Digital Assets – the Trump Effect

Why is this an important topic?

The Trump administration is generally pro digital assets, specifically pro Stablecoins and very much committed to ensuring dollar hegemony, in other words keeping the US dollar as the world’s major currency. There will be new laws, and Trump has directed the various regulators to develop plans which encourage digital assets and remove obstacles (For more, see last month’s post)

What’s new or changing?

Around things digital assets we have huge momentum. Who are the winners and losers going to be?

To understand where we might be headed, I caught up with somebody who thinks about things crypto aka digital assets for a living. Kenny Hearn, the Chief Investment Officer at SwissOne Capital, a specialist asset management company with a focus on institutional grade crypto and blockchain investment funds. He shared his thoughts on what he sees as the differentiators, and just as importantly his view on what is important for institutional investments to be made.

This is not investment advice, just a view on how the digital asset space will develop. If you do want investment advice, feel free to contact Kenny.

Kenny Hearn, CIO, SwissOne Capital

“We are really just at the beginning. Think back to the earliest days of e-mail.” That was Kenny’s opener. To illustrate how powerful an enabler new technology can be, Kenny cited the example of the South African bank Capitec. Founded in 2001, it is now the largest retail bank in South Africa. The impact of its newish tech stack and lack of legacy systems means it has a lot of operating leverage, in other words serving a new customer or even the reported 120’000 new accounts it is opening per month has little to no marginal cost. This is reflected in a very low cost / income ratio of some 30% vs. the 55% or so found in the more established players. This reminds us that there is a lot more to come; things we cannot yet imagine. 

“We have the decentralised technology, what we don’t have is the regulatory framework to drive widespread adoption.” Kenny’s view of what good, enabling regulation looks like is something which is built on a far more decentralised and connected global financial ecosystem composed of peer-to-peer networks which reward all participants for their participation while allowing greater levels of decision makers throughout the ecosystem. 

For things digital assets to experience accelerated growth, markets need institutional investment. Kenny highlighted three important factors which influence institutional decision making. 

First: clarity. This is about regulation being clear. This is on its way through actions like the Genius Bill. 

Second: brand names. Large institutions struggle to deal with small firms generally and start-ups particularly. I have my own hot off the press story to add here; I am a board member for a start-up Fintech which has just submitted a license application to the Swiss regulator. We would be licensed under the Banking Act. So, proper, robust standards. We need Nostro services in currencies outside the Swiss Franc. Yesterday, one large G-SIB sized organisation told me: “We don’t provide services to companies which have not been operating for two years.” Catch-22, without access to those currency services we cannot operate, without operating we can’t pass the entry test. Elsewhere, the big places are moving; Blackrock is offering tokenised money market funds and ETPs, Fidelity will launch its own stablecoin, Wisdom Tree too is offering tokenised money market funds. 

The third requirement to support institutional adoption is “fit”; can the new things be made to work with the existing capabilities? A recent announcement from Deutsche Börse Group illustrates how big places are thinking about this. The iCSD Clearstream will use another DB Group company, Crypto Finance, as its sub-custodian for digital assets. Clearstream’s clients will add the digital assets to their product or instrument master and simply treat it like any other security and denote Clearstream as the custodian. Now, we could call that the “brute force and ignorance” approach; there will be no interoperability and no programmability. But it is a start, a version 1.0.

Kenny and I moved on to who the early winners might be in the digital asset space. Kenny’s view was that there are three capabilities that those in the space are looking for. 

Firstly: marketplaces. Imagine you are a merchant, or a simply a small manufacturer, and you sell cross-border. You want to accept Stablecoins in payment, but would prefer to immediately convert them to fiat, simply so you match your assets and liabilities. For you to accept those stablecoins you need your merchant acquirer to have two things: the ability to accept the various coins and to swap those coins to fiat instantly. This is where a player like AAVE might come in. It supports DeFi borrowing and lending using AMMs aka Automated market makers, But a typical AMM is permissionless; you just have to have the thing you are selling. “Permissionless” is a red flag for regulators and in-turn for institutions. AAVE has its AAVE Pro product, which is a private capability that ticks all the KYC / AML boxes. It would allow the creation of private marketplaces where yield could be earnt on Stablecoin holdings. Up until now AAVE Pro has been under used, which brings us back to the comment on “early days”. 

The second capability is that of connection: there will be different blockchains aka Layer 1s, different processing systems, multiple custody solutions. If you are the biggest and fastest of all Layer 1s, you may not be concerned about connecting to any other Layer 1s. Solana is taking this approach. Another approach is add Layer 2s, or even 3s and 4s on top. A Layer 2 is effectively an omnibus service; individual wallets interact with a Layer 2 which has the cumulative or aggregate position with the Layer 1. There is also ae case for modular blockchain setups. Cosmos speaks to the potential while TIA builds the capability for the Ethereum blockchain to connect into this potential modular setup. 

The third capability is clarity or transparency. Blockchain based transactions are a priori more transparent than those on legacy tech. On any public blockchain, where an asset is and how it got there is readily traceable. What you can’t see is who owns the wallet. Services like Chainlink provide the tools which ensure wallets and transactions are traceable across blockchains, with a focus on Ethereum. 

In conclusion

We are just at the beginning of the digital asset space. The famous economist Rudiger Dornbusch once commented: “things take longer to happen than you think they will, and then they happen faster than you thought they could”. So, given the momentum, I would expect some elements to move very fast indeed.

Thanks for reading. Please do let me know what you think of these notes. Feedback via the comments would be great.

Author

Olaf Ransome is a liquidity and financial services expert. He is the founder of 3C Advisory  You can message Olaf directly here.