Institutional digital assets: What are the evolutionary lessons from e-FX? DIGITAL CURRENCIES “I think we could see huge growth in institutional activity over the next three years, because everybody wants a new asset class to be exposed to...” intermediaries. “In the OTC FX market, intermediaries like banks and brokers play a critical role of enabling their customers to achieve their business goals – hedging, risk management, or speculation. As these customers enter the digital asset class, banks and brokers need battle-tested workflow automation technology to continue to serve them; this evolution is the driver behind the tremendous demand we are seeing for Integral Digital technology,” says Sanjay Madgavkar, CSO of Integral. A further factor shaping the market is regulation. “Governments and regulators around the world are becoming more focused on developing rules and guidelines to govern digital asset trading,” says Vinay Trivedi, COO of MaxxTrader. “We expect to see increased oversight in areas such as AML/KYC compliance and fraud prevention.” This regulatory influence will probably also favour the use of standardised derivative products, such as futures, but given their proven utility with hard to settle assets, non-deliverable forwards (NDFs) also look likely to play a part. Some institutions are also trying to create baskets of digital assets that can be traded as an asset class in their own right. Sanjay Madgavkar Elsewhere, institutions are already looking for the same sort of full suite prime brokerage services they currently have for FX. Apart from robust clearing infrastructure, significant balance sheet will also be required to support serious institutional volume. RIGHT PLATFORM, RIGHT SPEED Digital assets are effectively following the inverse of FX’s timeline. In the early days of FX, commercial demand from corporates and asset managers meant that institutional FX activity led the way, with retail activity following later. In the case of digital assets, retail has been the first mover, so as yet there are none of the institutionalgrade trading venues found in FX. While there are listed futures contracts available for a few cryptos, institutions are ultimately looking for a far broader range of digital assets with appropriate liquidity and infrastructure resilience. In the short term, this means that latency is not much of an issue, given the fragmented and retail nature of the industry. However, once institutional traders start moving large volume this will change and (as for FX) the emergence of low-latency connectivity services is likely to have a transformational impact on market access. DATA, ANALYTICS AND LIQUIDITY MANAGEMENT The institutional trading of digital assets will inevitably drive demand for associated data and analytics. As in FX, quants will require data for model building and calibration, risk/ compliance functions will need it to monitor exposures, while regulators will want it for monitoring capital ratios. In anticipation of this demand, companies such as GCEX, MaxxTrader and Integral already include comprehensive data and analytics for digital assets in their product offerings. Analytics and associated technology also have an important role to play if enhanced liquidity management of digital assets is to emulate the efficiencies achieved through flow aggregation in FX. Again, entities servicing this space are already using similar or identical FX technology to achieve this. “Obviously there are some tweaks but it is essentially the same,” says Lars Holst. “Dealing with things such as airdrops makes it a little more complex as they don’t have an exact counterpart in conventional assets.” Ultimately, proven FX technology - such smart order routing - will provide access to a larger pool of digital asset liquidity, which will make trading more efficient and reduce transaction costs. Coupling this with institutional-grade Vinay Trivedi “Regulators may impose stricter rules on HFT, and market participants will need to adapt their strategies to new liquidity pools and market structures,” 60 MAY 20<strong>23</strong> e-FOREX
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