The Case of the Missing (Structured) Products

This newsletter is part of The Assetizer, GenTwo's thought leadership platform.

One of the oldest questions in the crypto community is when will digital assets go "mainstream" and how will we know when they do.

A lot of people might say that it’s already happened: that with the BlackRock ETF and the change of regulatory heart in the US we’ve experienced the moment when crypto came in from the cold.  

As my colleague Florian Marty, who recently came over to us from Bank Vontobel to run our digital assets business, argues in a new GenTwo whitepaper, the reality is that we’re not quite there yet.  

The problem isn’t demand. Despite the latest crypto winter, institutional demand remains high. The problem is supply. Not of digital assets necessarily, but of digital asset products of the type investors really want. It's only when we can fill this gap that we can really talk about mainstreaming or institutionalization of digital assets.

Let’s take a look.

Spot the gap

As Florian writes, instead of the last mile of the journey, the Bitcoin ETF was more like the last turn before heading down the back stretch. It solved a major problem - access to digital assets - but didn't take us to the finish line.

The reason is that ETFs give investors spot exposure to the assets. But institutional investors are used to more. They want “defined risk, defined return, a familiar legal wrapper, and a single line in their reporting.” They also want access to actively managed exposures. In other words, they want structured products.

And that's exactly what's missing.  

Florian calls it a "supply gap.” His paper spells out what can be done about it from the point of view of the two main stakeholders best placed to change the situation – banks and asset managers – as well as the two main classes of structured products they will use to do so: asymmetric-type structured products that engineer a specific payoff profile at issuance, and tracker-type certificates reproduce the performance of an underlying.

Capital punishment

Banks are the natural manufacturers of asymmetric products, and stand to profit from market demand for such products on crypto underlyings. Unfortunately, current capital requirements around digital assets get in the way. Basel III stipulates a 1,250% risk weight on crypto, which translates into roughly one dollar of capital for every dollar of exposure. That makes most such products uneconomical. So even though they have the know-how, the client relationships, and the distribution channels, most banks simply can't supply these products.

For their part, as Florian writes, independent asset managers have their client base and the strategies to cater to them, but lack an efficient way of bringing their ideas to market. This is where tracker-type certificates, and in particular the AMCs we have written a lot about here at The Assetizer, come in. They offer an efficient, cost-effective way for a manager to bundle a strategy into a bankable security with an ISIN, and react quickly to market demand.

The operative word is speed. Crypto markets move quickly. Managers need to rebalance, rotate, and respond to changing conditions inside a single investable instrument. The traditional route to a bankable format, launching a fund, takes months and can cost a small fortune.  

Off the books, on to the shelf

The final question is how to make all of this work. As Florian writes in the paper, one issuance model resolves both problems: “A standalone, bankruptcy-remote special purpose vehicle (SPV).”  

In this model the SPV “holds the exposure and can be used to issue structured products with digital asset underlyings as fully bankable securities with an ISIN. Nothing touches the bank's balance sheet. Nothing requires the manager to become an issuer.”  

As a result, the bank can build the full structured-product menu on digital assets without having to bear the prohibitive capital costs. And the asset manager can create custom, bankable, actively managed products without having to become an issuer. Best of all, the end investor “gets what they were asking for all along: crypto exposure with defined risk, defined return, and one clean line in the portfolio.”

For the details, read the paper or get in touch with Florian directly using the Book a Call link above.  

For my part, having been through countless mainstream moments since I first fell into crypto in 2016 — amazing to think it's been ten years! — it makes sense to me that true institutionalization will come when all the tools of the trade are finally in place. 

We're not there yet. But we're getting closer. 

Tom Lyons, GenTwo