Cryptocurrency Inflow Analysis: How Crypto is Fast Gaining Adoption
Institutional investment is a core driver of cryptocurrency adoption, an outcome that has been expected by many in the financial community. Fresh from the sharp market downturn of cryptocurrency prices in 2018, institutional investment rose steadily into the cryptocurrency market in 2019; a trend expected to spill over into 2020.
Is Institutional Presence in Cryptocurrency Here?
In recent years, institutional participation within the cryptocurrency market has been a widely discussed point. On the one hand, there was massive appreciation where coins jumped in value from cents on the dollar to thousands of dollars within a short span, and this appealed to the natural ‘profit-maximization’ focus of institutions. On the other hand, the infancy of the market saw considerable (relative) illiquidity, which resulted in extreme price volatility. This caused a natural impediment to institutional investors, given the inclination to only invest in established and liquid markets.
It was clear that in order to facilitate institutional involvement, the industry needed to mature, and 2019 saw a rapid upturn in the professionalisation of the cryptocurrency space. The launch of physical Bitcoin futures by Bakkt, a subsidiary of Intercontinental Exchange (ICE), the world’s third-largest financial exchange group, was an important (and formal) step in legitimising cryptocurrency in the traditional financial market. Oliver von Landsberg-Sadie, CEO of BCB , one of the world’s leading digital asset brokers, analysed various market cycles over the short lifespan of the cryptocurrency market and explained that today the market has the maturity it needs to attract institutional investments:
“The 2013 bubble was driven by technocrats and dark web trawlers and the 2017 rally was led by the whims of speculative retail traders, 2019’s growth belongs to financial institutions who are diversifying stale portfolios and finally have the professional machinery to do so.”
Money Inflow into the Cryptocurrency Market
Institutional investment into cryptocurrencies saw a major boost in 2019, which is expected to continue into 2020. Grayscale Investments, the largest asset manager for Bitcoin and other cryptocurrencies, reported that capital inflows into their fund totaled more than $600 million, marking an unprecedented milestone. Even more astounding: total deposits in 2019 surpassed the cumulative inflows from 2013 and 2018.
Grayscale’s Bitcoin Trust, the organisation’s most popular publicly tradeable bitcoin investment vehicle, recorded the highest quarterly inflows, which amounted to over $171 million. Across all of Grayscale’s products, dollar-denominated deposits reached $255 million, achieving the highest level ever in the third quarter of 2019. This represented 200% quarterly growth relative to the inflows recorded in the second quarter (84 million in Q2, 2019).
A promising statistic from the report came in the form of new clients. $147 million invested in 2019 came from new investors, more specifically, institutional investors. This accounted for 71% of the organisation’s investments, up from 66% in 2018. Institutional investors included hedge funds, pension funds, and endowments. These numbers reflect a changing sentiment of institutional players towards digital currencies, which occurred even during a recessionary market.
The official launch of Bitcoin and cryptocurrency offerings by major players within the traditional financial space, including Fidelity and TD Ameritrade, further propels the narrative that the professionalisation of digital assets is creating a conducive environment to foster institutional participation.
Institutional presence was also evident when Bakkt Bitcoin futures reached a daily record of 1,756 trades in early November, and two weeks later, on November 22, witnessed over 2,400 futures contracts traded. This showed a value of $20.3 million in monthly futures contracts, a significant increase of more than 66% from its previous high. Additionally, open interest – which measures the number of open contracts on the market – increased by more than 42% in November, signalling new or additional capital flowing into the cryptocurrency markets.
Cryptocurrency Fundamentals Suggest Upside in 2020
Financial experts are fast substantiating the role of cryptocurrencies as a viable asset class in traditional media outlets. Thomas Lee, a Managing Partner and the Head of Research at Fundstrat Global Advisors, recently discussed the correlation between the cryptocurrency market and the US equities market, in an interview on CNBC. He noted that the substantial gains in US equities – currently at all-time highs across the board – created a conducive environment for institutional investors to add Bitcoin (and other assets) which were once considered risky. The S&P 500, which measures the performance of the top 500 stocks in the US market, rose 2.6% in December and 8.3% for the entire quarter, putting it on pace for its best performance on an annual basis in the past six years. Lee’s assertion of Bitcoin’s best performance compares with that of S&P 500 over the past decade, implying a risk-on appetite for institutional investors.
(Source: Fundstrat Global)
Looking at the Chaikin Money Flow (CMF) indicator, which measures buying and selling pressure over a set period of time, one can assume that the smart money, demonstrating itself in institutional fund inflows, is flowing only into the cryptocurrency market. This would further indicate a positive momentum towards the general market heading into 2020.
Scale of Institutional Presence Goes Beyond Official Numbers
Analysing institutional inflows into the cryptocurrency market is a difficult endeavour given the lack of transparent reporting of cryptocurrency exchange transactions, especially on exchanges that support fiat gateways. Fiat-supporting exchanges represent the crucial point of entry for retail and institutional investors to access cryptocurrencies. Given the absence of regular or standardized reporting, it is nearly impossible to approximate institutional inflows.
However, a key metric could provide insights of institutional presence. Over-the-counter (OTC) cryptocurrency transactions, which represent the private trading between two parties outside the purview of an official exchange, are currently the main mechanism for institutions to gain direct access to digital assets. This is because the liquidity in cryptocurrency exchanges is usually too small to support the ticket size of institutional players, which can range from hundreds of thousands to millions of dollars. Transactions of this scale in a cryptocurrency exchange would heavily move the market and create tremendous slippage fees for institutional investors. Therefore, private transactions through the OTC market ensure a veil of obscurity and avoid the inherent issues of trading in exchanges.
In the second quarter of 2018, Bloomberg reported that the daily transactions in the OTC market ranged from $250 million to $30 billion, which is much greater than the $15 billion daily trading volume on cryptocurrency exchanges. TABB Group, an international research company, estimates that the cryptocurrency OTC market is valued at $12 billion a day. Given the inherent opacity of the OTC market, these numbers serve as a credible benchmark to measure institutional participation, which seems promising.
General Economic Outlook Increases Cryptocurrency Prospects
The inclination of central banks across the world to drive down interest rates could further fuel short-term economic expansion. Many countries have employed monetary policies that favour a zero-interest rate or even a negative interest rate environment in pursuit of ‘cheap money’ to fuel the economy, and we can also add quantitative easing to the mix, which refers to the central bank’s monetary policy of essentially printing more money to the economy. The European Central Bank has now pushed its interest rates into the negative territory, with Denmark, Sweden, and Japan following suit.
Government monetary policies have a direct impact on equity markets and subsequently the cryptocurrency markets. In September 2019, the US Federal Reserve injected billions of dollars into the market by acquiring short-term treasury bills in the repo market in a bid to maintain its benchmark interest rate within a targeted range of 1.5% to 1.75%. This resulted in a $175 billion expansion of the Fed’s balance sheet. At the same time, the US stock markets rose 4% and were at an all-time high, creating a direct impact on global financial markets. Given the recent market expansion of the cryptocurrency market, it is clear that government policies could boost inflows towards the general cryptocurrency market.
Institutional participation into the cryptocurrency market has soared in the past year, whether in the form of direct capital flows to digital assets or investments towards blockchain development initiatives. Recent reports by Grayscale have validated the increasing capital flows towards digital assets, despite the market’s two-year recession. Bitcoin, which is often seen as a more efficient form of gold, has strengthened its status as a credible safe-haven asset, which has only further legitimised it as an asset class worthy of investment and placement in institutional portfolios.
* The information above does not constitute any form of financial or investment advice and should not be relied upon. Investing in Digital Assets carries risk. For more information please see our risk warning.