Cryptocurrencies seem to be back in fashion.
Bitcoin - the pack leader of the asset class - recently hit a year-high of $13,000, having come through a market crash in 2018 that, at one point, wiped away more than 80% of its value. Alternative cryptocurrencies like Litecoin and Ethereum are also trailing after Bitcoin’s upward trajectory from their lows after the market slump.
But with global regulators tightening their grip on various areas of the market from coin issuance to cryptocurrency trading, the revived hype for the asset class could be short-lived.
Last week, the Malaysian securities regulator ordered unregistered crypto exchanges to shut down, saying that only three trading platforms were licenced to operate; and Korea’s Financial Services Commission warned that Facebook’s new Libra cryptocurrency could threaten the stability of financial systems.
The UK's Financial Conduct Authority, has also proposed banning the sale of derivatives and exchange traded notes that reference 'certain cryptoassets', during the same week.
Now that some regulators have increased the oversight of the crypto market in their own jurisdictions, how will it evolve in the coming year? Which country or region will see the biggest changes?
More importantly, does more regulatory clarity mean institutional investors will become more interested in cryptocurrencies? What can they do to avoid the potential risks of investing in these assets?
AsianInvestor asked six investment specialists to share their thoughts.
The following extracts have been edited for brevity and clarity.
Henri Arslanian, Fintech & Crypto Leader for Asia
PwC Hong Kong
One of the biggest developments we are seeing right now in the crypto space globally is increased regulatory clarity. It's been remarkable over the last couple of months to see how much more clarity we have today. According to a recent report from Cambridge University, only 5% of regulators still lack somebody in their team working on crypto.
The increased regulatory clarity has been welcomed by the crypto community. If you have regulatory clarity and certain rules and regulations, this takes care of the bad apples and helps institutional investors enter the crypto space. While it is true that there are more bad apples in the crypto space than in traditional financial services, the upper tranche of the market is very institutional.
From an institutional perspective, this change will be very interesting. We are definitely seeing more interest from institutional investors in crypto assets, but they do require safeguards.
The majority of institutional capital coming into the crypto world is still from high-net-worth individuals and family offices. Gradually we will see foundations and endowments looking into it, and maybe some more interest from pension funds, but these are still early days. I believe an increasing number of institutional players will look at this space in the next couple of months.
Grace Chong, of counsel
Simmons & Simmons, Singapore & Hong Kong
Exchanges and dealers will continue to face challenges, a key one being how to find a compliant way to share KYC (know-your-customer) data to meet the new FATF (Financial Action Task Force) ‘travel rule’ requirements. This may lead to a squeeze in liquidity as the incumbents gear up to deal with evolving regulatory requirements.
Singapore’s landscape will likely change dramatically once the Payment Services Act comes into effect, as all digital payment token service providers that deal in or facilitate the exchange of digital payment tokens (DPTs) (ie cryptocurrencies) will now have to be licensed and meet AML (anti-money laundering) /CFT (combating the financing of terrorism) rules and other business conduct requirements.
For many exchanges currently operating or planning to apply for licences in Singapore, it will be a challenge to restructure their systems to put into place these controls and reporting systems, and it will require their other counterparties globally to implement the same systems. Crypto businesses will likely face increased compliance costs and may face difficulties meeting the requirements.
Incumbent financial institutions that are exploring working with unregulated crypto players will also have to assess the operational requirements of how they work with exchanges, in light of the increasing onerous compliance and KYC requirements imposed. This may be relevant, for example, for financial institutions who are exploring adding crypto funds or other crypto products to their offering.
Steven Seow, executive director
Singapore Consultancy
As global crypto markets evolve and significant players like Facebook come into the crypto space with their own currency Libra, the regulators will up the ante on regulations and legal / compliance guidance.
Within the same breath of Facebook’s announcement of the Libra Project, lawmakers and government officials worldwide have been questioning the project, if not outright calling for a moratorium on development.
Once there’s a secure institutional-grade digital asset custody solution, we anticipate an influx of more institutional investors.
Third-party due diligence is key when investing in cryptocurrency, whether it be the banks, exchanges or cold-storage wallet providers.
There have been a few hacks of the top exchanges with the most recent being Binance, one of the world’s largest cryptocurrency exchanges, which said, in a post on its website, that hackers withdrew 7,000 Bitcoins worth about US$40 million at the time of the hack via a single transaction, in a “large scale security breach”. The hackers used a “variety of techniques” including phishing and viruses to obtain a large amount of user data.
Personal storage and security of your digital assets is also important as there is no authority or bank teller who can assist with the withdrawal or deposit of your funds/ crypto assets in the decentralised world of crypto.
Ville Oehman, chief executive
Davos Custody
The crypto asset market is becoming more and more like the traditional asset management market, with the same licence and compliance requirements as other asset classes have traditionally had. While the requirements seem tighter for companies that have not previously been regulated, they are quite normal for companies that are already in the asset management industry.
Also, the clarity in regulation and various licence requirements make this asset class investable for institutional investors, which translates to increasing asset allocation to this new asset class. I don’t think there are any particular regions where these changes would be more significant than others, but the direction is very clear.
The interest in this asset class has been healthy for a few years already from the institutional investor side, but there has not been investment products that would qualify for them. Today already, and certainly in the next 12 months, we’ll see several fully compliant funds that fullfill the strict criteria of institutional investors in terms of high quality auditors, custodians, fund administrators etc, and that also can demonstrate multiple years of historical performance in this asset class.
Institutionals are very good at managing risk, it’s the asset management side that needs to get their products to meet the criteria of the investors.
Oliver Gale, managing director
Basetwo Capital
As cryptocurrency oversight tightens we return to the original thesis of censorship resistance, store of value, and asset fungibility. Anything that functions as a bearer instrument, has strong PoW (Proof of Work) consensus and privacy built in will see increased market share.
I think India will see the biggest change in relaxing their hardline anti-cryptocurrency stance, as the Reserve Bank of India (RBI) is fighting a losing battle - better to regulate and establish controls.
Institutional investors are becoming more comfortable as the digital asset management industry matures alongside regulation. There are now licensed and insured custodians, sophisticated portfolio tracking tools, increasing trade volumes and alongside that, increasing global acceptance.
[Institutional investors can] avoid risk by allowing professional and institutional-grade asset managers to manage the portfolio. Some key requirements are strong custodians, understanding of core technologies, diversification of portfolios, liquid trading markets, and a clear thesis on the macro picture.
Francis Ang, founder
Kozjin
Twelve months is a long time in the crypto world. However, we foresee growth in the market cap for Bitcoin, at the very least. Within the last month, Bitcoin has already broken $200 billion in market cap for the first time in 17 months. With the halving of Bitcoin scheduled for 2020 and bullish news of Libra launching also in 2020, it's garnering more interest in cryptocurrency from within and outside the crypto community respectively.
We have to understand that tightening of regulations will not go away, and in fact, will only intensify as time goes on and more corporates and organisations move into cryptocurrencies and the use of blockchain.
There will definitely be more movement and noise about cryptocurrency in the US, especially with Libra launching and a few crypto companies launching their services/products there. With recent Facebook security controversies, it is expected that the government will pay special attention to Libra and its launch.
As mentioned above, more scrutiny and attention in crypto will lead to tightening of regulations. With this, there will be clarity and the regulation of crypto will allow funds to know the rules better. This introduces structure for the institutional investors and funds to then provide a clearer investment prospectus to investors.
