'Could crypto assets become mainstream?'

If you plug those two words into a search engine you can be taken on a magical mystery tour, which risks leaving you more confused than before you started. 

So, following the recent news that the UK is pushing ahead with plans to regulate the crypto industry to “become a global crypto hub”, I thought I would try to clearly explain what we mean by digital assets, homing in on investment funds and looking at how digital assets might impact them in the future.

Firstly, let’s address some of the terms we hear.

‘Digital assets’ is a very broad term to describe anything that is created and stored digitally that has value. The mind boggles as this can be all sorts of things including videos, images and data.

But, in the world of finance, digital assets relate to things like crypto tokens (aka cryptocurrencies and non-fungible tokens), collateralised stablecoins and central bank digital currencies (CBDCs), and everything in between. 

There is a growing belief that digital assets will become more mainstream.

We hear a lot about crypto currencies and crypto assets. The term crypto essentially means that the currency or asset is digitally secured by cryptography.

Most cryptos exist on decentralised networks using blockchain technology – a distributed ledger enforced by a disparate network of computers or nodes. 

Bitcoin is the original cryptocurrency to use this new technique and is still the most well-known, although as of the time of writing there are more than 8,000 active cryptocurrencies in existence, according to data from Exploding Topics, a trend-tracking website.

It was created in 2009 and is currently the largest cryptocurrency by market capitalisation, worth around $690bn (£555bn) at the time of writing, according to price-tracking website CoinMarketCap.

The potential uses of crypto assets have expanded in recent years, with the introduction of new asset classes. For example, NFTs are unique digital tokens that can represent a unique item such as art.

Bitcoin recently hit a 17-month high on rising speculation that US regulators will approve conventional stock market funds to invest directly in cryptos.

Traders are growing increasingly confident that the US Securities and Exchange Commission will approve a Bitcoin exchange-traded fund soon.

This could have far-reaching implications even in the UK if this were to happen, including allowing investors to gain exposure to Bitcoin without owning the cryptocurrency directly, and could lead to a wave of new interest.

According to Reuters, the speculation has been further fanned by the listing of BlackRock's iShares Bitcoin ETF on the website of clearing firm DTCC.

Aside from BlackRock, major financial institutions including Fidelity, Ark Invest and Invesco have filed applications for a Bitcoin ETF. If BlackRock’s application is approved soon, it could encourage others to follow suit.

There is a growing belief that digital assets will become more mainstream over time due to the perceived benefits they bring over traditional assets. This includes lower costs, improved trading, settlement and liquidity, not to mention easier and quicker access and transparency.

The majority of these benefits are maximised by native digital assets as they solely exist as a digital entity on-ledger and are not collateralised or backed by off-ledger assets. This significantly reduces complexity and any restrictions tied to conventional assets. 

However, this is a giant leap away from how investments are managed today and there are some high hurdles to jump – most notably the wide acceptance of moving away from traditional investment vehicles and infrastructure to a new decentralised and digital world.

Some are pursuing a halfway house approach to achieve some of the benefits through the tokenisation of conventional assets.

Tokenised assets take the form of digital tokens issued and held on-ledger, that represent ownership of conventional assets held off-ledger.

The volatility of cryptocurrencies and crypto assets has created a cynical perception of digital assets.

These tokens, therefore, replace shares (et al) as representations of title, and so can be traded on digital, rather than conventional, markets. Where funds are concerned the digital tokens would replace shares and units in fund registry and trading.

It is likely that initiatives with tokenised cash will increase confidence and aid innovation in relation to other financial products.

Tokenised cash takes the form of digital tokens issued and held on-ledger, which represent title to conventional cash, or to cash-like assets, held off-ledger. These are generally referred to as ‘collateralised’ stablecoins, for example USD Coin.

The G7 has announced the intention to bring collateralised stablecoins within the regulatory perimeter, and these are the first digital asset class being looked at by the UK Treasury to regulate as it seeks to strengthen oversight in this area.

They are different to algorithmic stablecoins such as DAI and Ampleforth. Algorithmic stablecoins are native digital assets that attempt to remain stable by throttling supply to control their price.

An algorithmic token and tokens backed with 'baskets' of multiple other crypto assets maintain a 1:1 exchange ratio with pegged assets through an algorithm that adds ('mints') and removes ('burns') tokens from the circulating supply. 

New initiatives and regulations can change public attitudes, especially those that seek to deliver significant benefits.

CBDCs are a controversial digital asset that would be minted and controllable by a nation’s central bank.

As of February 2023, 11 countries had launched CBDCs with more than 100 others (representing 95 per cent of the world’s GDP) funding research into CBDC pilots and white papers – a figure that has mushroomed since 2020, when only 35 countries were actively exploring the technology.

The Bank of England is looking to introduce a CBDC being referred to as the digital pound (nicknamed 'Britcoin'), and this could happen by the end of the decade to help the UK maintain "its involvement in the money people use every day".

According to Sir Jon Cunliffe, the deputy governor for financial stability at the BoE, the UK may look to create its digital currency in partnership with the private sector.

Referring to a consultation being undertaken in co-operation with the Treasury, Cunliffe said it would be a so-called platform model, with the BoE providing the central infrastructure and private firms offering wallets and payment services.

Of course, the volatility of cryptocurrencies and crypto assets has created a cynical perception of digital assets.

But new initiatives and regulations can change public attitudes, especially those that seek to deliver significant benefits and overcome problems with conventional financial products of today.

It is still early days, but with its ability to enable a new asset class with fewer participants in the value chain, it is certainly an area that is not going away any time soon. 

Ian Hutchinson is head of growth – EMEA at Bravura