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Within three to five years, blockchain-based investments will likely be part of typical traditional investment strategies in the way private equity funds, hedge funds, real estate, commodities and derivatives are today.
This does not mean that Main Street will invest in cryptocurrencies, although they may, but rather that existing investments will quickly migrate to blockchain registration and settlement systems. Watch the recent announcement of Intercontinental Exchange Inc., the parent company of the New York Stock Exchange, which will launch its cryptocurrency exchange this year.
In fact, before we know it, blockchain could very well support entire markets. Imagine that the New York Stock Exchange itself is running on blockchain. It will happen sooner than we think.
While this future is feasible, many potential investors are turned off by the recent headlines describing the hacks of exchanges or portfolios where tens of millions of dollars of blockchain assets are stolen. As such, it is extremely important to note that the problem is not with blockchain networks but rather with secondary applications on the network.
Read: These are the three major obstacles to an ETCO bitcoin
Blockchain asset registers, such as bitcoin
BTCUSD, + 2.49%
are among the safest networks in the world. Hundreds of thousands of mining nodes protect the network by helping to solve cryptographic algorithms, which are used to protect data from unwanted access. In most cases, security breaches are due to human errors.
The good news is that there are steps that can be taken to improve the safe custody of blockchain resources. The advantages of this technology are enormous. The technology behind the blockchain, introduced for the first time in 2008, could provide greater efficiency in areas such as healthcare, supply chain management and financial services.
For example, the main Australian stock exchange states that it intends to become the first global exchange to liquidate and regulate transactions on blockchain, also often referred to as generalized accounting technology (DLT).
But to achieve this, blockchain innovators and the broader financial community must work together to mitigate real and perceived risks in three key areas: custody, valuation and market manipulation.
Custody: Today, traditional activities such as stocks and bonds are settled and settled by third-party clearing houses that sit between banks, broker-dealers and individual investors. These assets are often held on our behalf by asset management companies. Blockchain, a type of distributed ledger, avoids central clearing rooms because independent computers can verify, record, and synchronize ownership of digital assets.
For distributed registries to be used, retail investors can perform self-custody via software portfolios, hosted exchange accounts, or store their funds in the so-called cold store (meaning that it is offline). A custom multi-signature portfolio is the first step for compliant security standards because the risk of loss or theft of a single key is significantly reduced where multiple parties are needed to confirm any transfer of value. Custody can be protected in systems when resources can only be accessed through encrypted keys that are signed or unblocked by multiple parties, such as one from the investor and the other from the third party financial institution. The definition of industry-wide custody standards on the use of authoritative signatures and controls has the potential to eliminate key risks in blockchain investments.
Evaluation: When an investor trades a stock on the New York Stock Exchange, there is usually a portfolio of orders with an offer and competitive prices. Accordingly, when we make a market order, an investor will match his bid within a penny or two of the price at which the exchange will be executed. With asset blockchain exchanges, each exchange calculates its offer and asks for prices based on its methodology. In some cases, there is room for price variation between exchanges, presenting an arbitrage opportunity. Blockchain asset exchanges must develop price transparency at the sector level. The industry could establish valuation metrics to minimize arbitrage, perhaps by publishing bid / ask prices based on weighted averages across exchanges. In addition, stock exchanges should disclose their valuation data in a transparent manner in the same way that broker brokers communicate business data to TRACE in fixed income markets. The decentralization of traditional asset markets will require methodologies to maintain the guarantees established during the transition from centralized exchanges to peer-to-peer networks.
Market manipulation: Due to relatively thin trading volume in many blockchain stock exchanges, large volume transactions by institutional investors may cause dramatic valuation fluctuations in any trading pair (such as bitcoins in US dollars). some investors may use arbitrage price variations between different price sources to manipulate prices. To counteract this, blockchain-based markets should establish processes and circuit breakers that protect against market manipulation using automated trading algorithms and mitigate the risk of flash arrests.
Addressing these primary problems will do much for the traditional adoption of blockchain activities. Overcoming these obstacles will require cooperation between startup blockchain and established financial sector operators (such as banks, broker-dealers, exchanges and regulators) to establish standardized approaches and best practices.
As with any nascent market, the acceptance will come from institutional investors once the problems of custody are solved. The acceptance among individuals is leading the way with investments in cryptocurrencies, one of the bases of many strategies.
Perhaps only after having realized the revolutionary benefits of the blockchain, through practices such as personal custody of health records, will follow the company's adoption. I am confident that within three or five years there will be an increasing acceptance of investments in blockchain and in the tokenisation of resources, provided that these key concerns are addressed.
But whatever your position is, it's exciting to see a new market unfold.
Gregg Bell is the Chief Operating Officer of SALT Lending and Chief Investment Officer of SALT Blockchain Asset Management.
