What DeFi needs to do next to keep institutional players interested

What DeFi needs to do next to keep institutional players interested 1
What DeFi needs to do next to keep institutional players interested 2

What DeFi needs to do next to keep institutional players interested 3

What DeFi needs to do next to keep institutional players interested 4

In recent months, the madness of institutional money flowing into Bitcoins (BTCs) has made cryptocurrences front-page news – at least as a novelty, at best as an indispensable attribute. There is certainly a trend in the market towards greater awareness and acceptance of digital assets as a new class of investable asset.

A June 2020 Fidelity Digital Assets report found that 80% of institutions in the US and Europe are at least interested in investing in cryptocurrents, while more than a third have already invested in some form of digital asset, with Bitcoin being the most popular investment choice.

A good starting point for institutional investors would be to distinguish between cryptocurrencies (especially Bitcoin) and decentralized financial products. So far, institutional interest has focused on simply holding Bitcoin (or Bitcoin futures), with a small number of players focusing on more exotic DeFi products.

There are many reasons for the recent Bitcoin craze. Some cite the relative maturity of the market and increased liquidity, which now allows for large trades to be executed without excessive market movement. Others point to the asset class’s unusually high volatility, high return, and positive excess volatility (i.e., higher probability of extreme situations compared to the stock market). He also pointed to Bitcoin’s history and limited supply, making it similar to digital gold, making it increasingly attractive in a world of inflated asset prices and misguided monetary and fiscal policies.

However, the main reason for the recent institutional interest in cryptography is much less philosophical and much more practical, and concerns the existing rules and infrastructure.

Financial institutions are old giants that manage billions of dollars of other people’s money. They are therefore legally obliged to comply with a plethora of rules regarding what assets they hold, where they hold them and how they hold them.

On the one hand, the supply chain and cryptocurrency sector has made a big leap forward in regulatory clarity over the past two years, at least in most developed markets. On the other hand, the development of a high-quality infrastructure that provides institutional players with a business model similar to that of the traditional securities world means that they can now invest in digital assets directly through custody or indirectly through derivatives and funds. Each of them represents a real driving force that gives institutional investors enough confidence to eventually dive into crypto knowledge.

Protection of institutional interests What about other DeFi products?

With 10-year Treasury bills yielding just over 1%, the next important step would be for institutions to consider investing in decentralized return products. This seems obvious when interest rates are at their lowest and DeFi protocols on US dollar stocks yield 2-12% APR – not to mention the more exotic protocols that yield 250% APR in the North.

However, DeFi is still in its infancy and liquidity is still too low compared to more established asset classes to encourage institutions to improve their knowledge, let alone their IT systems that invest capital in this asset class. There are also real and serious operational and regulatory risks related to the transparency, rules and governance of these products.

Much remains to be developed – most is already underway – to ensure institutional interest in theFiD products, whether at the settlement, asset, application or aggregation level.

The biggest challenge for agencies is to ensure that their DeFi partners are legitimate and compliant, both in terms of protocol and distribution.

One solution is a protocol that detects the ownership status of the portfolio or other protocol and alerts the counterparty if it meets its compliance, governance, accountability and code verification requirements, as the potential for abuse of the system is repeatedly demonstrated.

This solution should go hand in hand with the assurance process to reduce the risk of errors, for example during validation, for a third party. We are beginning to see the emergence of multiple insurance protocols and mutually beneficial insurance products, and the implementation and liquidity of the DeFi should be important enough to set aside investments of time, money and expertise for the full development of viable institutional insurance products.

There is also a need to improve the quality and integrity of data through robust oracles and to increase confidence in oracles to achieve a compliant level of reporting. This goes hand in hand with the need for sophisticated analyses to track investments and activities within the chain. And it goes without saying that some regulators who have not yet spoken out need to provide more clarity on accounting and taxes.

The other obvious problem is network costs and bandwidth, where requests can take anywhere from a few seconds to double-digit minutes depending on network congestion, and costs range from pennies to $20. However, this problem will be addressed in the development plans of Ethereum 2.0 over the next two years, and in the emergence of blockchains that are better suited for faster transactions and more stable costs.

A final, somewhat amusing point is the need to improve the user interface to transform complex protocols and code into a more user-friendly and familiar interface.

Regulatory matters

People like to compare the chain store revolution to the internet revolution. You don’t remember that the internet has disrupted the flow of information and data. These two elements were not regulated and had no existing infrastructure, and it is only in recent years that such regulations have been adopted.

However, the financial sector is highly regulated – even more so since 2008. In the United States, the financial sector is three times more regulated than health care. The Ministry of Finance has an outdated operating system and infrastructure, making the conversion process extremely complex and time-consuming.

Over the next decade, we are likely to see a dichotomy between fully decentralised, fully open and fully anonymous instruments and protocols, and instruments that must fit into the rigid framework of strict regulation and an archaic financial market infrastructure, which will gradually lose some of the characteristics mentioned above.

This will in no way slow down the fantastic pace of creativity and rapid, unrelenting innovation in the sector, with numerous new products expected in the field of WiFi – products that we had not even anticipated. And within a quarter of a century, when DeFi will have first adapted to and then incorporated into the capital markets, its potential will be fully exploited, leading to a homogeneous, decentralized and self-managed system.

The revolution is here to stay. The new technologies have undoubtedly transformed the financial sector from a socio-technical system governed by social relations to a techno-social system governed by autonomous technical mechanisms.

There is a delicate balance between fast-acting technical cryptosystems and outdated, regulated exhaust systems. Bridging the two would only benefit the system as a whole.

This article does not contain investment advice. There are risks associated with every investment and trading transaction, and readers should do their own research before making a decision.

The views, thoughts and opinions expressed herein are solely those of the author and do not necessarily reflect those of Cointelegraph.

Amber Gaddar is the founder of AllianceBlock, a decentralized global capital marketplace. Amber has gained extensive experience in the capital markets industry over the past decade. She began her career at investment bank Goldman Sachs and then moved to JPMorgan Chase, where she held various positions in the areas of structured solutions, macro trading strategies and fixed income trading. Amber earned a B.Sc. in science and engineering, followed by three M.Sc.’s (in neuroscience, microelectronics and nanotechnology, and international risk management) and a Ph.D. at McGill University and the HEC in Paris.

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