Bitcoin was created over a decade ago and remained quite popular among certain subgroups in the tech and gaming communities, but didn’t gain mainstream popularity until a few years ago. It has come a long way from being associated with illegal activities, for example, being used in the infamous dark web site, Silk Road, the first modern-day darknet marketplace — to being used as a legitimate payment method by some of the largest companies on the planet, including AT&T. In just over a decade, blockchain, the underlying technology behind Bitcoin, has given rise to a new category of financial instruments: cryptocurrencies. Over the years, we have seen a greater push for mainstream adoption of cryptocurrencies. If the ICO boom was the buzz around town in 2017, and the bear market was prominent in 2018, institutional investment in the crypto industry is definitely the theme for 2019.
The ICO frenzy: First Major Wave in Crypto Adoption
The Initial Coin Offering (ICO) frenzy in 2016 and 2017 remains a very significant event in the cryptocurrency industry to date. Initial coin offerings, through the help of blockchain, allowed thousands of companies to raise funds from the general public rather than going the more traditional route of institutional investment or venture capital. To date, ICOs represent the most prominent use case of cryptocurrencies and smart contracts on the blockchain: fundraising. Within a span of two years, this use case brought in hundreds of thousands of people into the cryptocurrency space. By December 2017, the Bitcoin price had soared to almost $20,000 and the cryptocurrency market cap crossed the $800 billion mark. What was most interesting about this rally was the fact that up until then, institutional involvement in cryptocurrency investing was minuscule. And while ICOs managed to entice some, most people remained sceptical as the space still lacked a high degree of genuineness and accountability, bringing us to the next development in the space. After the 2018 bear market, companies are now focused on building products and services, with some shifting their focus to institutional investors.
Institutional Investors: The Need of the Hour
Institutional investors have remained the “gold standard” in determining the quality of investments. Institutional investors control large chunks of financial assets and have substantial resources at their disposal. Over the decades, institutional investors have built a reputation for themselves, since they have had access to companies that an average person does not. The 2013 crypto bubble was driven by technocrats and dark web trawlers, while the 2017 rally was led by speculative retail traders. Several research studies, as well as the involvement of reputable financial institutions deciding to take the plunge into crypto, are popularising the narrative around institutional investment and its potential impact, which is why most companies today believe that the growth in 2020 will be a result of financial institutions which are diversifying their portfolios and adding cryptocurrency trading to the mix.
Fidelity Investments, the financial giant that has over a trillion dollars worth of assets under management, revealed plans to launch its own cryptocurrency division after it saw huge interest from institutional investors and recently managed to receive the trust license from the New York State Department of Financial Services (NYDFS). According to a study conducted by Fidelity, the findings saw that most investors (72%) preferred to buy crypto investment products, while 57% prefered to buy crypto assets directly and another 57% preferred to buy an investment product that comprised digital asset companies.
Another big institutional player that has found its way into the crypto-sphere is Intercontinental Exchange whose long-awaited Bitcoin futures platform, Bakkt, was launched in October. After a very underwhelming start, the daily volume of the futures contract has gone up substantially.
Gradually, we are witnessing the entrance of some of the biggest players in traditional financial markets into the crypto space, and as a result, it has not taken long for the markets to deem that institutional investors will bring in the next wave of the crypto bull market. The question, however, remains: Can institutional investment help in the mainstream adoption of cryptocurrencies?
How Institutional Investments Catalyse Mainstream Adoption
Institutional investors and top institutions make the news. In order to understand the impact of big-name firms entering the crypto-sphere, one may only need to look at Facebook’s Libra coin, that was announced earlier this year. In a short period of time, the Facebook-led stablecoin has garnered so much attention that lawmakers in the United States and around the world are holding hearings to review the project. Just a month after the whitepaper was launched, eToro commissioned a study in the US in which it found that 16% of respondents had heard of Libra, while only 12% of respondents had heard of Ethereum, the second largest cryptocurrency which has existed since 2015 and had a market cap of over $15 billion at the time of writing. If there is one lesson we can learn from Libra, it is the fact that big companies make the news — and that interests more people. The launch of Facebook’s Libra coin has been considered by many as one of the reasons for this year’s Bitcoin price rally. Keeping aside the viability of the stablecoin, there is no denying that it has been successful in bringing more people to the discussion table and fostered the conversation around cryptocurrencies, which is key to eventual mainstream adoption.
Institutional Investors = Increased Confidence
In addition, institutional investors instill confidence. Not everyone understands the financial markets and certainly, not everyone understands blockchain and cryptocurrency. Institutional investors not only invest large amounts of their capital, but also put their reputations at stake. Confidence is key when it comes to investing. People will not put their money into something they do not clearly understand unless they see some reputable and genuine source doing the same. General public sentiment has gradually evolved over the past few years. Keeping the volatility of cryptocurrency aside, people have become more confident about the future of tokenisation and blockchain technology. Furthermore, some of the world’s most reputable universities, including the likes of Harvard University, Dartmouth College, Stanford University, Massachusetts Institute of Technology (MIT) and the University of North Carolina, have invested in at least one cryptocurrency fund. Morgan Creek Digital made headlines by being the first US pension fund to invest directly in cryptocurrencies. Crypto requires credibility to achieve mainstream adoption and institutional investment has the potential to act as the catalyst.
Promoting Overall Growth
Furthermore, institutional investments foster overall growth in the market, from liquidity to product offerings to greater access. In order to entice institutional investors, an increasing number of companies are introducing crypto-based products. Almost all of the top cryptocurrency exchanges offer margin trading or at the very least, plan to offer margin trading in the near future. We have also started seeing the launch of more derivative crypto-based products. Bakkt, a major exchange operated by Intercontinental Exchange (ICE) and supported by several major companies, including the likes of Microsoft and Starbucks, is gradually gaining traction for its Bitcoin futures. Another leading exchange, Deribit, based in Amsterdam, is well known for being the first true Bitcoin options exchange. Issues around security are being addressed by several companies in the custodian business. The crypto community has seen some pretty bad examples of poor custodianship, such as when exchanges are hacked and lose millions of dollars of investors’ money, or when the exchanges themselves turn out to be fraudulent. The more we see institutional investors enter the space, the higher the bar is raised for stricter standards of custodianship. Institutions catalyse this process because they have a reputation to uphold.
Crypto’s Kryptonite: Volatility
Volatility in crypto markets is not a new phenomenon and is likely to be one of the major reasons why people do not invest in cryptocurrencies. Even though the cryptocurrency market cap is well over the $180 billion mark (at the time of writing), it still remains quite insignificant as compared to traditional financial markets. And since the liquidity is thin, any sudden price movements have the ability to turn the market on its head. Therefore, a growing interest from institutional investors presents in itself the opportunity for larger capital injection into the crypto markets, which in turn could help solve the volatility concerns to some extent. Coinbase, one of the most popular crypto exchanges, has also remained bullish on institutional investment in cryptocurrency. The company has a whole suite of products catered towards institutional investors, including custodial services to a professional trading platform. In August 2019, Coinbase CEO Brian Armstrong tweeted that Coinbase was receiving $200-$400 million in new crypto deposits from institutional customers.
Recent developments in the crypto industry cannot be overlooked or simply pushed away. Until now, cryptos have mainly attracted individuals — tech enthusiasts, early adopters, “geeks” and retail traders — and while this has allowed the industry to grow initially, the fuel from this group of investors can only drive the growth so far. In the long term, mainstream adoption and large-scale growth require large capital infusion and legitimacy which institutional investors can bring with them.
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Cryptoassets are volatile instruments which can fluctuate widely in a very short time frame and ,therefore, are not appropriate for all investors. Other than via CFDs, trading cryptoassets is unregulated and ,therefore, is not supervised by any EU regulatory framework. Your capital is at risk.