What are cryptoassets beyond crypto currency
Reality check: what makes digital assets an option in wealth management
Crypto assets are very volatile and complex, but they open up significant opportunities for growth. They have an inherent value. More and more customers are therefore looking for comprehensive management and advisory services from asset managers and private banks.
Cryptocurrencies open up investment opportunities in asset management
In order to assess the potential of crypto assets, context is crucial. Because blockchain technology not only enables cryptocurrencies, but also tokenization: the generation of digital tokens that represent different types of assets. So far, tokenization has mainly been made possible by Ethereum and has been used for many Initial Coin Offerings (ICOs) beyond Bitcoin. The underlying technology opens up the potential to support a whole range of different types of digital assets through tokens.
Even regulatory authorities such as BaFin are now speaking of a paradigm shift and are viewing the digital token as a sui generis security class.
Crypto assets as an investment object
Crypto assets can also be worthwhile for serious investors for several reasons:
- They act as an anti-inflationary store of value,
- open up growth potential and
- offer diversification effects.
Crypto assets as a store of value
Using it as a store of value is an essential characteristic of money. However, due to inflation, the population in emerging countries is looking for alternatives to save the value they have saved. For example, while the Argentine peso fell by more than 50 percent against the USD in 2018, the volume of bitcoins bought with Argentine pesos doubled during the period.
Crypto assets are also traded speculatively, and the trading volumes alone show that there is still great interest. Indeed, many analysts see the bursting of the crypto bubble after the 2017 rally as a sign of the growing maturity of digital assets rather than a sign of their imminent disappearance.
The diversification effect
When building a portfolio, the correlation between the assets it contains is important. Maximizing diversification involves spreading the risk across several underlying, hopefully uncorrelated market factors - and Bitcoin mostly does not correlate with other financial assets. Given the right hedging policy, the volatility of crypto products can increase portfolio performance. The cryptocurrency variant of stablecoins - such as Facebook's Project Libra - deliberately limits this volatility.
Typical investor worries
Both investors and financial institutions still face considerable challenges, if only because of the technical complexity and the uncertainty of market participants:
- Where should a private investor start who has chosen cryptocurrencies?
- Which players in the market are trustworthy?
- What liquidity do these exchanges offer?
- Are the custodian agreements satisfactory?
Blockchain technology is also complex by nature and uses cryptography that is difficult to understand. But private investors want to be protected against cyber attacks and key manipulation and not take any unnecessary risks through crypto investments.
The perspective of banks and asset managers
For banks and wealth managers, aspects such as market liquidity, settlement and compliance are also important:
- What influence do crypto activities have on the balance sheet?
- How can money laundering be combated?
- How are the assets kept?
- Can the new crypto assets be integrated into the existing investment process?
The crypto market and its technology are still immature, which makes it particularly difficult for asset managers and banks to research and build crypto investments on their own. It is an advantage here if there is no need for a completely new infrastructure to manage crypto assets, but rather the new crypto solution can be easily integrated into the existing infrastructure.
Outsourcing to crypto service providers
Crypto products have such interesting properties for investors that it could soon be a negative differentiating factor if an asset manager does not offer them. One possible way is to outsource parts of the crypto value chain to specialized providers.
For example, crypto-based funds could be obtained from an asset manager or hedge fund in order to offer them to their own customers - simple access to the crypto market that avoids a number of burdens, but also does not fully exploit the advantages of crypto assets.
Access to direct crypto investments via third-party custodians and trading venues is also possible - crypto custodians offer services for cold wallets that keep assets securely offline.
Holistic investment support as a crypto custodian
Blockchain has caused some traditional market participants to lose their position. In particular, processing is significantly simplified because the blockchain acts as an asset repository that every actor along the value chain uses. This has a disruptive effect on safe custody and Central Security Depository (CSD). Whoever has the crypto keys can carry out transactions - the relationship between the customer and the custodian bank becomes immediate.
Banks and asset managers therefore have the option of integrating the entire crypto process and becoming the custodian of their digital assets for customers. For many of them this will be a must. Customers would then have a one-stop shop for traditional investments and crypto asset management. The decisive USP would be the seamless integration of crypto assets into the entire investment process: Like all other systems, crypto assets would also be available in the customer's investment portfolio.
The reporting and analyzes of positions, performance and risk then extend over the entire investment portfolio of a customer, be it classic or digital assets. From the customer's point of view, this way opens up the greatest advantages. For banks and asset managers, however, it is also associated with more effort than an outsourcing approach.
The trend towards tokenization
It seems very possible that tokenization will become the next big trend. For example, banks could issue fund shares as tokens on behalf of the customer to implement liability instead of a cumbersome, paper-based process. This reduces the administrative burden and at the same time makes it possible to sell smaller denominations of the fund and to address a broader customer base. In addition, the flexibility of the smart contract embedded in a token can be used to develop innovative products with a predetermined profile.
The custody business is becoming less important as a result of blockchain.
In the tokenization market, too, banks and asset managers have the advantage over pure crypto companies that they are already connected to the traditional fiat world. For established companies, it is perhaps a decisive USP in the new crypto market: They can combine the strength of their traditional investment offering with the advantages of the new crypto asset world.
The whitepaper for deepening
Download document as PDF
Avaloq has compiled more detailed information, statistics and possible solutions in its English-language white paper "Digital Assets hit the Wealth Management Main Stream", which is available for free download.
Bank Blog partner: Avaloq
You can find out more about the partner concept of the bank blog here.
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