In the past two weeks, more and more banks have been spotted looking into bitcoin products for their clients. After Goldman revealed it was entering the market in early 2018, there have been indications that Morgan Stanley and Citi are following suit. French bank Société Générale told Byte Me that it wasn't engaged in any "bitcoin related activities", but that it was carrying out diverse tests using distributed ledger technology.
Of course, none of these traded crypocurrency products actually involve touching the underlying asset. Serious financial players are just not interested in worrying about the custody of weird financial assets that may or may not be worth something.
Instead, they are interested in derivatives based on financial assets that may or not be worth something. Hope that clears things up.
This is a feature of institutional involvement in cryptocurrencies that rather angers the hardcore evangelists. The crypto stands for cryptography. Using one’s private key, your store of value can be as close to totally secure as possible.
It is nigh on impossible for non-quantum computers to guess a private key, so your cryptocurrency is as safe as you keep that number. If it’s buried in a safe in your garden, that’s pretty safe. If it’s on a post-it note on your monitor, not so much. The point is though, that it’s up to you.
Famously, cryptocurrency exchanges get hacked, but that is more due to their own negligence in how they handle assets being actively traded and those that are being locked away. In fact, just this week, hackers stole $60m from Japanese cryptocurrency exchange Zaif.
Institutional players, for obvious reasons, do not care about the inherent security of cryptocurrencies. In fact, very few people do. Much of the cryptocurrency market cap, perhaps a majority (although data is unreliable on this point) is not stored in this fashion. When your average prospective cryptocurrency owner decides to take the plunge, he (yes, usually he) will likely create an account on coinbase or one of its competitors and splurge a few dozen avocado toast brunches on a crypto-investment.
He may think that the platform’s fancy two-factor authentication makes it more secure, but in truth, it only makes it difficult to impersonate him on the exchange. The cryptocurrency itself is housed by the exchange, which remains vulnerable.
The reasons for the preference are obvious. It is a tremendous hassle to trade pure private key to private key. And, if you’re a trader or institutional client making hundreds of trades a day, the truth is that the intermediaries that cryptocurrency allows us to dispense with actually provide a useful service.
Banks are falling over themselves to provide that service. Holding crypto in custody and allowing clients to trade them without getting their hands dirty by actually touching the stuff.
And it’s not just banks. Start-ups are crowding into the market too. Caspian raised $16m with a pre-sale of its token (rather respectable these days, now that the shine has worn off the ICO model).
The Caspian platform offers the opportunity for institutional grade investors to trade on 24 different cryptocurrency exchanges from a single platform. This smooths out the notoriously lumpy liquidity profile in the cryptocurrency market, allowing institutional sized orders to be diffused throughout the market and avoid causing price ructions.
It has 15 customers using it and 170 institutional grade customers planning to jump aboard. It has all the functionality institutions need to operate in compliance with regulations.
But given the catastrophic performance of cryptocurrencies this year, it is a little surprising that there is any institutional interest left in crypto as a speculative asset.
In fact, given the quick rise and collapse of cryptocurrencies, it is entirely possible that the initiatives being leaked to the press are coming out now due to inertia within the institutions.
Once there has been sign-off, it can take a few months to get to a stage where a controversial new product is officially launched. The meteoric life cycle of the asset class means that banks began costly R&D investments in crypto infrastructure that are coming to maturity only now, when the froth has blown away.
But it could also mean that despite the poor performance of cryptocurrenices, the enormous volatility of individual ones, like Bitcoin, are an attractive proposition for larger players. This lends credence to the theory that institutions were not necessarily interested in Bitcoin because it had risen in value. Rather, in a low interest rate environment, they like an asset that moves, be that up or down.
Withering from Westminster
The House of Commons Treasury Committee that sits within UK parliament has issued a report on the burgeoning cryptocurrency market, and crypto fans may not like some of the conclusions it has reached.
Noting that currencies were supposed to be a “store of value, a medium of exchange and a unit of account”, the committee concluded that no existing cryptocurrencies served all these functions. Ouch.
In addition, the committee said that while “small scale uses for blockchain may exist”, there was not any evidence that “universal applications of the technology are currently reliably operational”. That doesn’t mean there is won’t be grand scale applications of the technology in future, but Wall Street and market infrastructure companies better get on with it. We’re still waiting.
Interestingly, the report revealed that David Raw, the deputy director of banking and credit at the UK Treasury said the department was unsure on how to apply existing rules to cryptocurrencies.
Before even considering a bespoke regulatory framework like France, Raw said that the Treasury was considering amending the “regulated activities order”, which would mean that activities like capital raising using cryptocurrency or providing trading services might fall under the purview of regulators like the Bank of England and the Financial Conduct Authority.
The committee recommended the government consider activities to include within the order, while warning that regulation “should be treated as a matter of urgency”. Oh dear.