We are witnessing a change in investment behavior as digital assets such as bitcoin have become popular with asset managers looking to diversify into a new market booming with potential. Fidelity’s Digital Asset Survey showed that from 2020 to 2021, the share of American and European investment managers investing in digital assets increased from 36% to 52%.

Cryptocurrency: a new asset class

The market for crypto assets has matured at a steady pace, ever since the first bitcoin transaction in January of 2009. Leading cryptocurrencies like Bitcoin and Ethereum have proved they're staying power and given back unprecedented returns to their investors.

As of Q4 2021, returns were more than 200% for Bitcoin in the past 12 months and over 700% for Ethereum. While short-term volatility has always been characteristic of the cryptocurrency market, these assets have been extraordinarily kind to investors who have held them for a longer period of time.

From individual to institutional investors

Because of Bitcoin’s origins as a peer-to-peer project with no financial institutions involved, it started off as an opportunity for retail investors. It stayed that way until the late 2010s when the first institutional investors started to pay attention and eventually concluded that cryptocurrencies are here to stay.

Today, many well-known institutional investors hold cryptocurrencies in their portfolios, including world-leading asset managers like BlackRock, Morgan Stanley, Goldman Sachs, and many more.

“62% of global institutional investors who have never invested in cryptocurrencies expect to add them to their portfolio during the coming years” — Coin Telegraph survey, September 2021.

Digital assets are a new asset class, having captured the public attention with their decentralized nature. Investors don’t have to rely on any centralized entity like a government or a central bank, as these assets are operated and governed by protocols over a distributed network of computers.

There are over 6,000 different cryptocurrencies, but Bitcoin and Ethereum still dominate the market with about 60% of the total crypto market cap. Here is a brief overview of the current state of the top two crypto assets by market cap.

Bitcoin

Bitcoin (BTC) commands by far the largest market cap of all digital assets, with around 700 billion USD as of late January 2022. There are currently 18.9 million Bitcoins in circulation, and this will increase slowly until the supply reaches 21 million sometime around the year 2140.

This maximum supply limit means that bitcoin is a scarce asset, a characteristic that likens it to gold. This scarcity ensures that the price will be forced to increase with increasing demand.

Ethereum

Ethereum is a blockchain that makes up a decentralized computing network. Decentralized applications (dApps) built using Ethereum’s smart contracts have enabled users to do things beyond transfers of funds. Today’s DApps enable decentralized trading of assets, peer-to-peer borrowing and lending, decentralized fund management, and more.

Ethereum’s first-mover advantage has resulted in a massive, global community that is still by far the largest and most tested ecosystem of decentralized applications. Even for applications not directly using Ethereum’s token “Ether”, users must still pay fees in Ether in exchange for using the underlying blockchain, and as the use of Ethereum’s blockchain has increased, so have the fees and the price of Ether.

There is a limit of 18 million Ether that can be produced per year, but unlike bitcoin, Ether has no lifetime limit on the supply that will be produced.

Regulatory progress

Regulatory clarity is essential for institutional investors venturing into digital assets. The good news is that in the vast majority of jurisdictions today, buying, holding, and trading cryptocurrencies is legal. Only China, Nepal, Bolivia, and a few African countries enforce a ban on digital assets.

Finoa is located in Germany, one of the first countries to incorporate digital assets into their Banking Act and therefore regulate digital asset businesses similarly to other financial service providers.

The regulatory environment in Europe continues to improve, with the EU working on a new framework called MiCA (Markets in Crypto-Assets). This is expected to take effect in 2024 and provide a unified regulatory framework across Europe.

Assessing crypto’s fair value

When investing in traditional stocks, fundamental analysis is carried out by researching the companies, their revenue, profits, and the strength of their brand. When investing in crypto, however, research is centered around the blockchain networks: how large is the demand for transactions compared to the network’s throughput, and how is this affecting transaction fees, for example.

Because blockchains are public ledgers containing a record of transactions and wallet balances, investors can access on-chain data through services like Mempool, Txstreet, or Bitcoinfees.net and pull out useful information, achieving an overview of the state of a blockchain and its token holders.

An interesting indicator that gives some clarity on the state of the market is the number of tokens that remain unmoved within wallet addresses. This allows us to gauge the portion of investors keeping their tokens for the long term. If an increasing number of investors hold onto their tokens, the supply of tokens available for trading decreases. In this case, steady demand must increase the price, given the fact that tokens like bitcoin have a limited eventual supply.

Tools available for investors

Successfully navigating this new market as an institutional investor requires working with partners to reduce operational risks. Thankfully, as the crypto market matured, the products and services available to investors have become more robust.

Today’s service offerings from trading desks and custodians minimize risks around the trading and storing of digital assets. Digital asset custodians in particular play a critical role in safeguarding the assets of institutional investors against loss or theft.

Why invest in crypto-assets?

By now, many corporations and fund managers have added digital assets to their portfolios, giving confidence to those still looking on from the sidelines. Coinbase’s Q1 2021 report showed that out of the $335 billion traded on the platform that quarter, $215 billion originated from institutional investors.

As inflation increased during 2021, Bitcoin became an attractive portfolio diversifier and also a hedge against inflation. It also doesn’t hurt when high-profile figures such as Apple CEO Tim Cook admit to also having invested in Bitcoin, who explained that he thinks ‘it’s reasonable to own it as part of a diversified portfolio.’

How a specialized digital asset custodian can help

At Finoa, we serve a wide variety of institutions that choose to participate in the crypto market. We are the gateway for traditional financial market participants to safely engage with digital assets — we support the ecosystem and grow with our clients.

As Europe’s leading custodian, we live trust by making safety and security our highest priority. At the same time, we are continuously developing our product to meet the needs of an increasingly sophisticated user base in the rapidly evolving world of cryptocurrencies and digital assets.

Reach out to our team to discuss the best solution for your needs.