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The ‘wild west’ landscape surrounding cryptocurrency investing is reforming more quickly than anticipated.
As regulatory frameworks around holding and trading digital assets begin to firm up in the United Kingdom, investment teams at insurance firms could see changes to allocation strategy sooner than initially expected.
Eyes were on the early 2023 announcement from the UK’s HM Treasury that noted that there were plans in development to regulate crypto, provide clarity to businesses, and protect consumers. These plans, said the announcement, were “ambitious” and would “grow the economy by robustly regulating cryptoasset activities.”
Cryptoassets – and digital assets, more broadly – comprises a new asset class that is evolving as technology and markets develop and mature. The announcement noted that there are a “range of potential benefits” to this asset class, as well as “risks to the consumer”.
Because crypto represents emerging market technology, it is experiencing high levels of volatility – including recent exchange failures – and general industry criticism regarding structural vulnerability and business model viability.
"Without a standardised framework and protective measures in place, the
crypto space will continue to be fraught with uncertainty."
However, there are nascent opportunities in the space, which will become more apparent if and when the technology is better harnessed, and regulation is paramount to these developments. Without a standardised framework and protective measures in place, the crypto space will continue to be fraught with uncertainty.
As it currently stands, the UK appears to be at the head of the pack. “Our robust approach to regulation mitigates the most significant risks, while harnessing the advantages of crypto technologies. This enables a new and exciting sector to safely flourish and grow, boosting jobs and investment,” the announcement continued.
Economic Secretary to the Treasury, Andrew Griffith, added that robust, transparent, and fair standards were necessary – and already in the regulatory pipeline. “We remain steadfast in our commitment to grow the economy and enable technological change and innovation – and this includes cryptoasset technology,” he said.
This regulation will apply to a wide variety of cryptoasset activities and will mimic the Treasury’s approach to traditional finance, it said. An emphasis will be placed on clear definition, disclosure, and content requirements for trading admission. The rules around financial intermediaries and custodians will also be strengthened.
The goal of these frameworks is to make transacting, lending, and storing cryptoasset more secure – whilst establishing a clear regime for other developed economies to follow and modelling integrity as a global market leader.
Reputational credibility has been on the minds of many in the industry and beyond, especially due to the tumult of the autumn 2022 mini budget fiasco, so-called “Trussonomics,” and the LDI crisis. The UK’s attempt at a crypto regulatory regime has the potential to quell some of these worries by promoting market innovation, making the UK a “global hub for cryptoasset technology.”
If, however, plans do not successfully pan out, there could be added reputational risk. The Treasury announced that the consultation period for its crypto framework could close on 30 April, after which it would consider feedback to deliver promised legislation. At that point, the Financial Conduct Authority (FCA) would be consulted.
Whilst the nitty gritty surrounding the UK’s crypto regime remains undercooked, important strides have been made.
Re-establishing market credibility amidst autumn turmoil in the UK – and volatility in the crypto space following the November 2022 collapse of digital currency exchange FTX and upcoming October 2023 trial of its founder, Sam Bankman-Fried – is clearly top of mind.
The promised regulatory frameworks seek to shift the narrative surrounding this instability and position the UK as a market leader – one that will engage with the sticky issue of cryptoasset investing, rather than turning a cold shoulder.
“A company operating in crypto and behaving like a bank or a broker should
naturally be regulated to help boost investor confidence in the sector.”
Bradley Duke, co-CEO of ETC Group – the crypto asset manager with the world’s first centrally cleared Bitcoin exchange traded product –noted that if the UK government is serious about making the country a global crypto hub, then introducing cryptoasset activities into mainstream financial services regulation is the right place to start. “A company operating in crypto and behaving like a bank or a broker should naturally be regulated to help boost investor confidence in the sector,” he said.
However, Duke added that any regulation should be cautious, sensible, and measured. “We don’t want to kill the incredible innovation that comes with crypto,” he continued. Instead, he said, it should offer oversight in “areas that matter”, which included the segregation of assets and capital adequacy rules.
In an early 2023 interview, Nic Basson, Chief Operating Officer at Old Street Digital – a London-based crypto investment advisor – echoed these sentiments. He told Fund Operator that the key to making cryptoassets appealing to investors was striking the right balance between clear legislation and interpretive freedom. “There’s a desire to get the regulatory framework right because it could be a big opportunity for the financial services industry,” he said. “We need stability and certainty, but we don’t want the law to be made via enforcement – which is what we’re seeing in the US.”
Basson added that additional investment in legislation was needed to move the dial, and would prompt further tech innovation. “Much is waiting on regulatory approval and guidance,” he said. “Some jurisdictions have the legal framework in place to recognise links in ownership between tokens and physical, tangible property – which is an important first step.”
“The perfect solutions just don’t yet exist. [It’s] a space wide open for new providers, and we're seeing a lot of innovation.”
This was because digital assets could not be treated as merely another commodity – a view, he said, that was still common amongst many in the industry. This mindset meant that a lot of the technology used to service crypto investing was fundamentally inadequate.
However, Basson was hopeful and saw many opportunities on the horizon. “The perfect solutions just don’t yet exist. [It’s] a space wide open for new providers, and we're seeing a lot of innovation,” he continued.
Given the plentiful space for innovation, one – if not the main – question on investors’ minds is: what can they expect going forward, and how permanent of a fixture will crypto be in portfolios? The benefits of these regulatory plans are fairly obvious, but will there be negative side effects for investors?
The added viability of crypto as a regulated asset class means there could be additional inflows and new – even mass – adoption. In the near future, many investment teams at insurers might be waiting until investment opportunities become more secure, but in the longer term, crypto assets could play a larger role in insurance investment portfolios.
Andrew Price, Chief Compliance Officer at Zodia Markets – the first digital assets brokerage and exchange platform that is FCA registered and backed by a bank – said that he saw greater confidence amongst investors that digital assets were “here to stay”. He was encouraged by the increasing scrutiny and attention to the asset class from worldwide governments and regulatory bodies, and believed crypto markets were reaching the next step in their journey to maturity.
“The trend of digital assets becoming a growing and permanent part of an
investor’s diversified portfolio is likely to continue.”
“[It] means that the trend of digital assets becoming a growing and permanent part of an investor’s diversified portfolio is likely to continue,” he said. “This may accelerate further as utility value becomes apparent, industry capabilities develop, and the applications of blockchain continue to move past the test phase and become more established.”
Price added that he was confident digital assets would compose a key part of financial services in the future – especially as he saw the asset class being the main driver for innovation in the sector, more broadly. In this outlook, investment teams at insurance organisations would have a critical role to play. “One thing that may change insurers’ current position towards crypto would be for the asset class to become less volatile,” said Price. He added that this would happen over time, with continued institutionalisation and adoption.
For insurance investors, who likely have small – if any – allocations to crypto currently, these trends could indicate significant changes sooner rather than later. Whilst insurers are generally cautious investors focused on solvency and stability, a more mature cryptoasset market might eventually become well integrated into common risk management practice.
One particular situation Price saw as likely was insurers needing to currency match crypto liabilities – for example, “if they start to offer crypto denominated insurance policies”, he said.
Investing in digital assets remains a stubborn trend, with crypto an increasingly viable asset class. Even if only to keep pace with the rest of the industry, insurance investors should take note. As promised regulatory regimes begin to take shape, stakeholders will need to decide where they stand, and how they will proceed should mass adoption occur.
