The Future of Wealth Management on Blockchain
Over the last two decades, the value proposition of wealth management has been shifting from access and enablement to partnership and advice. Access to traditional investment packaging, represented by the global asset allocation indexed to market betas, has eroded in value and become commoditized. Waves of technology innovation have automated the packaging and trading of the ETF, the algorithmic trading and rebalancing of the combined portfolio, the alpha derived from tax-loss harvesting alpha, and the performance reporting capabilities of private banks. Today we stand with wealth management neatly wrapped into our phone, trillions of assets ready to pour over into the lowest-price asset management product.
In this context, wealth managers have several axes of differentiation. One is to enhance the human relationship with broader types of advice, moving from the mere investment recommendation to financial planning, tax structuring, as well as the broader category of services and life planning. In this regard, advisors become the financial therapists their clients need to not make behavioral mistakes. Another path is to carve out alpha in investment management. While alternative asset classes like hedge funds, funds of funds, or private equity have powered a narrative for differentiated returns in the past, they are not indexed to the core driver of the human journey through time – innovation and technology.
And so it is time to look at digital and crypto assets, and the operating infrastructure on which they travel. Novelty is a conversation starter, and a way for financial advisors to deliver a fresh perspective to something many retail clients now care about. Retail ownership of crypto native assets like Bitcoin and Ether is now in the double digits, and certain institutions and endowments have taken steps to incorporate correctly packaged and regulated product into their broader asset allocations. The value chain of custody, exchange, settlement, and digital wallet has been built, tested, and is on the brink of broader launch by industry heavy weights like NASDAQ, the Intercontinental Exchange, and Fidelity among others.
Wealth managers are downstream from the capital markets product manufacturers. They require familiar permutations and product structures which plug into familiar technology, investment management, and client reporting platforms. This has shielded the wealth manager from engaging with an asset class that their clients are already exposed to, and thereby have in their portfolios. However, waiting for several more years is simply not an option. Companies like Coinbase boast over 40 million users and over $90 billion in assets under some form of custody or management. Investment software derived from roboadvisors and implemented on public blockchains now hold over $20 billion in cash equivalents and $25 billion in collateralized obligations. Demand is there, if you know how to interact with the emerging world order and discover value for your clients.
Let us separate out two key issues. The first is the crypto asset class itself, and its novel return characteristics, correlated with generational philosophies and technological evolution. The second is the financial infrastructure on which such assets travel – defining what is a stock, a money, or a loan. Unlike traditional systems, which treat ownership of assets as an abstraction with a claim on another party in a value chain (e.g., a CUSIP or a ticker in a custodian system linking to a CSD), blockchain systems implement actual digital property rights in relation to the asset in question. Such rights allow for immediate economic activity, global decentralized markets, third party loan underwriting or margin trading, and access to bespoke interest rate products only accessible on public networks.
Such novel and powerful infrastructure implies major efficiencies and innovations in the function of an investment manager. Alternatives and specialty finance investments, like real estate, private equity, and small business financing, have a path to being managed as smoothly as publicly traded stocks and bonds. Today, powerful software allows for the tokenization of such assets – essentially refactoring paper into fractional, digital alternatives – in an accessible and repeatable manner. Building a self-rebalancing portfolio composed of new investment opportunities with access to emerging secondary markets is the reward of engaging with this ecosystem.
While there has been a narrative about compliance and regulatory oversight in the space over the last several years, the truth is far more nuanced. As in any quickly evolving industry flooded with investment capital, human nature can turn to the dark side. Yet, blockchains provide us with auditable, transparent records of the actual transactions and money flows that have taken place since the inception of the network, while retaining pseudonomy for the user. Many projects have also implemented privacy and permissioning that is consistent with the standards of our industry. All this to say that blockchain based financial infrastructure is likely to create a better regulated, more compliant financial sector than what was possible before.
Wealth management is about helping people live their best financial lives and achieve positive personal outcomes. Digital assets and decentralized finance are pulling millions of users into a new type of financial experience, one which leaves behind much of the middleware and inefficiency of the 20th century. The enterprising financial advisor will engage deeply with the promise of the future, while staying grounded in the timeless principles of prudent money management and diversification. Nothing ventured, nothing gained!
ConsenSys has developed the ConsenSys Codefi product suite to help wealth managers, family offices, and private banks access the innovation happening in blockchain-based finance and digital assets. Codefi is a short-hand for commerce and decentralized finance, and is intended to make it easier for advisors to explore, experiment, and integrate emerging asset classes. The suite is modular and covers functionality from the issuance and distribution of digital assets, to software for trading in emerging digital markets, to compliance and KYC requirements, and data, risk, and analytics overlays.
Wealth managers may be interested in helping their clients own (1) crypto-native assets, like Bitcoin and Ether, or (2) alternative securities that have been structured into a tokenized form. A token is a digital representation of what could be any asset class, from traditional equities and fixed income, to private equity, real estate, and specialty finance. An increasing number of asset managers and primary issuers are using tokenization on Ethereum to streamline asset and stakeholder management, reduce costs of data reconciliation, stand up modern market infrastructure, and connect to a global group of traders and investors. Wealth managers looking for new clients and bespoke investment opportunities can work with these counterparties for the benefit of their clients through our software products.
Read the full wealth management report by The Wealth Mosaic here.