Global Financial Services will need to Reinvent themselves as DeFi changes Banking Fundamentals
Banks are currently on the vanguard but with the capital markets warming up to the concept of decentralized finance who knows if that will continue into the near future?
Regulators have been holding back on providing additional clarity around cryptocurrencies which have allowed finance disruptors to gain more than they can lose while the opposite being true for established banks; reputation is everything. Banks are at new heights of anxiety as demonstrated by JP Morgan CEO. The CEO offering his personal advice to stay away from crypto has made his clients less money while being less credible through actions: JP Morgan recently partnered with NYDIG to offer crypto exposure to their clients. Don’t be surprised if their next move is into DeFi…
As one of the fastest growing sectors in crypto, DeFi brings financial services on-chain, enabling participants to borrow, lend and exchange assets on blockchain governed by smart contracts instead of through centralized intermediaries (banks). Unlike Bitcoin which has the narrative of digital gold or form of currency to conduct simple value transfers, DeFi offers more complex use cases. At the time of this writing, users have deposited over $85 Billion worth of crypto in to DeFi smart contracts up from $7 Billion one year ago today.
Recently, Bloomberg (an established fintech company) along with Galaxy Digital launched the Bloomberg Galaxy DeFi Index to track the performance of DeFi and provide institutional investors access. The fund was seeded by NZ Funds, a wealth management firm that manages over $2 Billion of New Zealander’s savings. As of August 1, 2021, the index consisted of the following assets and weightings:
- UNI (Uniswap) : 40.0%
- AAVE (AAVE ) : 18.0%
- MKR (Maker) : 12.7%
- COMP (Compound) : 10.0%
- YFI (Yearn.Finance) : 5.4%
- SNX (Synthetix) : 5.0%
- SUSHI (SushiSwap) : 4.3%
- ZXR (0x) : 2.8%
- UMA (UMA) : 1.8%
“The blockchain-based infrastructure behind DeFi is maturing at an accelerating rate and clear examples of how this new technology can disrupt financial services are emerging in real-time. Our unique DeFi Index Fund provides investors with institutional-grade exposure to the future of financial services.”
— Steve Kurz, Galaxy Digital’s head of asset management.
According to a recent PWC crypto hedge fund report, it is estimated that crypto hedge funds AUM globally increased to $3.8 Billion from $2 Billion prior year. The vast majority of investors in these funds were either high-net worth individuals or family offices.
It’s a no brainer for crypto hedge funds AUM to have increased but what was surprising were facts surrounding traditional hedge funds that are not crypto focused. The report showed a fifth of hedge funds investing in crypto with more than 85% of those hedge funds intending to deploy more capital into the asset class by the end of 2021. Around a quarter of hedge fund managers who are not yet investing in the asset class confirmed that they are in the late-stage planning to invest or looking to invest.
Another sign demonstrating the growing DeFi space is to look at how these funds are using the actual DeFi protocols other than for investment purposes. More than 20% of crypto hedge funds were reported to borrow, lend and/or stake while Uniswap being the most used decentralized exchange by crypto hedge funds.
As history shows, investments in the crypto ecosystem has helped build out certain sectors such as DeFi. As demonstrated in the chart below, the flow of such capital does not seem to be slowing down anytime soon. During the first half of 2021, investments have more than doubled all of 2020 and outpaced each whole year in 2018, 2019 and 2020. As crypto matures so has the nature of its investors. Investor’s awareness and knowledge of the sector seems to be growing, with investors now having a much better understanding not only on the crypto assets but also the operational and procedural side of them.
Banks will need to evolve with the new banking fundamentals or face the reality of going extinct. The seismic shift is happening now around the world as most financial institutions see blockchain and crypto as another way to gain competitive advantages. The pace at which infrastructure develops and the never-ending need for flexibility are spurring industries to adapt to find their way in this new era of DeFi. The overall velocity of economic activity will be exponential as money will move faster and cheaper allowing for the ability to raise capital instantly and execute banking services. Leaders and visionaries will need to decide how and when their organizations should start using DeFi and the new global financial service infrastructure to their greatest advantage.