2018 November 05 - Volume.2 Issue.44

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2018 November 05 - Volume.2 Issue.44

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Grayscale Sees Record Inflows, But Interest Slightly Wanes

Digital Currency Group's investment arm, Grayscale, has raised an impressive $330Mn across all its products this year. While investors remain heavily geared towards the Bitcoin Investment Trust (BIT), the outfit's flagship product, Assets under Management (AuM) for the cryptocurrency is now flirting with a one-year low and a 27% decrease of inflows 3Q vs 1Q18 highs. On the flip-side, Grayscale is now, by known accounts, the custodian of the largest Bitcoin holdings.


Grayscale's latest quarterly report highlights that the institutional investment house raised $330Mn in the first 9-months of the year, $216Mn going into Bitcoin, 70% coming from institutional investors. Grayscale also saw $22Mn coming into the rest of their portfolio of products bringing up the total to $114Mn at the end of 3Q18.

While no small feat considering the ongoing bear market, inflows into Grayscale's Bitcoin Investment Trust (BIT) dropped by 22% in 3Q18 versus the pervious quarter. September was this year's lowest point with net inflows of approximately $9Mn (see chart).

Grayscale's Managing Director Michael Sonnenshein did point out in an interview with CNBC that it's an equal split between new investors, and investors averaging down their entry point.

|| BOUNCE BACK?

Diar estimates place October-2018 as having seen an uptick with net flows increasing between $17-18Mn as investors find opportunity in the 1-year low price of Bitcoin. Ceteris paribus, this would mean that Grayscale would have to bring in net capital to the tune of $40Mn in the next two months to meet 3Q18 numbers.

|| DEPENDS HOW YOU LOOK AT THINGS...

While the AuM for the BIT is likely to hit a one-year low in November, in terms of Bitcoins, locked away in the vaults on Xapo, Grayscale's custody provider, are upwards of 200k coins - just over 1% of total circulating supply.

Bitcoin Investment Trust Inflows of $216Mn, But Sep-18 Hits Low


BIT AuM Nears 1 Year Low But Hits Record Bitcoin Holdings


Sources: Grayscale, Diar numbers are approximates due to rounding errors.


Crypto Exchange Funding Passes $1Bn Mark Post Coinbase Mega Raise

Cryptocurrency exchanges, both centralized and decenatralized, have now breached the $1Bn mark in funding. Last week saw Coinbase's total capital raised soar past $500Mn having successfully cornered over a third of US market trading volume this year nearing $220Bn from exchanges with fiat on-ramps. Backers though will now want to see more increased trading activity, the primary income source.


While trading volumes on Coinbase have hit a one-year low, so has global demand on spot markets (Diar, 30 October). Still, the exchange can claim a 12% increase in traded volume this year to date with 2 months left on the calendar year (see chart, Diar, 8 October).

Financials seen by Bloomberg saw that the popular exchange was sitting on over $503Mn in cash at the end of 1H18. With an ambitious projected profits of $456Mn for 2018, a 20% increase from 2017, and a funding round led by Tiger Global Management that has seen Coinbase's coffers add $300Mn, the company's war chest could be nearing a whopping $1Bn by the end of the year.

The announcement out of San Fransisco also came with much promise of quick-fire additions of crypto assets, the advancing of utility of their recent addition, a dollar-pegged cryptocurrency, and the on-boarding of institutional investors to the exchange's custody services.

Shortly after the announcement, Coinbase grabbed headlines yet again last week with the listing of another token, Basic Attention Token (BAT), one of the five cryptocurrencies the exchange alluded to in July having already listed 0x (Diar, 16 July, 15 October). Cardano (ADA), ZCash (ZEC), and Stellar Lumens (XLM) are now in play.

Cryptocurrency exchanges have breached the $1Bn threshold in capital raised (see table). And 2018 has seen a flurry of activity in exchange acquisitions, from Poloniex bought out by Circle, to the latest news out of Belgium, the sale of Bitstamp to South Korean subsidiary NXHM; the parent company also owns Korbit.

|| GO TOKEN OR GO HOME

With many options now on the table for users to purchase Bitcoin, the massive investments being poured into platforms can only indicate backer outlook for the sale of tokens, little to none of which have found any utility to date besides speculation, spearheaded by the signals of social media.

|| BETTER TO BEG FOR FORGIVENESS THAN ASK PERMISSION?

With regulators so far falling short in concerting efforts in classifying cryptoassets, exchanges may find legislative paralysis an opportunity rather than threat - at least for the time being (Diar, 12 February).

Jan-Oct 2018: Coinbase Leads US Market Share of Traded Volume


Notes: Only takes into account USD pairs. Kraken USD/Tether excluded from analysis.
Source: CoinAPI


Centralized and Decentralized Exchanges Capital Funding

wdt_ID Exchange Base Raise ($Mn)
1 Coinbase USA 525.3
2 Circle USA 246.0
3 bitFlyer Japan 36.1
4 Binance * Malta 25.0
5 Cobinhood Taiwan 12.8
6 Bitstamp UK 12.4
7 Kraken USA 11.5
8 Korbit South Korea 6.5
9 Huobi Singapore 2.0
10 Decentralized Exchanges


Notes: Binance raise includes $15Mn from their ICO for BNB
Source: Crunchbase, TokenData


Bitcoin Hashrate Growth Stalls

Bitcoin's Hash Rate, which hit a record high in August, has not been able to continue on its growth momentum this year. Now fluctuating between 40-60Mn TH/s, the biggest intra-monthly swings this year, November has started in decline. And the network difficulty adjusting downwards for only the second time this year. Smaller miners will continue to find hardship in turning on their equipment at current prices (Diar, 8 October).

But the data also indicates some possibilities; either larger miners aren't investing and deploying more power, or, they are, but only to replace smaller miners who are going permanently offline - or a slight mix of both. In any case, however, network security is clear in the hands of larger outfits.


2018 Hash Rate Peaked?


Source: Blockchain.com

Bitcoin Transactions Inch Upward

Bitcoin on chain transactions hit a 2018 year high in 3Q18, just ever so slightly usurping 1Q18 by 70,000 transactions. Total Bitcoins moved on the blockchain in 3Q18 stands 37% lower than the first quarter however. USD value estimates of these transactions show a decline of 61% between the two periods. Still, $315Bn in transactional volume this year is not a negligible figure.

The 'King of Coins' could meet payments competition from stablecoins which are being backed by major exchanges with deep pockets releasing man power for infrastructure development, marketing, merchant on-boarding, lobbying and compliance. It may also prove to be a stepping stone for investments into the asset class. Either view may also be optimistic.


5-Month Run - Jun-Oct USD Value Stable at Approx. $20Bn/Month


Source: Coinmetrics.io, Blockchain.com

Op-Ed: Why “the Institutionalization of Cryptocurrency” is a Paradox

Jackson Palmer

If you stay up-to-date with the cryptocurrency news cycle, a recent trend you may have observed is the widespread excitement at the prospect of large, traditional financial institutions entering the space.

We’ve seen a wave of institutional news lately, from NYSE-affiliated Bakkt launching custodial and trading infrastructure, through to up-for-approval Bitcoin ETFs and large 401k retirement plan service providers such as Fidelity opening crypto trading desks. In parallel, startups born of the cryptocurrency generation such as Coinbase are increasingly pivoting their businesses towards institutional investors in hope of being able to compete with these Wall Street behemoths.

While many cryptocurrency enthusiasts express blind enthusiasm at the notion of positive price impact associated with this money flowing in, it’s important to take a step back and analyze what this phase of the cryptocurrency lifecycle actually represents, and how far it lands the movement from its original goals.

|| WHAT WERE WE BUILDING AGAIN?

To analyze the shifting landscape of cryptocurrency, we can tie the current state back to three broad benefits that decentralized, digital currencies originally aimed to provide:


1. Censorship resistance
2. Trustless transactions
3. Verifiable history


Decentralization remains a spectrum, and projects may occasionally eschew some decentralization in the name of efficiency while still providing a subset of these attributes. But the end-game for cryptocurrency to succeed is ensuring that all three core tenets are maintained.

If you view what is happening with the Bakkts, Fidelitys and Coinbases of the world through the lens of these principles, a concerning trend emerges.

|| CENSORSHIP RESISTANCE

Censorship resistance implies that a user’s ability to interface with the currency should never rely on a potential single point of failure. In Bitcoin, public nodes can go down, but many exist to quickly fill their place. Thanks to decentralized consensus via Proof of Work, there is also no single entity who can censor your transactions from reaching the ledger.

The shift back to reliance on a single corporation (essentially a bank) as your window to a cryptocurrency network introduces a clear single point of failure. If Coinbase.com is hijacked or taken offline, a user relying on that provider essentially loses their access to the decentralized Bitcoin network.

Furthermore, if Coinbase or any centralized service provider simply find an account “suspicious” by their standards, they can block or severely limit a user’s access to their account or censor transactions from being broadcast.

|| TRUSTLESS TRANSACTIONS

For a digital currency to be be “trustless” in nature, a user should not be required to trust a central custodian, facilitator, or even fellow user in order to transact securely and reliably. In a system such as Bitcoin, if a user is holding their private keys, they have complete ownership and authority over their funds.

A common theme across Bakkt, Fidelity and Coinbase, however, is their push towards offering “custodial services” for users storing cryptocurrency with them - a practice antithetical to the premise of trustless financial transactions.

In offering custodial services, these companies seek to centrally control and manage the wallets containing Bitcoin, Ethereum, etc. of both their large institutional and retail customers, obscuring away the notion of private keys in the name of convenience.

When users are transacting with the Bitcoin network via an ETF or Fidelity 401k plan backed in cryptocurrency, they own the cryptocurrency purely on paper and not in reality as the provider is simply moving balances around in a centralized database. Broadly speaking, if you aren’t holding your private keys, you aren’t holding cryptocurrency.

Additionally, as we saw with the Mt. Gox disaster, large sums of centrally managed cryptocurrency paint an enticing target for hackers to try and exploit.

|| VERIFIABLE HISTORY

Much of Bitcoin’s original success was fueled by a reaction to the allegedly corrupt practices that resulted in the 2008 financial crisis. The promise of blockchain was that through a publicly verifiable ledger, users would have confidence in the issuance and flow of the money supply, and that banks could not secretly destroy this new economy behind closed doors. With Bitcoin a user was able, at any point time, to securely verify the entire history of transactions which led to the current state of balances on the ledger.

But as huge sums of the digital money supply begin to pool in the vaults of institutional service providers, transactions increasingly exist outside of a public blockchain and are instead processed “off-chain” using private databases.

While many companies market this approach as offering faster speeds and lower transaction fees, the side effect is a regression to a state where a large portion of Bitcoin or Ethereum movement between owners is no longer cryptographically verifiable across time.

|| WHAT ARE WE LEFT WITH?

The challenge with institutional entry into cryptocurrency is that it tears down all three core value propositions the technology aims to offer.

If a user is accessing their account through a centralized website, handing custody of their private keys entirely to a trusted third-party, and is unable to verify a ledger of how their funds are being handled by that third-party, are they really using a cryptocurrency?

At this point in the debate, many argue that cryptocurrency provides a core benefit which has not been specifically outlined here - that cryptocurrency simply represents an asset class that is not issued or controlled by a government. While objectively true, we can paint a picture that some may find scarier than government issued fiat.

As institutional involvement in cryptocurrency expands, it will undoubtedly become enticing to the bankers and firms running billion dollar custodial services to issue their own crypto tokens which they can centrally control, collect fees on, and build monopolies around.

Given the seemingly enthusiastic response of the cryptocurrency user base to what already marks a re-centralization of the technology, I gravely fear that we are heading toward a future where Wall Street bankers control not only the services atop a currency, but centrally issue and manage the currency itself.

While this prediction may sound far-fetched, it has already begun with the issuance of highly centralized “stablecoin” crypto-tokens such as USDC managed by corporations like those we’ve already discussed.

|| WHAT COMES NEXT?

A glimmer of good news here is that, out of the spotlight, work continues at the protocol level to maintain a degree of resistance to institutional dominance over cryptocurrency. From initiatives that offer non-custodial scaling such as Lightning or Plasma, to the increasing availability of secure hardware wallets, through to projects supporting user privacy like Zcash and Grin, there is some hope that cryptocurrency can fight back and stick to its roots.

The real question becomes whether the industry en masse will prioritize this resistance over the allure of market expansion and wealth that institutional re-centralization may offer. My extended observation of sentiment in the space suggests to me that this unfortunately may not be the case. At a macro-level, there is no denying that the institutions are coming - but for a movement previously described as “the real Occupy Wall Street”, cryptocurrency now sadly resembles a community that instead wants to be occupied by Wall Street itself.


Jackson Palmer is a technologist, best known for his role in creating the infamous cryptocurrency Dogecoin. Mr Palmer, an active member of the cryptocurrency space produces YouTube series "Crypto Explained" and "Crypto Weekly." Link Here

UK Regulators to Weigh-in on Crypto Derivatives, Assets
The Financial Conduct Authority (FCA) has released a statement alongside a report by the "Cryptoasset Taskforce" (FCA, UK Treasury and the Bank of England) on the potential ban of crypto derivatives citing a potential threat to financial stability. While the consultation is set to begin at the start of 2019, the FCA did confirm that by the end of the year, the regulator will define certain cryptoassets and whether or not it would fall under its purview.
BIS General Manager Unfettered by Crypto
The Bank for International Settlements (BIS) General Manager Agustín Carstens addressed the University of Miami Business School on "money and payment systems in the digital age." Highlighting the many flaws of crypto, Mr Carstens took to the "DLT, not Bitcoin" stance, even though sill not a firm believer in the prospect of the technology either. Mr Carstens closing remarks did signal a choice - "the future will be about your preferences."
Hong Kong Works on Regulation, Sandbox
The Hong Kong Securities and Futures Commission revealed last week that the regulator is set to implement new regulations requiring funds with more than 10% of their portfolio in cryptocurrencies to apply for a license. The regulator is also looking into establishing a sandbox allowing for professional trading platforms to circumvent the requirement, but would be under oversight in order to fight market manipulation and fraud.
Morgan Stanley Highlights Institutional Obstacles
In a lengthy report published last week looking into the cryptocurrency and the blockchain industries, Morgan Stanley, having defined crypto as a new institutional investment class also highlights possible reasons impeding on big money ploughing into the space - underdeveloped regulatory framework that could hinder reputational risk of asset managers, custodial solutions, and high level investor provenance.

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