Designed as a payment tool, cryptocurrencies have attracted the interest of asset managers as the promise of returns is so high, writes Laurent Marochini, head of innovation at Societe Generale Securities Services in Luxembourg.
Cryptocurrencies are naturally becoming a new asset class with a market capitalisation that has grown from $80 billion to more than $1,8 trillion.
Adoption is now
These impressive amounts place the cryptos at the same level as the top Gafa which monopolize the headlines, but especially this capitalization is four times higher than the first bank in the world. The development of this ecosystem has allowed the emergence of new companies whose valuation upsets the traditional players. The asset management world, and more generally the financial institutions cannot ignore this new phenomenon.
2021 and 2022 have seen the massive arrival of institutional investors and corporate clients into the world of digital assets. In the US, companies like Microstrategy and Tesla have converted part of their cash into Bitcoin. Hedge funds and even traditional funds are looking for exposure to this new asset class. A country like El Salvador, and more recently Central African Republic recognises Bitcoin as legal tender. All of these factors have helped increase adoption and thus strengthen the ecosystem. However, we note differences between continents, with the United States remaining dominant on the crypto-currency scene and Europe positioning itself more on the appeal of security tokens.
Tokenization of financial and non-financial assets can bring to the table an important number of benefits such as efficiency through automation, reduced time to delivery, but also transparency. These elements will undoubtedly change the role of players in the value chain. Asset management will be able to take advantage of these improvements.
As a reminder, security tokens are financial assets created on a blockchain. Societe Generale is a driving force in this field, notably through its subsidiary SG Forge, which has already tokenised bonds and structured products.
This gap was already confirmed in the surveys that SGSS conducted in February 2021, as well as in market data. The Chainalysis index confirms to us the skyrocketing adoption of cryptos, and the number of Bitcoin holders has increased tenfold in the last six years. The adoption of crypto assets is following roughly the same pace as the Internet before them. This suggests that the number of crypto holders could reach half a billion by 2025. The asset management world has cards to play to enable its clients to benefit from these opportunities in a secure manner.
Recent developments in central bank digital currencies, which have already become a reality in China with the Digital Yuan, will undoubtedly help transform our market towards a token market.
A regulatory landscape that is taking shape
If adoption has been possible, it is undoubtedly because the regulatory framework in all jurisdictions has provided clarity in all segments. France has been a pioneer on the subject, notably with the Pact law, but also by setting an example through the Banque de France’s experiments, which allowed new technologies to be tested in future frameworks.
In Europe, it is also the turn of Germany, Luxembourg and more recently Italy to show the example. In summary, it is possible to invest in crypto in a professional world but with specific conditions. It is still not possible to expose retail through Ucits but it is probably a matter of time.
We’ve been talking about countries, but what is Europe’s position?
Crypto currencies and stablecoins are the subject of the MiCA (Markets in Crypto Assets) regulation, which aims to establish a European regulatory framework applicable to digital asset service providers. The regulation is expected to come into effect in 2023.
As far as security tokens are concerned, the Pilot Regime will be the one to facilitate the exchange and settlement of financial instruments issued in the form of crypto assets. The regime will allow testing in a “sandbox” environment by obtaining exemptions from the rules normally applicable to financial instruments.
ESG considerations should not be overlooked
In a world where global warming is at the top of countries and companies’ agendas, taking ESG into consideration is not a “nice to have” but a “must have”. Blockchain and cryptos cannot ignore this phenomenon given rising media criticism. According to the survey conducted in Luxembourg at the end of 2021 by Lhoft, PwC and ALFI, the environmental consideration is the most important. It is essential to remember that criticism of the energy consumption of cryptos is related to the “Proof of Work” protocol that underlies cryptos like Bitcoin or Ether. This protocol consumes a lot of electricity with a very high carbon footprint. The use of renewable energies allows these remarks to be tempered, but it could be used for other purposes. The alerts received on a potential ban within the framework of MiCA will undoubtedly accelerate the transition towards less energy-consuming protocols such as the Proof of Stake.
It is in the challenges that we develop opportunities. It’s a resourceful and creative market. Without dwelling too much on Decentralised Finance (DeFI), NFTs (Non-Fungible Tokens) or Metaverses, we realise that despite the maturity that we are observing, we always have new things being added. Asset management can therefore benefit from innovation and create differentiating products for clients looking for returns and hedging. New generations of investors will undoubtedly be demanding.
The asset servicer will be key in this context and will also have to play this role. Agility will be necessary to be able to reap the opportunities and to be the reference player in the market.
By Laurent Marochini, head of innovation at Societe Generale Securities Services in Luxembourg
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