CRYPTO: Institutional Trading & Custody vs Binance

Source:  Coinhills

Source: Coinhills

Autonomous hosted 3 panel sessions with experts from the crypto world in London last week (Alex Baitlin of Trustology, Kevin Beardsley of B2C2, David Siegel of Pillar ProjectJohn Pfeffer, and Alexander Shelkovnikov of Semantic Ventures). We talked about the development of infrastructure surrounding crypto, the institutionalization of ICOs, and approaches to valuation. Two key developments are needed for traditional finance and the crypto economy to meet -- and get us out of a place where the only tradeable product is a derivative settled in cash.

First, custody of traditional financial instruments is not the same as the custody of crypto - controlling someone's key to access a digital asset is fundamentally different from keeping books and records of stock ownership. Hot wallets (online storage) expose your private key to hacking, and cold wallets (printed note) expose it to the elements (weather, xrays etc.) where the wallet is based. Multisig solutions, where 2 or more sets of keys are required to sign transactions -- one owned by you and one by the service which operates the custody -- are an effective means to ensure custody security but are hard to operationalize. A crypto-custody smart account may match private banks on bespoke features when built. But it could take the large custodians (BNY Mellon, State Street) several years to get through a budget cycle, get a product planned, and put software in place. While this happens, firms like BitGo and Xapo have an open field.

Source:  Coinhills ,  Xapo Custody

The second layer that's needed for capital markets is effective institutional exchanges. Today's exchanges are lightly regulated, have no best-execution requirement, have widely different liquidity, and offer different prices. OTC brokers like B2C2 and Genesis have been building out software and capital solutions in the space, but we are still early. Decentralized exchanges, like Republic Protocol raising $34MM, are a potential solution in the future, but that infrastructure is not here yet either. A good example of the current state of play is Binance, which is getting chased out of Japan by regulators, and is now headed to Malta.

Binance has grown incredibly quickly (rumored to be running at an MRR of $10-100 million) to be one of the top retail crypto exchanges world-wide for several reasons. First is the rush into altcoins out of the large cap cryptocurrencies -- with retail investors chasing 100x returns, while the beta of the crypto space drags everything else down. You can imagine regulators being least comfortable with these types of assets. Second, Binance has a referral program that rewards people in a percentage of commissions from anyone they refer into the exchange. By paying users commissions on referred trading, they are essentially turning all their clients into unlicensed brokers of potential securities

And last, the Binance Coin ICO tokenized a coupon token that discounts trading on the Binance platform, a token with a market cap all-time-high of $2 billion. The company also promised buy-backs (burning) in order to influence the price. Mature companies do plenty of financial engineering through share buy-backs, but it is a highly sensitive and regulated area of the capital markets to avoid market manipulation and insider trading. So it feels like we are still 6-18 months away from an institutional chassis. The question is -- does that matter, and for whom?