in the coming years, as more than half (52%) of the institutions surveyed have already invested in crypto assets. Although the adoption rate in Asia (71%) is higher than that in Europe and the United States, market participation has increased in these two regions.

“The increase in interest and adoption we’ve seen reflects the growing sophistication and institutionalization of the digital asset ecosystem,” said Tom Jessop, president of Fidelity Digital Assets. “The ongoing pandemic and the fiscal and monetary measures in response to it have been a catalyst for many institutional investors to define their investment thesis and put it into action.”

DeFi is attracting more and more traditional institutions and investors

DeFi (decentralized finance) has changed the entire cryptocurrency market by offering yield. Cryptocurrency owners can lock their assets in protocols that generate income in various ways: for example, by lending their assets or becoming a liquidity provider for automated market makers on decentralized exchanges. Now, DeFi has attracted a large number of external investors to the cryptocurrency world. Large DeFi protocols include Uniswap, Aave, Compound, Curve, MakerDao, SushiSwap. These can offer annual yields of 2% to 15%, and sometimes higher when newly launched DeFi protocols try to attract users to buy their own tokens.

Newcomers to the crypto market may be attracted to such passive income as they can lock their dollar stablecoins into decentralized applications that lend them out in exchange for an annual yield of 2% to 5%, which is the low-risk end of DeFi.

Michael Shaulov, founder and CEO of Fireblocks, told Euromoney: “There’s a lot of value inside these protocols, they’re all publicly exposed and have been running for a few years, during which time everyone has tried to crack them. The fact that no one has succeeded doesn’t mean they never will succeed – although you could say the same about any bank – but it’s one of the reasons why they’re so popular.”

Some experts in the cryptocurrency space believe that borrowing and lending Bitcoin, Ethereum, and protocol tokens is less risky because the collateral ratio is so high that the circulating supply is reduced, so the price is supported. A rule of thumb is that medium-risk DeFi offers 5% to 10%, for example, in which case the automated market maker may have sold the assets staked into the liquidity pool without replacing it at the time the owner wanted to withdraw their funds. But when you see some new DeFi protocols advertised with yields of 25% or even higher, this is an area for buyers to be careful, obviously such high returns are not sustainable.

Amber Ghaddar, co-founder of AllianceBlock, told Euromoney: “When I was working on cross-asset solutions at [JPMorgan] after the global financial crisis, yield enhancement strategies were among the most popular. This year, in the wake of the pandemic, you wouldn’t believe how many requests we’ve received from family offices and HNWIs [high net worth individuals] asking me: ‘Amber, find a way for us to get this 12% wealth management product.’” The protocols offering high returns partly reflect the fluctuations in supply and demand for different digital assets, as well as market risk. “Now financial people are bringing knowledge and new products through staking and liquidity pools on decentralized exchanges, which have higher returns than traditional finance, and in some cases can pay 200% per year.”

Ken Timsit, chief revenue officer at ConsenSys, said: “Institutional investors need to determine the acceptable level of risk before they can model and hedge before making large allocations. Because the cryptocurrency market today is still very risky.”

Founded in 2018, EQIBank has a full offshore banking license in the Caribbean and is regulated by the Dominica Financial Services Department and the Eastern Caribbean Central Bank. It is a single bank where clients can hold crypto assets and traditional assets. In August, EQIFI launched a series of new DeFi products, including fixed or floating rate lending and yield aggregators. Brad Yasar, CEO of EQIFI, said in an interview: "Dozens of new products appear every day, and it is almost impossible to track and prepare them for trading on all exchanges and blockchains. We want to create a product that looks at the DeFi market, finds the products with the highest returns, performs risk analysis, and then provides investors with a diversified pool of funds based on their risk preferences."

As for blockchain, Yasar believes: "There are several types of risks in traditional finance that do not exist in this market. Is the code written in a way to protect users, or can a line be inserted to crack it? Who is behind the product and what are their intentions? There are many excellent people in the crypto field who are trying to build useful and sustainable projects, and they have created huge value. But just like in traditional finance, there are scams, pumps and dumps, and people who offer high promotional rates may disappear."

“In the traditional asset management world, there is a key concept of strategic asset allocation, and for traditional asset managers, cryptocurrencies are still not part of that. The main buyers continue to be family offices, hedge funds and increasingly corporate treasuries, which are not subject to the same guidelines as pension funds. If digital assets are truly recognized as an acceptable part of strategic allocation like private equity, the demand will be huge. First movers can build a competitive advantage.”