The bigger story behind the listing of bitcoin-linked ETFs in the United States is that it is a small step in a long journey to the increased use of digital assets.
One can be a believer in the broader thematic of digital assets and tokenisation, while being a cynic of bitcoin and other private cryptocurrencies that have no underlying assets backing them.
Once nation-state backed digital assets such as central bank digital currencies become mainstream, private crypto assets such as bitcoin are likely to be limited to speculators, criminals, nefarious regimes and libertarian true believers.
To be sure, the arrival of the bitcoin ETFs removes one disincentive that was dissuading some people from investing in the unbacked crypto asset.
Some investors were nervous about the unregulated custody of crypto and transacting via unregulated crypto exchanges.
This roadblock has been removed now that big financial institutions – including BlackRock, Franklin Templeton and Fidelity – acting as intermediaries are in effect taking on these risks on behalf of investors.
To lure in new retail investors, ETF providers are offering very low fees for a limited number of months in a bid to win market share.
Volatile cryptocurrency
But the fees are likely to reset at higher rates after the initial grace period.
More importantly, retail investors should be under no illusion about bitcoin.
The promoted benefits of crypto such as bitcoin have largely turned out to be false.
Bitcoin was marketed as an inflation hedge. But its price crashed from about $US68,000 to $US16,000 during the biggest inflation shock in 30 years. It was trading this week at around $US43,000.
Bitcoin was supposed to diversify people’s investment portfolios. But its price has been highly correlated to other risk-based assets, chiefly listed equities.
Bitcoin was trumpeted as a stable store of wealth. It’s turned out to be massively volatile.
Bitcoin was supposed to be a medium of exchange. It isn’t, except for a very limited number of enthusiasts.
Citigroup estimates that $US4 trillion to $US5 trillion of tokenised digital securities could be issued by 2030.
Nevertheless, digital assets and tokenisation more broadly could have a bright future in the next generation of financial markets, such as for bonds, bank deposits and carbon credits.
Citigroup estimates that $US4 trillion to $US5 trillion of tokenised digital securities could be issued by 2030.
Tokenisation is a digital instrument that represents claims on underlying assets that exist in the real world. (In contrast, there is no underlying asset backing bitcoin, only the bitcoin itself).
A tokenised asset is programmed and traded on blockchain platforms.
As Reserve Bank of Australia assistant governor Brad Jones explained in an October speech, tokenisation and trade in digital assets could have several benefits.
Costs and risks could be reduced by faster clearing and settlement times occurring 24/7.
Intermediaries in financial markets could be eliminated as counterparties trade directly on the blockchain.
Cross-border payment fees charged by correspondent banks, costing 5–7 per cent of remittances, could be slashed.
Tokenisation also offers the possibility of increased liquidity, informational transparency and auditability.
But if the new digital money era does evolve as anticipated, bitcoin is likely to be only a sideshow.
Lack of trust
Jones says there are four different types of tokenised money that could be used.
Unbacked cryptocurrencies such as bitcoin are one, but they don’t have any of the traditional features of money.
“The fundamental issue here is one of trust – or a lack of it,” Jones says.
“With no reference to backing assets and operating outside of regulatory oversight, the wild price volatility in cryptocurrencies (multiples of gold, to which they are sometimes compared) has made them more amenable to speculative investment than serving as a safe settlement instrument.”
“A lack of fungibility, scale issues and high fees have also rendered them ill-suited as a medium of exchange.
“It’s possible that unbacked cryptocurrencies remain a hotbed of speculative interest, but I struggle to envisage them playing an expansive role in the financial system of the future.”
The other three forms of tokenised money have more optimistic prospects.
These are asset-backed stablecoins issued by banks or non-banks, tokenised bank deposits, and finally at the top of the safety pyramid, wholesale central bank digital currency (CBDC) as a tokenised form of central bank reserves.
Unlike bitcoin, these three forms of tokenised money have more productive underlying assets and the token is merely an instrument that people trade to gain exposure.
Central banks are now developing and trialling CBDCs.
Once nation states via central banks issue digital currencies, many of the private digital currencies will not survive.
A digital US dollar or Aussie dollar backed by the central bank will have much more investor trust than risky private crypto assets.
A state-sponsored digital currency system will relegate bitcoin to a purely speculative instrument for gamblers to punt on. Buyers beware.
