This is the second in a series of articles sharing my thoughts about the entry of traditional finance into cryptocurrency markets. See the full series on this page.
Did you hear about Bakkt?
It’s a massive, regulated, global cryptocurrency exchange built on the Microsoft Azure platform and managed by the same company that runs the New York Stock Exchange. When it opens, everybody who uses Bakkt will have a full suite of enterprise-grade investment services as well as the tools large investors need to properly manage funds. Most importantly, Bakkt will assume all the regulatory and operational risk of buying and selling cryptocurrency, including custody, security, insurance, and clearing for all transactions. Bakkt plans to open in 2019.
Why is this a big deal? Don’t we already have cryptocurrency exchanges?
It’s a big deal because no other exchanges have Bakkt’s backing, expertise, trading infrastructure, and professional network. Its parent company, Intercontinental Exchange, owns some of the largest and most successful stock and commodity marketplaces in the world. People involved with Bakkt have decades of experience in traditional finance. Bakkt’s backers include Horizon Ventures, M12, PayU, Pantera Capital, and Boston Consulting Group. Starbucks even signed a partnership.
In addition to ICE executives steeped in traditional markets, Bakkt’s leadership includes alternative fintech pros Adam White (Coinbase) and Balaji Devarasetty (World Pay) along with several advisors from the cryptocurrency community. Bakkt has raised $182 million of investment capital and recently acquired Rosenthal Collins Group from Marex Spectron to improve its administrative operations.
Bakkt is about as legit as you can get.
This legitimacy goes a long way. With Bakkt, large investors won’t worry about getting ripped off, seeing some scammer steal their money, dealing with low liquidity, or losing money when the exchange’s owner (supposedly) dies. Plus, they have somebody to sue when things go wrong.
Fidelity, Boerse Stuttgart, TD Ameritrade, NASDAQ, Thailand’s stock exchange, Switzerland’s stock exchange, and other traditional financial entities already have moved into this space, but Bakkt draws all the attention because of its scope and pedigree—even though it hasn’t opened yet.
In my previous post, Institutional Investors and Cryptocurrency: Be Careful What You Wish For, I pointed out some reasons to worry about Bakkt and other traditional finance companies entering cryptocurrency. I’m cautious, not fearful, and it’ll be interesting to see how everything plays out.
I can’t fault Bakkt for filling a need. Wall Street needs a cryptocurrency marketplace and Bakkt fits the bill. Bakkt will collect fees, big money will get a new playground, speculators will have an outlet for their spare change, traders will have a state-of-the-art trading platform, and financial professionals will have a new way to make commissions.
All this activity will make cryptocurrency seem regulated, professional, and normal. That’s important because the public perception of cryptocurrency is this:
That needs to change.
Bakkt Meets a Higher Standard
With all due respect to Coinbase and Binance, those platforms can’t meet the needs of financial professionals who manage institutional funds and large, actively-traded portfolios. These people need high-power computing, ultra-fast networking speeds, airtight custody, top-notch security, and lots of buyers and sellers. They’re using sophisticated computers to manage large amounts of capital on behalf of big funds and wealthy people. They’re not day-trading from their laptop using their blow money.
They demand higher standards. Bakkt plans to meet those standards.
Once it does, new professionals will enter the cryptocurrency markets—brokers, traders, money managers, and investment analysts who will support large investment funds moving money into the space. These people will learn about cryptocurrency (some because they want to, others because their boss tells them they have to). They will share what they’re doing with people at dinner parties, happy hours, board meetings, wherever. They will brag about their gains and might even laugh about their losses. They do this with every other asset, why wouldn’t they do it with cryptocurrency?
Some will realize crypto is more than just bitcoin and a bunch of worthless scam ICOs. Some will discover all the non-bitcoin cryptocurrencies that do more than just move money from one wallet to another. They will all feel comfortable about crypto. They will make others feel comfortable about crypto.
More importantly, these financial professionals will wear suits. They will have financial degrees and years of experience. They will project an image of credibility and savvy that you and I simply can’t convey. They will educate their clients about technology, markets, projects, and profit potential. They will demystify cryptocurrency for people with lots of money.
Your uncle in finance will talk about how cryptocurrency is “safe” now. Financial advisors will suggest their clients invest 1% of their money into bitcoin “just in case it booms” (and take a small commission to do this for them). You’ll hear more chatter about legitimate projects and real-life products that use cryptocurrency.
For the first time, cryptocurrency will have big-moneyed U.S. interests with established reputations, skin in the game, an interest in seeing prices go up, and a platform for making money when those prices go up. Bakkt is putting hundreds of millions of dollars into this effort. It’s already hosting training and educational events. CEO of its parent company, ICE, told shareholders it’s building a “moonshot” global cryptocurrency marketplace with plans to eventually move to a mass market. How long do you think they’ll keep this news to themselves?
Once Bakkt has worked out the inevitable kinks and hiccups that come with every new venture, it will take its services to a mass audience. If this mass audience shows up, you’re going to move from a small group of approximately 35 million people worldwide (based solely on the number of bitcoin wallets) to a global base of 500 million people who already own some kind of financial instrument and many more who would buy from an app or service.
For those who claim the bubble burst and nobody will buy cryptocurrency again, did you know over one-third of Americans think cryptocurrency will grow and almost half would consider buying it? Extrapolate that to the rest of the world. There’s your mass audience. That’s a lot of people. And a lot of money.
Why do you think Google reversed its ban on crypto advertising to allow “regulated exchanges” but nobody else?
Mark, your headline said Bakkt will not save cryptocurrency. You just told me the opposite.
When did I say Bakkt will save cryptocurrency?
I didn’t. I don’t believe cryptocurrency needs to be saved. It just needs to be useful.
Bakkt doesn’t care about that. It treats cryptocurrencies as assets and commodities, not solutions and networks. It builds financial vehicles rather than new economies. It creates crowds of chatterboxes rather than communities of users. It measures success in price growth, not token utility. It will feed a perception of cryptocurrency as a way to get rich, rather than a new way of solving social and economic problems.
Great for Wall Street. What does that do for you and me? What does that do for cryptocurrency?
Also, Bakkt creates a single authority over all transactions. It can stop, hold, freeze, and censor any activity within its ecosystem. Not to mention the security risk—one stolen password will undermine faith in the whole system, one hack and only God knows how much money will be lost. Cryptocurrency, by design, was created to prevent these very activities. Bakkt says it will take extra precautions to avoid this. We’ll see.
On top of that, you have some big systemic risks if people start holding claims on other peoples’ cryptocurrency. I’ll spare you the technical details of how this works but you can read this excellent letter to the U.S. Securities and Exchange Commission. Here’s my oversimplification:
Most traditional financial products are based on some form of an IOU, sometimes with the same asset being promised to more than one person. Cryptocurrency does not allow IOUs. If you start letting people promise their cryptocurrency to another person, and let that other person promise their cryptocurrency to yet another person, and allow each of them to count this IOU as an asset on their balance sheets, you start to create a chain of claims. Not a blockchain, a claim-chain. How do you settle those claims? What happens when people don’t have enough cryptocurrency to settle those claims? What if the value of cryptocurrency falls to the point they’ll never be able to settle those claims?
In traditional markets, you deal in paper, sometimes without actual assets exchanging hands and with strong regulatory safeguards against systemic collapse. Even then, you have an ever-present risk of catastrophe. With crypto, you have an actual asset and a patchwork of inconsistent regulations. A few bad deals could destroy the market.
Former Morgan Stanley executive Caitlin Long presents a technical discussion of this phenomenon in How Wall Street Will Ruin Bitcoin. Bakkt says it will not allow the types of activities she warns against. We’ll see.
I also wonder about how Bakkt will change the regulatory debate in the U.S., where I live. As a civil servant and former Congressional aide, I understand the importance of inertia when making policy. It’s hard enough to get people motivated to create new rules. It’s even harder to change those rules once you start moving in a certain direction. What if regulators get enamored with Bakkt? Will they tilt regulations towards Wall Street? Will we end up with rules crafted for big players who care only about the money, not the technology? Will they see Wall Street as a necessary gatekeeper for people who want to use cryptocurrency—a sort of “tollbooth” regulating the cryptocurrency market? Once you move in any direction, you get entrenchment, e.g., policymakers justifying their decisions, powerful interests defending their turf, a cohort of voters and legislators defending the new status quo because it benefits them. That’s hard to break. Bakkt says it won’t get into politics. We’ll see.
Mark, you don’t want institutions to pump money into the cryptocurrency market?
I never said that. I said Bakkt will not save cryptocurrency.
First, we don’t know how much money will really come into the cryptocurrency markets. Some money will certainly enter, but how long will it stay? When will it leave?
Second, let’s assume people use Bakkt. What happens after new investors pump up the price of cryptocurrency and hype/shill until everybody’s favorite coin reaches the moon and we all buy lambos? When Wall Street decides it’s made enough money? When big investors lose interest? When the new money runs out? What will happen to the market?
Cryptocurrency does not need institutional money. It just needs people to continue developing its utility as a secure, global way for strangers to exchange things with each other and build businesses. That development is already happening. During 2018, when prices collapsed, we saw 900+ VC partnerships, 100,000+ new jobs, massive private transfers of bitcoin, tremendous development, lots of new projects, several new investment platforms, corporate implementations of blockchain technology, business usage of cryptocurrency, and the creation of several operational cryptocurrency networks with actual business and expanding user bases.
This is progress, experimentation, growth, and traction. I’d hate for Wall Street to screw it up. Cryptocurrency is not ready for the spotlight. It’s too technical, poorly understood, and not well integrated into “normal” life. Lightning network makes sense to me, I’ve used it and I have no problems continuing to use it—but I can’t imagine your average person, with average technical skills, could send or receive payments using LN. It’s too complicated. Too different. Not easy enough.
That will change, but not because big investors make money speculating on the price of their chosen cryptocurrencies. For cryptocurrency to succeed, it cannot remain a speculation. It needs to show results. It needs developers to continue improving cryptocurrency tools and technology, as they’ve been doing without Wall Street’s interference.
Wall Street doesn’t bring results. It brings money and hype. It has already controlled the narrative of the bear market—“HODL because institutional investors are coming!”—without even having a platform to shill from.
With Bakkt, it will have that platform. Who do you think will control the narrative when the bull market begins?
You don’t need Wall Street. You don’t need institutions.
You need patience.
Mark Helfman is a cryptocurrency commentator and author of Consensusland, a novel about a country that runs on cryptocurrency.