Crypto
Traditional finance dives into crypto - What does this mean?
September 6, 2023
After years of uncertainty and hesitation, the traditional financial world, also known as TradFi, seems ready to embrace the dynamic and innovative world of cryptocurrencies. This exciting turnaround is marked by the historic decision by Blackrock, the world's largest asset manager, to apply for America's first spot Bitcoin ETF. This marks a crucial crossroads where established financial institutions are beginning to get seriously involved in the crypto space, blurring the lines between traditional and decentralized finance. Before delving deeper into the implications of this trend, it is essential to understand some of the key concepts shaping this story - ETFs, TradFi, and DeFi.
The world of finance is complex and full of jargon that can be intimidating to the average person. By understanding the basics, such as what an ETF is, what we mean by TradFi and DeFi, and how they differ, we can begin to unravel the complexities of these burgeoning trends in finance. Let's start at the beginning.
An ETF, or Exchange Traded Fund, is a type of mutual fund that is traded on an exchange, just like stocks. ETFs generally track a specific index, sector, commodity or asset type. A Bitcoin ETF, for example, would tie its value directly to the price of Bitcoin, allowing investors to invest in Bitcoin without having to own the currency itself. This makes the process simpler and potentially less risky, as the investor does not have to take care of storage or security for the digital currency.
A spot ETF refers to a type of exchange-traded fund (ETF) designed to track the price of underlying assets "on the spot," meaning that the price is determined by what buyers are willing to pay at the time of the transaction.
In the context of cryptocurrencies, such as Bitcoin, a spot ETF would be designed to track the price of Bitcoin based on the current (spot) market price. This means that the price of the ETF would fluctuate with the price of Bitcoin in the spot market.
TradFi, or traditional finance, is a term used to describe traditional financial systems and institutions. These are established entities such as banks, mutual funds, insurance companies and other similar institutions. They usually operate in a centralized manner, meaning they are managed and controlled by a single authority or entity.
DeFi, or decentralized finance, is a term that describes an alternative financial system based on blockchain technology. The idea behind DeFi is to democratize and decentralize financial services, meaning they are not controlled by one central entity. Instead, they are managed by smart contracts on the blockchain, which are automatically executed without third-party intervention.
So the main difference between TradFi and DeFi is in the way they are structured and managed. Traditional financial institutions have central authorities and regulators that manage and control their operations. On the other hand, DeFi operates in a decentralized way, making it potentially more accessible, transparent and resilient to some of the problems often associated with traditional financial systems, such as censorship, fraud and the need for intermediaries.
BlackRock is an American multinational investment management firm based in New York City. It is the world's largest asset manager and has taken the bold step of filing a spot Bitcoin ETF. This is bold because the US Securities and Exchange Commission (SEC) has never approved a spot crypto ETF before. And if you haven't noticed, the regulatory climate hasn't exactly been pro-crypto lately. By accusing Binance and Coinbase of possible regulatory violations and running unregistered exchanges, the U.S. regulator appears to be showing its power over an industry that actually thrives on independence and autonomy.
BlackRock has a remarkable history of applying for ETFs in the U.S., with an impressive approval rate. Of the 576 ETFs applied for by BlackRock, only one has been rejected. This comes at a time when the SEC has a predominantly negative attitude toward the crypto sector.
If the spot ETF is approved, it would mean significant demand for Bitcoin, especially from an institutional perspective. Many funds are currently prevented from investing in crypto. However, if a spot Bitcoin ETF is created, it would put Bitcoin within reach of all pension funds and investment groups in the US. It would be a game-changer, making Bitcoin fair game for all these traditional financial institutions.
Last week we saw BlackRock, the world's largest asset manager, announce that they were launching a Bitcoin ETF. This week, we see a consortium of heavy financial players - Citadel Securities, Fidelity and Schwab - announce the launch of a new crypto exchange called EDX Markets.
These are three very big names from the traditional financial world that add to the growing list of companies that have recently made their mark in the crypto market. All this is happening despite the crypto winter and increasing pressure from regulators.
Invesco, an asset manager with a $1.5 trillion portfolio, has reactivated its Bitcoin ETF application. WisdomTree, another major player with $87 billion under management, has also applied for a Bitcoin ETF. And if that wasn't enough, Deutsche Bank, a banking giant with $1.4 trillion under management, has applied for a crypto-custody license.
It is an interesting and much debated question whether the increasing involvement of traditional financial institutions (TradFi) in crypto means that a 'takeover' is underway. The answer depends a lot on how you define a 'takeover'.
If you talk about an increase in the number of traditional financial players becoming active in the crypto market and adopting their methods and strategies, we are indeed seeing signs of this "takeover. With the launch of Bitcoin ETFs by major asset managers such as BlackRock and Invesco, the creation of the new crypto exchange EDX Markets by a consortium of Citadel Securities, Fidelity and Schwab, and the application for a crypto custody license by Deutsche Bank, there has certainly been a sharp increase in TradFi's involvement.
This increasing involvement can be seen as a sign that the crypto market is maturing. Traditional financial institutions do not usually enter a market they consider risky or unstable, so their involvement in crypto can be seen as a confirmation of the stability and potential of the sector.
However, if we are talking about a complete takeover in which the crypto market loses its unique characteristics and independence, the answer is less clear. The crypto market is built on principles of decentralization and democratization of finance, which is in stark contrast to the hierarchical and centralized structure of the traditional financial sector. While TradFi's involvement will undoubtedly impact the market, it is unlikely that crypto's unique characteristics will disappear entirely.
It may be that the interference of TradFi companies ultimately leads to a healthier crypto market. It may help to make the market more stable and reliable, and may lead to greater acceptance and adoption of crypto by introducing the broader public to crypto.
Whatever the future holds, it is quite possible that the relationship between TradFi and crypto will become important in growing and shaping the financial market in the coming years.
