A popular idea among crypto enthusiasts is that large institutional investors will soon come to the market in droves of dozens, invest billions of dollars, and take the industry to the moon. This “soon” has been lasting for several years and is always being postponed. But, in February, a significant event occurred for the first time, as two U.S. pension funds invested in cryptocurrencies. What is the significance of a new venture fund for the crypto market? Does its appearance mean that institutional investors did not lose interest in the industry against the background of a prolonged bear market? DeCenter tried to figure it out.
Increasing Opportunities for Institutional Investment
It seems that the crypto market itself is almost ripe for the arrival of large non-private investors. And here’s why:
Large investors do not want to miss the possible profits from crypto investments;
The emerging regulatory framework is increasing the confidence of institutional investors and creates the conditions for the implementation of long-term (five or more years) investment plans with predictable risks;
Transparency has increased, and the market has turned from marginal to almost officially recognized;
The crypto market itself is fighting for a new wave of customers. Crypto exchanges and startups race to create a safe and familiar infrastructure for the financial system. For example, services for institutional investors have been launched by Coinbase, Circle, and Gemini. The Bitfinex, LGO, and GBX crypto exchanges also announced the development of such products.
According to a GBBC survey, 41% of institutional investors are going to invest in digital assets in the next five years, and 16% are going to do so within three years. 23% are not yet ready to invest in crypto markets, while 14% noted that their decision depends on the approval of Bitcoin ETF from the U.S. Securities and Exchange Commission (SEC). Most potential investors are interested in ICOs.
There is a need for market calm, low return on traditional assets, and a developed regulatory framework for institutional investors to enter the crypto market. All these conditions are gradually improving.
The Interest of Wall Street and Financial Giants
Wall Street companies and financial giants are already dealing with cryptocurrencies. For example, Goldman Sachs, Blackrock, and Morgan Stanley are going to start trading Bitcoin futures or invest in them. With the help of the Intercontinental Exchange, which is the owner of the New York Stock Exchange, as well as Nasdaq, Fidelity, and other financial groups, work has begun on launching the Bakkt and ErisX cryptocurrency derivative trading platforms, which will offer trading in settled Bitcoin futures.
Moreover, Goldman Sachs has invested in the development of the USD Coin, and J.P. Morgan has launched its own stablecoin, the JPM Coin. And Nasdaq is going to start trading in cryptocurrency futures, coin listing, and a crypto exchange, which will allow companies to buy cryptocurrencies directly, and not through futures. Bitcoin trade is being launched by the Stuttgart Stock Exchange, Wellington Management Co., Jane Street Capital, Susquehanna International Group (it has been engaged in over-the-counter Bitcoin trading for two years and has about 100 clients). Fidelity and Citigroup are also planning to launch custodian crypto services for institutional investors.
Regarding work with regulators, applications for registration with the U.S. Securities and Exchange Commission (SEC) for Bitcoin ETF were submitted by Cboe, VanEck, SolidX, Bitwise Asset Management, Direxion Investments, and Gemini. So far, no application has succeeded, but this time, the chances that the SEC will take a favorable decision are higher, as the Commission does not consider Bitcoin and Ether as securities, which means that coins can be traded as ETFs.
Pension Funds Too
In early February, the investment firm Morgan Creek Digital, which manages assets worth $1.4 billion, launched a new $40 million cryptocurrency venture fund Blockchain Opportunities Fund. The fund attracted financing from two pension funds from the Fairfax County Retirement Systems (FCRS) in Virginia, and state employees and police officers became anchor investors. Sharing news on pension fund investments in his crypto fund on Twitter, the founder of Morgan Creek Digital Anthony Pompliano said that “the institutions aren’t coming. They’re already here”:
Pompliano is an ardent supporter of investment of pension funds in cryptocurrencies, believing in the slogan that “every pension fund should buy Bitcoin.” The entrepreneur is confident that the first cryptocurrency meets the criteria for an asymmetric yield profile, as the potential growth in investment outweighs the potential risk of falling.
The Fairfax County investment is the first time that U.S. pension funds invest in cryptocurrency assets. They are super conservative and the wealthiest institutional investors who are not willing to risk everything. Their investments could create a precedent after which the managers of other funds would also decide to diversify their assets into cryptocurrency.
The funds management issued an official statement on the amount of pension savings and how they are invested in crypto assets. Together, the two pension funds manage assets worth $5.1 billion. $40 million is a small amount for them. The Employees’ Retirement System (ERS) pledged to invest $10 million, which is 0.3% of the total assets. The Police Officers Retirement System (PORS), $11 million or 0.8% of their total assets. 85% of the funds invested in the blockchain technology, and only 15% in Bitcoin.
The funds recognize that investment in blockchain technologies is risky but believe that they do not differ from “other private investments made by Fairfax pension funds,” and the expected return on these investments corresponds to the level of risk.
The Volume of Institutional Money Is Growing
The money of large investors began to flow into the crypto market in the middle of 2017, but so far, the volume is ridiculous for institutional investments in millions of dollars against billions and trillions in pension funds. Nevertheless, the bulk of institutional money is growing, although the exact amount cannot be named, since most of the figures are insider information, the data of which differ.
For example, according to quarterly data from the investment company Grayscale Investments, 66% of investments in its crypto funds in 2018 came from institutional investors. This is about $20 million.
In October 2018, the financial services giant Morgan Stanley went so far as to publish a report in which it called cryptocurrencies a new institutional investment class. According to the report, in hedge funds, venture and private investment companies stored crypto assets of $7.11 billion.
But at the end of last year, J.P. Morgan’s analysts said that the prices of cryptocurrencies were not justified, and blockchain technology will not have real applications for at least three to five years. “Even in extreme scenarios such as a recession or financial crises, there are more liquid and less-complicated instruments for transacting, investing and hedging,” the report says. According to J.P. Morgan’s data on Bitcoin futures trading, the participation of financial institutions in cryptographic markets has decreased over the past six months, and private individuals occupy an increasing share of the market.
Institutional investors have been investing informally for several years, privately, and through over-the-counter platforms. The main reason is that there are not as many coins on the exchanges as the big players would like to buy. According to Bloomberg, in April 2018, daily over-the-counter transactions ranged from $250 million to $30 billion, compared with $15 billion traded on crypto exchanges daily. As a result, in 2018, institutional investors became the largest buyers in the market, and some platforms saw a three-digit growth in their OTC business. To meet the need for the players, eToro, Coinbase, and Hodl Hodl have launched OTC platforms for institutional buyers.
The “Early” Arrival of Institutional Investors Is Still Being Postponed
Investments in the Blockchain Opportunities Fund are a landmark event, but of only symbolic importance for the industry for the time being. Whether it will create a precedent is still unknown. Most likely, no wave of pension money is expected. Moreover, despite claims that institutional crowds enter the market, they are unlikely to come out in 2019. Obviously, investors are assessing the situation and looking at it, but in reality, very few people go beyond statements and pilot projects, as no one has yet taken decisive steps. It seems that the expectations in this regard are ahead of the real facts.
Sterling Witzke, a partner at Winklevoss Capital, noted that the 2017 boom had led many to believe that large financial capital was about to break into the market, but the industry needed time to create storage services and solve regulatory problems: “I think it takes a while for institutions to get comfortable. There needs to be better custody, healthy debt and credit markets to get them really excited. So I don’t think 2019 will necessarily be the year.”
Cryptocurrencies are gradually but surely penetrating traditional financial markets since almost the entire infrastructure has already been created for this. The final decision of the regulator is what remains. Therefore, no one is asking, “Will institutional investors come to crypto markets?” The only question is, “When?” The most likely answer of “in several years” has been repeated for a year already. Projects such as Fidelity Investments and Bakkt, as well as modest investments from pension funds are paving the way for big capital and bringing its arrival closer.