It’s no secret 2020 was a big year for the institutional digital assets market. When rounding the corner into 2021, there were questions on whether the momentum was sustainable. The activity we’ve seen at Genesis this year has already shown us that it’s safe to put those questions to rest for now.
With significant industry developments like Coinbase’s direct listing, to the way we saw digital assets remain resilient amid both the GameStop and Archegos storylines, the past few months have marked a seismic shift in how crypto is viewed as an asset class and a valuable source of yield.
Genesis is one of the world’s premier institutional digital asset financial services firms, which means we have a unique vantage point on the industry with business lines spanning spot trading, derivatives trading, lending, custody, treasury and prime brokerage services. Below are three key themes that will likely continue to drive the digital asset market well into 2022.
A “Cambrian Explosion” for Institutional Interest in Crypto
If 2020 marked the beginning of the institutional epoch in crypto, the first quarter of 2021 was a Cambrian explosion of institutional investment themes and capital inflows into crypto assets of all stripes. We’ve recently witnessed many marquee traditional financial services firms, including Goldman Sachs, Morgan Stanley and BNY Mellon, revive crypto trading efforts that had been shelved since the 2017 ICO bubble popped.
We felt the effects of this institutional growth directly. Prior to 2021, hedge funds and passive funds were some of our largest clients by OTC volume. When viewing our top 100 largest clients by OTC volume traded in Q1 2021, Genesis saw volume from “corporates” increase to more than 25 per cent of our total activity. Much of this surge was attributable to a mix of clients taking positions in Bitcoin for the first time, existing clients adding to their positions, and clients choosing to take a more active approach to manage their exposure.
The entrance of companies like Tesla, MicroStrategy and Square has led to a wave of interest from corporates looking to uplevel their own treasury allocation efforts.
As digital assets are increasingly recognized as a store of value and hedge against inflation, we expect institutional interest to grow, particularly from forward-looking corporate treasurers who decide to allocate a portion of their balance sheets to cryptocurrencies.
Higher Frequency of Trades Drove Growth in the Derivatives Market
In Q1 2021, the Genesis derivatives desk saw 133 per cent quarter-on-quarter growth across bilateral OTC and negotiated derivative blocks to reach $10.5B in notional traded.
Although we grew our counterparty base by 21 per cent over the quarter, our most significant drivers of growth were higher frequencies of trades and increased notional per trade from our crypto-native hedge fund client base. These clients were early adopters of our platform and were well-positioned to take advantage of the OTC liquidity we provided to take short-term, tactical bets in option format.
Some major thematic categories of our flow this year are:
- HNW individuals and systematic yield funds taking advantage of higher implied vols and the spot rally to lighten up on length via call overwriting.
- Recycling risk in medium- to long-dated calls between overwriters and counterparties looking to add length in a levered but limited loss format.
- Corporate accounts and venture books using puts to hedge their business risk or illiquid portfolio risk.
- Selective hedging of impermanent loss via short-dated gamma portfolios.
DeFi Drove Growth In Ethereum And Alt Coins
As Bitcoin’s dominance slumped in Q1 2021, market euphoria expressed itself dramatically through the upward performance of altcoins (including DeFi governance tokens). We expect to see this increased interest in Ethereum and altcoins continue.
There are several major reasons for this:.
- DeFi became a phenomenon in the digital asset community. The market saw a swell of more user-friendly products, partly created to address complaints that DeFi has been largely inaccessible to regular retail investors and traders. At the same time, celebrity investors became vocal proponents of DeFi protocols. Additionally, the controversy around GME and Robinhood served as a call-to-action for many traders who viewed the episode as an indictment of centralized trading platforms, compelling them to explore DeFi as an alternative.
- The institutional adoption of Ethereum became a major theme on the back of DeFi’s growth. As additional asset vehicles like the Ethereum ETFs in Canada and the CME ETH futures emerged, diversifying crypto allocations in ETH became much easier.
- While Ethereum was in the spotlight, challengers to its claim on being the DeFi base layer started to arrive on the scene, and those challengers benefited from a migration of dev talent and users as gas costs on Ethereum climbed higher.
So – has the market been able to continue the momentum we saw in 2020? In Q1 of this year, Genesis facilitated over $60 billion in trades, loans and transactions. As the largest institutional digital asset lender, our loan book grew to over $9B in active loans outstanding. This type of institutional activity leads us to believe digital assets are here to stay.
