An Overview of DeFi from an Institutional Perspective

Crypto assets reached a market cap of over USD$2 trillion in 2021, a figure larger than the gross domestic product of Canada.

DeFi exchanges surpassed USD$1 trillion trading volume in 2021.

The conversation around DeFi/cryptocurrencies has changed quite dramatically in the past 12 months. This innovative technology sector is now recognised as a core pillar of, and driving force behind, Web 3.0. and offers the ability to own/control/transfer digital assets and provides a new form of digital wealth creation and management.

The fear of disintermediation that had previously prevailed at government level and within the global financial industry is, quite pragmatically, being replaced by an understanding that the global financial system is changing. And along with that shift in perception, comes the desire to take a leading role in the evolution.

A New Form of Financial Intermediation

DeFi has, in essence, created a new form of financial intermediation that has demonstrated cost, efficiency and market access benefits that cannot be ignored by traditional finance institutions. This is now reflected in the market intelligence of the world’s leading professional services and accounting firms:

Report: The DeFi Wave is Approaching

“The growth of DeFi has profound implications for the global financial system and how institutions, regulators, investors and individuals interact around the world. How institutions respond to this new form of decentralized autonomous financial intermediation will impact their role in the coming evolution of the global financial system.”

CV VC (in collaboration with PWC)

Global Report 2022

“Today, crypto is embraced by many traditional financial industry players, it is no longer a curiosity or fear but a trillion-dollar asset class that the world can no longer ignore.”

Boston Consulting Group

Standing Still Is Not an Option, Global Wealth 2022

“…clients are in no mood to wait for next-generation offers and next-level service. They want them now and they know that what they want is available - if not from their current Wealth Managers, then from others.”

Deloitte

Digital Assets and Distributed Ledger Technology Financial Industry Outlook for 2025

To secure a leading position and competitive advantage in this emerging industry, financial services firms will need to become early adopters and start developing the necessary infrastructure for issuing, trading and investing in digital assets and currencies today

Government / Central Bank

Governments and regulators around the world are scrambling to clarify rules to keep pace with crypto’s popularity. (Regulation of Cryptocurrencies by Country, 2022, by Thomson Reuter)

The frontrunning jurisdictions, such as Switzerland, Dubai and Gibraltar, are well advanced in the implementation of their respective ecosystems to promote and fully embrace the area – with a coordinated approach in the triumvirate of government, regulation and industry.

Other countries, such as China and Bolivia, have chosen to implement outright bans on cryptocurrencies. (Though it is worth noting that complete restrictions are rare and difficult to enforce.)

Most countries lie somewhere in between in their efforts to implement a regulatory, legal and tax framework for this nascent sector - though most have found ways to tax gains or income derived from cryptocurrencies.

Simultaneously, Central Banks from countries representing approximately 90% of global GDP are at various stages of looking into developing their own “version of cryptocurrency” known as CBDCs (Central Bank Digital Currency) to capitalise on the many accepted advantages that digital currencies offer. Quite significant, as many believe that CBDCs will ultimately be the main payment solution in the new digital world.

Source: https://cbdctracker.org/

Banks and Financial Institutions

While banks and financial institutions have often been the source of the strongest voices of criticism in this area, the following chart indicates that many of the largest players are now investing heavily in the sector.

Worth noting…

JP Morgan is the most active bank in the space with an overall stated aim of bringing “trillions of dollars of assets into (permissioned/institutional) DeFi” to make use of the new mechanisms for trading, borrowing [and] lending, but with the scale of institutional assets. (The bank’s recent tokenization of money market funds with BlackRock dovetails with an institutional DeFi project led by the Monetary Authority of Singapore that is leading towards that aim.)

Visa, Mastercard and, more recently, American Express are also investing heavily in this space; preparing for a world where crypto assets are regular currency. Visa leads the way with more than 50 partnerships with major cryptocurrency platforms that has seen over USD 1 billion transacted. It has also launched an API that allows clients to buy, sell and store digital currencies.

Paypal is aggressively pursuing the space and has taken the forward-looking (and committed) step of allowing customers to transfer crypto out of PayPal's cryptocurrency walled garden to external wallets. With their 400 million consumer accounts and 35 million merchant accounts this represents a major step in bridging the fiat and crypto worlds.

Sygnum Bank is the world’s first regulated Digital Asset Bank and a digital asset specialist with global reach. Sygnum Bank AG’s Swiss banking licence, as well as Sygnum Pte Ltd’s capital markets services (CMS) licence in Singapore, Sygnum empowers institutional and private qualified investors, corporates, banks and other financial institutions to invest in the digital asset economy.

Aave Arc is a DeFi liquidity market designed to be compliant with AML regulations, with all participating institutions required to undergo Know Your Customer (KYC). Fireblocks, the first active whitelister for the protocol, has developed a framework for whitelisting institutions that references globally accepted KYC/CDD/EDD principles, in accordance with FATF guidelines.

Fidelity Investment’s (the largest 401(k) provider in the US) decision to allow its customers to incorporate Bitcoin into their retirement accounts was a landmark first amongst retirement plan providers. Moreover, despite the recent downturn in the crypto markets, its technology subsidiary, Fidelity Digital Asset Services, is hiring 110 tech workers and 100 customer service employees to help the company build infrastructure for custody and trading services for the cryptocurrency Ether.

Bloomberg has vastly expanded its coverage of crypto markets after a decision to include data on the top 50 crypto assets in the Bloomberg Terminal. The addition of so many more crypto assets to Bloomberg Terminal services the growing institutional interest within the space to both develop platforms and turn a profit.

The Road Ahead

Further widespread adoption of Permissioned DeFi by banks and financial institutions around the world would seem inevitable.

WTFi’s coverage is designed to facilitate that adoption by examining regulatory, legal, technology and accounting issues that are encountered when implementing, or considering the implementation of Permissioned DeFi services.

Our team will also highlight the potential opportunities in the space (including Custodial, Issuance, Trading, Lending, Staking, Tokenisation and NFTs), examine how traditional finance institutions can enter the space, and report how different jurisdictions from around the world are facilitating (or not) the development of this area.

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