In 2017, the entry of financial institutions into the crypto space was a major topic of discussion. ‘Sure, Bitcoin is nearly $20,000 now, but just wait and see what happens in a few months when the big money comes in,’ people would say.
(Spoiler alert: it took longer than a few months).
Three years later, and institutions seem to be only just approaching crypto for the first time in a meaningful way. Meanwhile, over the last three years, companies and lawmakers alike have slowly chipped away at issues of infrastructure, regulation, viability, and more.
Now, crypto is closer than ever to its institutional heyday. But what does the progress look like so far? And what still needs to be built?
Recently, Finance magnates spoke to Diogo Monica, co-founder and president of institutional crypto custody firm, Anchorage, about the kinds of infrastructural support that institutions need to enter into the crypto market, and how his company has been working to create it.
Previous to co-founding Anchorage, Before founding Anchorage, Diogo was security lead at Docker, and also led the platform security team at Square. He is also a renowned public speaker, an angel investor, and an advisor on boards of numerous startups.
What Is Anchorage?
“At a high level, Anchorage follows client demand. Clients ask for things, and we deliver them, as a business model, it’s really as simple as that,” he said. “Initially, when we started the business, there was a need in the market.” This ‘need’ had to do with custody.
“So in 2017, the status quo for institutional custody was cold storage,” Diogo explained. At the time, the industry standard was what he referred to as ‘pirate custody.’
“Imagine pirates in the 1700s,” he said. “They have gold coins. They put them in chests, they bury them on islands, and then they create a treasure map.”
“That was the status quo in early 2017 for Bitcoin custody,” he continued. “People were plugging in these USB keys or these Ledger devices, they were putting them in safety deposit boxes, they were putting them in some mountain of some bank (buried underground, essentially), and creating checklists on how to access them.”
In other words, “it was ‘pirate custody’, but the modern equivalent. So, there was a clear need for a platform that provided clients a safer solution than cold storage, but without the human constraints, without the fact that the speed [of accessibility] is limited by how fast a human can go to the bank.”
“For an institution to transact in crypto, that should move in minutes. It should not move in many hours or days.” This is why, Diogo said, institutional-grade custody was the first thing that Anchorage sets out to provide.
As Regulation Has Become More Clear, the United States Has Slowly Been Gaining Ground as a Crypto Industry Powerhouse
From there, Anchorage continued to grow: “now that we had a technical platform that had these safety guarantees, people wanted a regulated platform, and so we got a qualified custodian and became regulated in the United States.”
We asked Diogo about the experience of building a cryptocurrency-focused company in the United States over the last several years.
“What I would say is that regulators are not all the same,” he said. “And you have to deal with lots of regulators. There are state regulators. There are federal regulators. There are so many types of regulators that you have to interact with on a daily basis.”
"It also means there’s really no room for one-size-fits-all solutions." again @diogomonica brings a 5min read of a great subject on "How to Support a Decentralized Network Launch" https://t.co/FrgXhOOGuj
— Chaves (@gchaves) July 2, 2020
However, “what I have seen is that by and large, the regulated entities have been acting in a capacity that is fiduciary in that sense it’s the best for their clients: there’s scrutiny; there’s insight.
“Crypto did suffer a few years ago from this ‘wild west’ mentality of ‘everyone can do everything they want’, and I think that going down the path of regulation is very important for the maturity of the space,” he said. “And so, I think we’re in a new chapter in that sense that there are a lot of regulated entities right now.”
Of course, there are still some struggles: “sometimes, [things move] slower than you’d want. There are more conservative views around the businesses that you’re trying to push forward with, but in any case, it’s very collaborative,” Diogo said, referring to the relationship between the crypto industry and the regulators that oversee it.
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“In many cases, it’s very surprising to see the depth of knowledge that the regulators have actually acquired[…] in fact, we now have very complex, deep-down, detailed conversations around staking, [for example],” he said.
“Just the fact that we are engaging in conversations on staking with regulators shows the fact that they’ve already gone a long way in terms of understanding the space.”
The OCC’s Recent Announcement Has Created a Unique Opportunity for Crypto Platforms in the US
This development of a collaboratory relationship between the cryptocurrency industry and crypto regulators in the United States seems to have better-positioned the US as a global industry hub for crypto.
Diogo said that the best example of this is the recent news that the Office of the Comptroller of the Currency (OCC) stated in an open letter that banks in the United States can provide custody services for cryptocurrency holders.
“I think that’s a very positive development,” he said. “It’s a unique opportunity for players like Anchorage that provide a platform that enables those banks to ‘come and play.’”
Indeed, “for us, it’s the most exciting news that could happen. You now have 5,000 entities in the United States that have the green light to do this, and they don’t have the technology,” Diogo said.
This is where Anchorage could come in. From his perspective, “we are the perfect platform for them to actually make use of the technology and immediately start offering the services.
“It comes at a time where banks and other entities are looking for other opportunities outside of traditional investments: they’re looking for high-yielding opportunities, they’re looking for acquisition of the younger generation that they’ve been losing.
“And what better way is there to attract clients than to add crypto to your offerings?”, he asked. “We’ve seen it with Square Cash. We’ve seen it with a lot of different rumours around larger players also adding cryptocurrencies to their offering of their peer-to-peer money sending services.
“There’s so much excitement, and part of it is because of the potential business opportunity, but I believe that more of it is to attract a new set of clients to their platform, which they can do with crypto, and they can do with very little else.”
Staking and Yield Farming on an Institutional Level
Indeed, there are quite a few things developing in the cryptocurrency space that seem to have gained the interest of a larger group of people in recent months, in particular, earning opportunities associated with staking and yield farming. We asked Diogo what these practices might look like on an institutional level.
“The concept really is that you have different cryptocurrencies with different mechanisms of network security. Bitcoin uses proof-of-work, and uses miners, and uses hashing as the mechanism of security, which is somewhat equivalent to electricity use. Other cryptocurrencies are using either proof-of-authority or proof-of-stake.
“Whenever you invest in a cryptocurrency that uses proof of stake, you are faced with the following situation: you have an inflationary currency. There are new assets being created to pay out the people that are doing staking.”
Therefore, “if you’re not staking or delegating, if you’re not actively participating in the network’s security, you’re actually being diluted: your assets are being inflated away.
“If there’s one thing that I know our clients don’t like, it’s being inflated,” Diogo added. “This space has a lot of touchy feelings about inflation and inflationary assets.”
This is what our institutional clients have come to expect of us: day 0 support for promising blockchains in the form of custody, staking and active participation mechanisms.
— Diogo Mónica (@diogomonica) April 16, 2020
“And so, one thing that they did want is to take advantage of the opportunities that these assets provided, and there are assets that have staking gains all the way to 20 percent on a yearly basis,” he said. If you are not participating in staking, however, this gets “turned around[…]they have 20 percent inflation on a yearly basis,” he said.
In other words, “if your asset was originally worth $1 million, it would be worth 20 percent less.”
Therefore, “in a way, [staking] stops being something that you can do and becomes something that you must do. You must stake these assets, because otherwise, there’s a significant downside.
“Yield farming is the concept that ‘hey, there might be an opportunity that actually generates more yield from this same set of assets [without] staking’–or, even better, ‘what if I can stake those assets and generate even more yield from the assets that are staked?’”
In other words, yield farming is the concept of exploring where one can get the best yield on their assets, where one can double up on investments, and where one can actually, well, generate more yield. In the best case, this creates a scenario where “you can be ‘long’ on a cryptocurrency and you can also generate more yield on top of it.”