Today, institutions account for more than 70% of all stock trading volume in the United States. Considering these figures, the push for institutional involvement in crypto-asset markets is understandable.
For many, the arrival of large institutions signals a maturing ecosystem, forging a path to widespread adoption. In an asset class known for its obscurity and volatility, the potential for greater stability and price appreciation is an enticing prospect. With these ambitions in mind, crypto-asset exchanges and emerging market players continue to roll out institutional-friendly over-the-counter (OTC) solutions. Binance, Bittrex, and Circle are just a few of the many platforms looking to capitalise on the arrival of institutional funds.
However, despite reports of robust OTC growth, a disconnect between fiat and crypto markets persists. Many conventional investors remain shut out of the crypto-asset class due to longstanding regulations. For many, crypto-asset infrastructure fails to satisfy institutional requirements. In this article, we'll analyse the function of conventional investors and the support necessary to facilitate their participation in crypto-asset markets.
Institutional investors are the dominant force in traditional markets. In general, they take the following forms:
Typically, institutional investors act on behalf of another party, allocating assets according to the fund's internal strategy or requirements. In the U.S., the majority of these investors are governed by regulations set forth by the Securities and Exchange Commission (SEC). These regulations dictate how institutional investors operate in the broader market. In other countries, similar regulatory bodies oversee institutional investment activities.
Because of their size, institutional investors have several resources at their disposal that help guide their investment decisions. By conducting extensive research using highly specialised tools, these investors decide if they want to invest in a particular company, asset, or industry.
Although this process is extensive, it remains relatively straightforward for conventional assets. However, the assessment of crypto-assets is far more cumbersome. Due to the decentralised nature of these markets and the lack of consistent regulation, formulating conclusive investment decisions remains problematic.
[caption id="attachment_3980" align="alignnone" width="512"] Source: Cambridge Centre for Alternative Finance[/caption]
To encourage further institutional investment in crypto-asset markets, OTC desks and exchanges must correct the shortcomings within their control. By developing infrastructure that conforms to the demands of institutional investors, further adoption is within reach.
When dealing with crypto-assets, key management remains a significant challenge. While public keys allow investors to fund their accounts, private keys facilitate withdrawals. In conventional markets, making withdrawals from any institutional fund involves several checks and balances.
In contrast, crypto-asset withdrawals typically require a single private key. If you happen to lose this key along with the recovery seed phrase, you lose access to your money. With some funds valued in the hundreds of millions, it’s evident that this infrastructure remains inadequate for institutional investment.
Custody, clearing, and servicing are inherent considerations for any institutional investor. In traditional markets, a financial institution usually acts as a fund custodian. Most custodians offer services such as account administration, transaction settlements, and tax support. For higher priority investors requiring advanced functionality, prime brokerages exist to fulfil their needs. According to a report from Preqin, the conventional prime brokerage space remains dominated by a select few around the world.
[caption id="attachment_3981" align="alignnone" width="512"] Source: Hedge Fund Prime Brokers[/caption]
Unlike a simple custodian, a prime broker is a central broker through whom the fund executes most or all of its trades. Further, a prime broker typically acts as custodian to the fund's assets. Although crypto-asset OTC desks can also facilitate large institutional trades, there is no traditional finance model for a digital asset prime brokerage.
Instead, investment managers must exercise self-custody, presenting several critical security risks and lesser convenience.
To overcome these persisting hurdles, Copper has developed proprietary infrastructure for institutional investors. Using a suite of products that interact seamlessly, investors can effectively and safely navigate crypto-asset investment.
Copper’s security architecture combines client segregated cold storage with live trading accounts to give complete control over the custody and transmission of digital assets.
The application allows users to create secure offline cold storage for any digital asset on the Copper Platform. It further reduces risk by eliminating private keys and creating a triple distributed key system.
With distributed keys, every withdrawal requires a multi-signature authorisation. The user and two of their three nominated keyholders must co-sign the transaction before it is broadcast to the blockchain.
As mentioned, investment managers forced to undertake self-custody of digital assets present numerous security risks. As such, an Independent Custodian with technological and business process solutions is required to prevent malicious attacks against a fund's infrastructure, and to stop an investment manager being forced to withdraw the fund's assets to an unauthorised, potentially criminal, external wallet location.
Using a funds exchange APIs and the Copper platform for portfolio management, Copper can create a "Walled Garden". This infrastructure provides custodial services, maintains liquidity, and supports trading across multiple exchanges all in one place. The Walled Garden represents the first iteration of institutional infrastructure.
[caption id="attachment_3982" align="alignnone" width="512"] The Copper Walled Garden[/caption]
With crypto-asset adoption accelerating, the need to develop robust, compliant institutional platforms will become increasingly critical. Despite substantial OTC trading volumes in crypto-asset markets, traditional institutional investors still lack a clear path to crypto-asset markets. Until platforms support the unique needs of these investors, the ecosystem will miss out on vital capital. Solutions that successfully simplify crypto-asset custody, key management, and the prime brokerage process will undoubtedly attract institutional attention.
Copper’s platform brings together a suite of tools that support a Walled Garden. As the first independent end-to-end custody solution for funds that trade on multiple exchanges, this technology establishes a powerful piece of institutional infrastructure. And while future iterations of these platforms remain uncertain, there’s no denying that an industry evolution is well underway.
Our settlements and clearing service is backed by our award winning custody technology