Biting the bitcoin bullet

Written by: Richard Willsher Posted: 11/03/2021

BL72_bitcoin illo2Could the revelation that Tesla has invested a slice of its cash pile in bitcoin herald a new stage in the growth of cryptocurrency investment?

In early February, Tesla announced that it had bought $1.5bn of bitcoin out of its cash reserves. Businesses typically invest their treasury surpluses in short-term, low-risk assets, such as government bonds. They rarely put them in ‘unknown quantities’ or high-risk investments. So, what does Tesla’s move signal about the future of bitcoin – and does it mask continued uncertainty surrounding much-debated cryptocurrencies?

Some see the move as nothing more than Tesla founder – and one of the world’s richest men – Elon Musk flexing his support for digital currencies. 

However, many investors, including corporate treasurers, are frustrated by the low returns available on their cash and are searching for greater returns, even if they come with greater risks. 

To some, bitcoin presents a much-needed potential upside. Meanwhile, a large influx of cash can move a market, especially when it is comes from a high-profile player such as the world’s most valuable carmaker. 

So, to many, Tesla’s move is viewed simply as a conscious market manipulation play – it resulted in the price of bitcoin and Tesla’s share price taking upward leaps.

Gathering pace and credibility

Bitcoin is certainly riding high at present. In its daily email briefing on 5 January 2021, The Economist noted: “With every bitcoin worth about $32,000, its total market capitalisation is now greater than the monetary base of Canada.”

The previous day, research from Dublin-based group CryptoParrot commented on the recent bull run in the digital currency: “Bitcoin’s 30-day average daily trading volume stands at $39.1bn, which is more than the top five US companies, with $37.68bn in 30-day average daily trading volume.” 

By 9 February, just a month later, the price of bitcoin had risen to $45,834.

Bitcoin is the poster child of cryptocurrencies. But there are plenty of others. The second most popular is ether, built on the Ethereum platform. Meanwhile, a number of corporates, including Facebook and JP Morgan, have made moves towards issuing their own private cryptos – while all of the world’s leading central banks are considering issuing digital currencies linked to their native or ‘fiat’ currencies.

Given those moves, and the scale of the businesses and organisations behind them, it’s clear that digital currencies, built on blockchain technologies, are here to stay and are growing in popularity. 

Their appeal is the ability to act as mediums of exchange that are truly international, quick to transfer and which avoid the frictional costs and bureaucracy of using the conventional banking system.

They also offer, as the Tesla move indicates, a potential investment asset. And, linked to this, they can act as ‘safe havens’ when other assets and currencies may be losing value or their future looks uncertain due to political or economic impacts.

Are cryptocurrencies safe? 

Bitcoin in particular has been berated by sections of the established financial services industry, as well as by central banks and regulators, for being highly volatile. Some have gone so far as to label it a scam. 

JP Morgan Chief Executive Jamie Dimon famously labelled bitcoin a “fraud”, although he later said he regretted using the term. 

Supporters counter that it’s no more volatile or open to abuse than the conventional markets. They point to the Wirecard scandal in Germany, where the payments firm collapsed with billions missing from its accounts, and the events surrounding US retail share trading platform Robinhood and Gamestop, which recently saw investor action disrupt the stability of the market. 

Those supporters also point to a steady evolution and tightening of the security of the crypto system over recent years as a sign that it is maturing fast. 

John Hunter, Business Development Director at the Guernsey office of wealth and fund solutions business Zedra, explains why that’s important. 

“Clients are all seeking reassurance in terms of the safety aspect and the security around bitcoin or alternative coins that are in circulation today. 

“We’ve seen an extraordinary amount of security come to the fore to protect the theft of bitcoin and other cryptocurrencies. In 2020, only 0.002% was stolen which, compared with just under 5% back in 2014, is quite a shift. 

“A number of companies are now working on this – creating compliance tools that can track bitcoin anywhere on the web, including the dark web, through blockchain technologies.”

Hunter adds that such security developments have given greater confidence to investors concerned by the risk and volatility associated with cryptocurrencies and the technology behind them. 

Asked whether cryptocurrencies are an attractive investment, Steve Nelson, a Partner in the Cayman Islands practice of Bedell Cristin, says: “From the point of view of most of our hedge and private fund clients, the answer is a resolute yes. 

“But [that’s] not simply in the long-only view, as the trading volatility and burgeoning mainstream acceptance of crypto are seen as tremendous opportunities for extraction of value using alternative methods – arbitrage, repo loans, and quant trading.” 

BL72_bitcoin illo1Appetite on the islands

The role of bitcoin as a unit of exchange is what made it attractive to Tesla. The company has even mooted the idea of selling cars to clients for payment in digital currency.

Moreover, if it can pay its suppliers in the same currency, a natural exchange rate hedge is possible as it would not be necessary to exchange into the dollar or another fiat currency either side of its business. 

But while acting as a currency is one function of cryptocurrencies, it is not the main attraction for investors, according to Luke Sayer, Senior Associate in the Guernsey office of Carey Olsen. 

“It appeared that bitcoin was previously considered by the majority of the population as a means of exchange,” he says. “I think there’s been a shift in that public opinion, and the majority now see it as a store of value. 

“One of the reasons we might have seen the considerable rise in bitcoin’s popularity is that people are using it to hedge against inflation against a background of declines in other financial assets, such as stocks, bonds and the US dollar. In many ways, that’s bitcoin living up to its nickname, ‘gold 2.0’.”

Sayer continues: “This is an important point, because in bitcoin’s relatively short history there’s been low correlation with stocks and bonds, and it allows people to diversify to a greater extent. 

“So, where previously people may have been shifting into gold in volatile times, I don’t think gold has actually pushed on as much as the traditional markets might have expected. Bitcoin has probably appealed to that pool of people.”

Carey Olsen’s Channel Islands offices have seen a number of instructions from crypto investors and service providers, helping with structuring holding vehicles and establishing custody arrangements for crypto investments. Indeed, crypto is often viewed by investors as another alternative asset to sit within their portfolio of alternatives, Sayer adds.

“There is demand from clients or businesses to utilise the Channel Islands because of its well-regulated environment,” he says. “We are seeing more and more instructions. 

“The important thing is that both Guernsey and Jersey have flexible regulators. While at the forefront of their minds is always protecting the reputation of the bailiwick, and protecting the underlying investors, they also remain open to innovative ideas. 

“Crypto is not something that’s going to go away, so it makes sense to allow both jurisdictions to have exposure to this, provided it’s tightly regulated and appropriately managed.” 

The question of risk versus reward still lingers. Zedra’s John Hunter is pragmatic. “The more mainstream it becomes and the more it attracts different types of users and adopters, and the more day-to-day usage it acquires, the more comfortable people become with it. 

“But it depends on your short-term, medium-term or long-term view of risk in terms of how you invest and how much you invest. 

“At present, most investors allocate only a small portion of their portfolio to it. And it’s definitely a case of caveat emptor: make sure you’ve done your homework. Don’t invest more than you can afford to lose.”

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