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Why Institutional Allocation to Crypto Is Rising

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The cryptocurrency market has experienced a remarkable recovery in 2023, after a prolonged bear market that lasted for most of 2022. The total market capitalization of all cryptocurrencies has increased by 34%, from $798.69 billion at the beginning of the year to $1.07 trillion as of October 10, 2023. Bitcoin, the leading cryptocurrency by market share, has surged by 74% since its yearly low of $15,883 in November 2022, reaching over $27,669.84 as of October 10, 2023.

This impressive performance has attracted the attention of institutional investors, who have been increasing their exposure to crypto assets in 2023. According to a survey by Binance Research, 35.6% of institutional investors increased their crypto allocation over the past year, while 47.1% maintained their allocation. Moreover, 50% of institutional investors expect to increase their allocation in the next 12 months, while only 4.3% expect to reduce it.

But what are the main drivers behind this growing institutional interest in crypto? I will explore some of the key factors that are fueling the institutional allocation to crypto in 2023, and why this trend is likely to continue in 2024 and beyond.

The Bitcoin Halving Event

One of the most anticipated events in the crypto space is the Bitcoin halving, which occurs every four years and reduces the supply of new bitcoins by 50%. The next Bitcoin halving is expected to take place in May 2024, when the block reward for miners will drop from 6.25 bitcoins to 3.125 bitcoins per block. This will reduce the annual inflation rate of Bitcoin from around 1.74% to around 1.1%, making it one of the scarcest assets in the world.

Historically, the Bitcoin halving has been a catalyst for a new bull market cycle, as it creates a supply shock that increases the demand for Bitcoin. According to the CoinMarketCap Bitcoin halving calculator, Bitcoin has reached a new all-time high (ATH) roughly a year after each halving event. For instance, after the first halving in November 2012, Bitcoin reached its ATH of $1,163 in November 2013. Similarly, after the second halving in July 2016, Bitcoin reached its ATH of $19,783 in December 2017. And after the third halving in May 2020, Bitcoin reached its ATH of $68,789 in April 2021.

Based on this historical pattern, many analysts and investors expect that the next Bitcoin halving in 2024 will trigger a new bull market that will push Bitcoin to new heights. For example, according to the stock-to-flow (S2F) model, which quantifies the scarcity of Bitcoin by comparing its existing supply to its new production, Bitcoin could reach a price of $288,000 by 2024. Similarly, according to a recent research by Delphi Digital, Bitcoin could achieve a new price high by Q4 2024, based on its four-year cycle theory.

Interest Rate Cuts by the Fed

Another factor that could boost the institutional allocation to crypto is the monetary policy of the Federal Reserve, which has a significant impact on the global financial markets. In 2023, the Fed has been facing a dilemma between fighting inflation and supporting economic growth, as the US economy has been recovering from the effects of the COVID-19 pandemic. Inflation has been rising above the Fed’s target of 2%, reaching 5.4% in September 2023, the highest level since 2008. However, the Fed has been reluctant to raise interest rates, which are the main tool to curb inflation, as it could jeopardize the economic recovery and the labor market.

Instead, the Fed has been signaling that it will start tapering its quantitative easing (QE) program, which involves buying $120 billion worth of Treasury bonds and mortgage-backed securities per month, by the end of 2023. This would reduce the amount of liquidity and stimulus that the Fed injects into the economy, and could have a negative effect on the stock market and other risk assets, as it would increase the cost of borrowing and reduce the demand for credit.

However, some analysts and investors believe that the Fed will not be able to taper its QE program as fast as it intends, and that it will have to cut interest rates again in 2024, as the economic recovery slows down and the inflationary pressures subside. This scenario would be bullish for crypto assets, as it would increase the demand for alternative and scarce assets that can hedge against inflation and currency devaluation, such as Bitcoin and other cryptocurrencies. Moreover, it would lower the opportunity cost of holding crypto assets, as the returns on traditional assets, such as bonds and cash, would be lower or negative.

Potential Launch of Spot Bitcoin ETFs

Another factor that could increase the institutional allocation to crypto is the potential launch of spot Bitcoin exchange-traded funds (ETFs) in the US, which are investment products that track the price of Bitcoin and trade on regulated stock exchanges. Spot Bitcoin ETFs would provide a convenient and cost-effective way for institutional investors to gain exposure to Bitcoin, without having to deal with the technical and regulatory challenges of buying and storing Bitcoin directly, such as setting up a wallet, choosing a custodian, and complying with anti-money laundering (AML) and know-your-customer (KYC) rules.

Spot Bitcoin ETFs have been long-awaited by the crypto industry, as they could bring a surge of fresh capital and liquidity into the market, and increase the adoption and legitimacy of Bitcoin among mainstream investors. However, the US Securities and Exchange Commission (SEC) has been reluctant to approve any spot Bitcoin ETF proposals, citing concerns over market manipulation, fraud, and lack of regulation in the crypto space.

In 2023, several spot Bitcoin ETF applications have been filed with the SEC, but none of them have been approved yet. However, some analysts and investors are optimistic that the SEC will finally approve a spot Bitcoin ETF in 2024, as the crypto market matures and the regulatory environment improves. For instance, the SEC has recently approved several Bitcoin futures ETFs, which are investment products that track the price of Bitcoin futures contracts, rather than the spot price of Bitcoin. This could be seen as a positive sign that the SEC is warming up to the idea of crypto ETFs, and that it could pave the way for spot Bitcoin ETFs in the near future.

US Elections

The midterm elections will determine the balance of power in the US Congress, which consists of the House of Representatives and the Senate, and which has the authority to pass laws and regulations that affect the crypto industry. According to the latest polls, the Republicans have a slight edge over the Democrats in both chambers, which could result in a divided government for the remaining two years of Biden’s term. This could have significant implications for the crypto industry, as the Republicans and the Democrats have different views and approaches on crypto regulation.

Generally speaking, the Republicans tend to favor a more laissez-faire and innovation-friendly attitude towards crypto, while the Democrats tend to favor a more interventionist and consumer-protective stance. For instance, Republican Senator Pat Toomey, who is the ranking member of the Senate Banking Committee, has been vocal in supporting the crypto industry and urging the regulators to provide more clarity and guidance. He has also co-sponsored several bills that aim to foster crypto innovation and adoption, such as the Eliminate Barriers to Innovation Act and the Securities Clarity Act. On the other hand, Democratic Senator Elizabeth Warren, who is also a member of the Senate Banking Committee, has been critical of the crypto industry and calling for more regulation and oversight. She has also questioned the environmental and social impact of crypto, as well as its role in facilitating crime and tax evasion.

Therefore, the outcome of the midterm elections could have a significant impact on the legislative and regulatory environment for crypto in the US. If the Republicans gain control of both chambers, they could push for more pro-crypto bills and policies that would create a more favorable and predictable climate for the crypto industry and investors. This could encourage more institutional allocation to crypto, as the perceived risks and uncertainties would be reduced. However, if the Democrats retain control of both chambers, they could pursue more anti-crypto bills and policies that would impose more restrictions and requirements on the crypto industry and investors. This could discourage more institutional allocation to crypto, as the perceived costs and challenges would be increased. Alternatively, if there is a split control of the chambers, there could be a stalemate or a compromise on crypto regulation, depending on the level of bipartisanship and cooperation between the parties. This could create a mixed and uncertain scenario for the crypto industry and investors, which could have a neutral or a moderate effect on the institutional allocation to crypto.

In Conclusion

The institutional allocation to crypto is rising due to a combination of factors that make crypto assets more attractive and viable for institutional investors. These factors include the upcoming Bitcoin halving event, which will reduce the supply and increase the demand of bitcoins, the outcome of the US midterm elections, which will shape the legislative and regulatory environment for crypto in the US, and the overall improvement of the crypto market conditions, such as the increased liquidity, volatility, and innovation. However, there are also some challenges and risks that could hinder the institutional allocation to crypto, such as the lack of clear and consistent regulation, the high technical and operational complexity, and the potential cyberattacks and frauds. Therefore, institutional investors should carefully weigh the pros and cons of crypto assets and conduct thorough due diligence before investing in them. Crypto assets are not for the faint-hearted, but for those who are willing to embrace the uncertainty and opportunity of the new digital frontier.

Anndy Lian is the chief digital advisor for the Mongolian Productivity Organisation, a partner and fund manager overseeing blockchain investments for Passion Venture Capital Pte. Ltd. He is the author of the best-selling book, “Blockchain Revolution 2030” published by Kyobo, the largest bookstore chain in South Korea. He was previously the chairman of BigONE Exchange and an Advisory Board Member of Hyundai DAC.