The cryptocurrency narrative is shifting from retail investor-led adoption to more institutions embracing digital assets. What’s driving the change?
A seismic shift in the regulatory landscape has transformed institutions from skeptical observers to active participants. Until recently, institutions didn’t have the appetite to make meaningful investments in this nascent industry. Crypto used to be a niche asset class, beleaguered by unclear regulation and persistent misconceptions.
However, a rapidly changing regulatory landscape has fostered a more favorable political climate. With more supportive infrastructure in place, the headwinds that once hindered institutional adoption have morphed into tailwinds. Additionally, these tailwinds are both structural and secular, allowing institutions to invest in the space confidently for the foreseeable future.
From corporations adding it to their balance sheets to federal and state governments exploring allocations for the first time, the industry is on the verge of a new era. Once a leap of faith, allocating to crypto is now part of the investment programs of some of the industry’s largest wealth management firms.
From Hostile To Hospitable – Political Support And Regulatory Progress
The previous administration took an antagonistic approach to crypto, with limited support for the burgeoning industry. This stance has flipped completely, with support now coming from many avenues in the political and regulatory spheres.
At the center of this shift in tone was the SEC announcing a new Crypto Task Force that promised to “set the SEC on a sensible regulatory path that respects the bounds of the law.” This contrasts with the prior SEC regulation that “relied primarily on enforcement actions to regulate crypto retroactively and reactively, often adopting novel and untested legal interpretations along the way.”
At the federal level, the current administration signed an executive order establishing a working group on digital assets. The group’s chair, David Sacks, recently stated that the group will assess the feasibility of a U.S. bitcoin reserve, which would mark a significant catalyst in legitimizing this fringe asset class.
In January, the Senate Banking Committee announced the formation of its first-ever Subcommittee on Digital Assets, with outspoken pro-bitcoin Senator Cynthia Lummis appointed as its chair. Meanwhile, at the state level, about 20 states are considering some form of bitcoin legislation aimed at creating state-level bitcoin reserves.
Also in January, the rescission of SAB 121 removed restrictions that prevented financial institutions from acting as crypto custodians. With the new mandate, banks now face fewer barriers when offering bitcoin-related products and services.
Banks now face fewer barriers when offering bitcoin-related products and services.
This level of political and regulatory support marks a stark contrast to the hostile environment of two years ago.
From Career Risk To Portfolio Staple
Investment professionals previously faced significant reputational risk when recommending an allocation to bitcoin in their clients’ portfolios. Misconceptions, volatile price swings, and regulatory uncertainty meant the risks of investing in it far outweighed any potential benefits.
That reality has now changed, thanks in part to the approval and launch of spot bitcoin ETFs in January 2024. The highly regulated nature of the ETF wrapper means that investors can finally gain access to this previously hard-to-reach asset with ease and transparency.
Bitcoin’s long-term price appreciation is difficult to ignore, and now the bigger risk is not having an allocation. At this point, advisors can’t afford to keep their clients on the sidelines and institutions no longer need to stick their necks out to rationalize investing in bitcoin. Instead, allocating to bitcoin is becoming the norm for a modern, diversified portfolio.
A Market Ready For Institutions
Beyond bitcoin ETFs, the industry has developed a robust infrastructure that mirrors conventional financial markets, paving the way for large-scale adoption. Notably, institutional investors and advisors can now easily access crypto separately managed accounts (SMAs), which offer personalized, tax-efficient bitcoin exposure and professionally managed crypto strategies.
Crypto SMAs enable professional money managers to provide their clients with direct exposure to crypto, accompanied by enhanced security measures not found on mainstream retail exchanges. Unlike ETFs, which serve as price proxies, SMAs preserve direct ownership, a core tenet of bitcoin’s fundamental investment thesis. Furthermore, crypto SMAs also offer tax-loss harvesting capabilities, a feature that the ETF counterparts cannot match, which may enhance returns over the long haul.
One Small Step, No Longer A Giant Leap
As the regulatory landscape has changed dramatically in short order, these headwinds have become tailwinds.
Taking the first step into a new frontier initially feels like a giant leap. Not long ago, institutions hesitated to enter the crypto industry due to reputational risk and unclear regulation. These headwinds were often large impediments for most institutional investors to overcome. However, as the regulatory landscape has changed dramatically in short order, these headwinds have become tailwinds. What once required a leap of faith is now just one small step towards adoption.
Damon Polistina is Director of Research at Eaglebrook.
