How Professional Traders Are Changing the Cryptocurrency Market: “Market Structure is Evolving”

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As cryptocurrency loses its stigma as nothing more than a convenient conduit for criminals and money launderers, banks have so far proceeded with caution.

Goldman Sachs and JPMorgan are among the large banks that have engaged in trading cryptocurrencies – not cryptocurrencies per se, but futures contracts and other instruments – to reap the volatility and potential returns enjoyed by armchair traders and HODL fanatics during the pandemic.

This growing institutional interest is changing the architecture of the market, says research firm Coalition Greenwich.

“The market is shifting from spot trading and physical ownership, such as holding bitcoins, to ownership of physical and financial instruments, with the market adopting traditional financial products such as digital asset stocks, futures, options and funds and products traded in stock exchange, “market structure and technology consultant David Easthope wrote in a Greenwich report this month. “As traditional institutional investors, fund companies, custodians and banks become active in digital assets, the market structure is evolving.”

The firm’s data shows that ETFs and other cryptocurrency-related products are favored by 61% of buy-side institutions, versus 27% who want direct physical ownership.

How this all works out depends on the scaffolding of the digital asset market as it develops and the important role regulators play in the future – the last thing any financial institution wants is to be sued. Currently, traditional financial firms are reluctant to hold cryptocurrencies “due to its bearer nature,” says Easthope, which means it behaves in much the same way as a £ 10 note: no ownership data, no records, no rules on recording any transfers.

This is terrifying for financial institutions that are thoroughly regulated, forced to provide custody and security details, not to mention banks’ already burdensome capital requirements.

Easthope says most mainstream finance now accepts cryptocurrencies “not as a flash in the pan but as a new asset class that needs to be looked into closely.” But, in particular, he adds: “Certainty is not taken for granted”.

Meanwhile, the macro environment – skyrocketing inflation, bull market in stocks for over a decade – is playing a pivotal role in the boom in cryptocurrency demand.

Goldman Sachs, which said earlier this month that it expects bitcoin to hit $ 100,000, sees cryptocurrencies as a hedge against rising inflation and could steal market share from gold. Bitcoin’s $ 700 billion market capitalization controls roughly 20% of the “store of value” space, which Goldman defines as bitcoin and the value of gold used for combined investments.

Also fuel the demand: the bull market, which is hitting anyone and everyone who is not a passive bull riding the index.

With only a few exceptions, hedge funds for the most part have not been able to outperform the S&P 500 in 2021. Understandable – the benchmark has risen to a hard 27% to beat – but for companies that require high fees and employ the best and the market’s brightest stock pickers, it’s still an embarrassment.

For funds investing in cryptocurrencies, however, 2021 was a different story. Hedge fund data firm HFR found that funds investing in cryptocurrencies led all hedge funds in 2021, with the HFR Cryptocurrency index posting an astonishing 215% increase. That beat the 2020 return by only slightly less surprising 193%.

It is significant, then, that while the CEO of Man Group, one of the largest hedge funds in the world, last year told the Financial Times that cryptocurrencies “have no intrinsic value,” he said his funds are moving forward. and they trade them anyway. Volatility is too tempting to let it go. JPMorgan’s Jamie Dimon famously echoed similar views, saying that “bitcoin is worth nothing” when setting up a digital asset unit at the bank.

In fact, Dimon added a caveat when it came to JPMorgan customers: “If they wanted to have access to buy or sell bitcoin, that’s hard: we can’t guard it, but we can make it legitimate, as clean access as possible.”

Hedge fund chief Paul Britton, CEO of Capstone, told Financial News this month: “We have exposure to cryptocurrencies, but that’s because we follow certain trends. We don’t see it as a long-term store of value in portfolios.”

Professional bankers are just as pragmatic. A London-based stock trader told FN last year that he and his friends in the banking sector play the cryptocurrency markets via their personal accounts, or PA: “I have never held a stock PA because I would have been fired. But I’ve invested in over 10 cryptocurrencies because they’re not even mentioned. My compliance officer literally said, “Please don’t talk to me about cryptocurrencies. I’d prefer it if I didn’t know. ‘”

Since many banks don’t trade physical cryptocurrencies, there is no conflict of interest between employees, so compliance departments can sleep at night. For risk-dependent traders, confidence in the viability of the underlying asset class is irrelevant.

This is the cryptocurrency paradox when it comes to banks, hedge funds and large professional traders – the smartest in the market may not think cryptocurrencies are here to stay. But for now, while the markets are mature and regulators are at bay, they will be damned if they don’t try to make some money out of it anyway.

To contact the author of this story with feedback or news, please email Trista Kelley

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