Routes to institutional growth in digital assets
By A Paris – The institutionalisation and maturing of the cryptocurrency and digital assets world is taking place – at present this is primarily happening through investment professionals moving from traditional finance and setting up their own cryptocurrency funds. But increased allocations from institutional investors are also expected to follow as the long-term outlook for the sector looks robust, volatility notwithstanding.
Niclas Sandstrom, CEO & co-founder of Hilbert Capital, assesses the development of the industry through people moves: “Many of my colleagues, myself included, came from traditional finance, hedge funds or investment banks. This movement is a good thing because, although there are also people coming from a purely technology background in crypto and funds, you can’t overstate the importance of having managed money and risk before and having been in that environment. The truth is that the infrastructure around these assets is not as strong yet, so having that experience in traditional finance is helpful. Having people migrate from traditional finance into the digital assets space definitely accelerates the maturity process.”
Dmitry Tokarev, CEO of Copper, has also seen this development: “People move from traditional finance to the crypto space everyday. Our clients are not all crypto native fund managers – they are former private bankers or portfolio managers of global macro funds, long short funds, etc.”
Alex Batlin, founder and CEO of Trustology, agrees: “We are seeing the gradual institutionalisation of the crypto world which is happening through people movement rather than traditional organisations committing large chunks of capital to these assets.”
This maturing of the industry can be seen to support the argument for greater flows of institutional money into cryptocurrency and digital assets. Having experienced money managers running cryptocurrency funds can give traditional institutional investors more confidence in allocating money to such assets.
According to Tokarev: “Capital allocators are the ultimate goal and we’re likely to see more funds appearing and being made available. There is also an element of time and certain decisions you cannot make without taking the view for the next 20 to 30 years. This asset class hasn’t been around for this long yet so it’s not unreasonable that they’re not investing yet.”
Pierre Maliczak, CEO of Altarius, comments on the outlook for institutional flows into digital assets: “Currently, the institutional money allocated to this asset class represents about 10% of the market. To be recognised as a real asset class, the allocation needs to increase drastically. Now, more than ever, I think such investors will be considering investing into cryptocurrencies. The amount of debt issued recently by the central banks does raise serious questions about fiat currency valuation. China, with the announcement of the creation of its own digital currency, challenging the supremacy of the US dollar will add instability too.”
Sandstrom at Hillbert makes a similar forecast: “This central bank crisis has seen them printing so much money and with interest rates being so low for such a long time, digital assets are a good hedge against this. If you invest long term, digital assets are safe from inflation, or hyper inflation, and are not correlated with gold or stocks. So cryptocurrency is looking a lot more appealing from that point of view.”
Batlin notes the industry has been talking about traditional institutions coming into the digital space for a long time but it hasn’t happened en masse yet: “We haven’t yet seen traditional institutions putting a large chunk of their allocation into crypto.”
However, according to Sandstrom institutional investors are coming around to the idea of having a digital assets allocation: “People are starting to understand that although cryptocurrency means a lot of volatility it also generates enormous return. This doesn’t mean they should put all their money into digital or crypto but they should make an allocation - for some 2% of net assets is the right allocation, for others it might be 10% or more.”
“At the moment I think it’s irresponsible not to have any exposure to digital assets or Bitcoin at least. It’s a genie you can’t put back in the bottle – the more it exists the less likely it is to go away,” adds Tokarev.
Bridging the gap
Maliczak at Altarius says there are still serious obstacles holding institutional allocation back: “What the investor needs is a clear international regulatory framework and proper bank custody services to safeguard the assets. It is moving but it will take time.”
However, according to Batlin, the reason for low take-up from institutional investors, particularly pension funds, is not driven by the lack of traditional custody banks. He says: “Fidelity offers custody but this has still not encouraged pension funds to allocate. They are cautious by nature and so they should be. The lack of demand on their behalf is driven by the notion of the asset class still being too risky and not deep enough. Although the infrastructure is a factor, it is not one that’s keeping them from allocating.”
Sandstrom speaks of the importance of having traditional players offering custody of digital assets, alongside the new, more tech-based players: “It’s important that traditional players come on board because it lends trust. Having a firm like Fidelity is great for adoption because people trust Fidelity. On the other hand, the newcomers have more innovative ideas. They have more freedom and in that freedom new exciting technologies will be born that a traditional player like Fidelity wouldn’t go near. So, it’s important that both exist in parallel.”
“The traditional banking sector does already face many challenges in dealing with this new asset class and the new technologies attached to it (competition with neobanks, KYC, digital onboarding and so on). It’s going to require them to re-think their whole business model. But they have no choice if they want to survive,” says Maliczak.
Sandstrom however acknowledges that having so-called household names offering custody will not automatically lead to greater allocations: “I think it will just take time. Institutions, especially pension funds, are quite conservative – rightly so. But we have seen investors like university endowments – MIT, Harvard, Chicago – who have been allocating for some time.”
Batlin believes insurance funds will be the next big institutional player to allocate to the digital space: “They’re geared towards graduated risk. Part of what they do is take different risks and bets so I can see that they may choose to go down this route a lot more in the near future.”
Maliczak outlines another trend: “We’ve also seen recently clients investing heavily into young start-up companies they identify as being potential market disruptors in very specific spaces. The view is to get access to new technologies for their own business and leverage on investment opportunities with high diversified potential returns. The risk is higher, but looking at the current market conditions, it does make sense.”
Although Tokarev at Copper concedes this could be a way to bridge the gap; he notes: “You can do this but it’s a double bet – you’re long the sector but also long the execution so it’s a double or nothing bet. If you believe in the sector then you should put 1-5% directly into Bitcoin.”