Banks and Crypto-Adjacent Risks
TradFi bankers have not had to worry about the crypto world too much. Yes, it has been entertaining – for both and good and bad reasons – but the volatile and nascent world of digital asset markets has seemed several steps away since inception. At Agio Ratings, we think that has changed. Like it or not, banks are already exposed to crypto-adjacent risks. Now they need to figure out how to manage them.
TradFi Hesitation
When it comes to crypto, the surface area for ‘no’ at a TradFi institution is broad. It starts with a regulatory environment that is confusing and cloudy. What GC’s office is going to give the nod to engaging with an asset class where its very definition is still up for grabs? Expansion into crypto trading may also require board level approval and engagement. Leadership may see the profit potential in crypto, but without a clean GC opinion and general comfort with the asset class, no one is likely to stick their neck out too far. Even if those hurdles were cleared, there is a further challenge in the form of high capital charges for a set of risks that most of TradFi thinks are non-modelable. So who needs it?
…But Clients Want it
The client needs it. The market cap of the crypto universe is around $2.5 trillion, with about half that accounted for by bitcoin alone. The attraction of crypto to TradFi clients is multifaceted. Having access to liquid, tradable coins – many of which are basically synthetic USD’s – is a no-brainer in emerging markets. For those in developed markets, the appeal may be diversification or the chance that crypto really takes off down the road. Given the recent volatility in rates and FX – look no farther than JPY – allocators in the world’s biggest economies know that avoiding crypto does not equal avoiding risk. Political events in some OECD countries also hint at momentous fiscal and monetary change possibly around the corner. It’s not just individuals who have taken notice – corporate treasuries are in on the act as well. Websites like Bitcoin Treasuries track the growing trend.
The most recent game-changer was the SEC’s January approval of spot bitcoin ETFs. The market cap of the largest such fund – Blackrock’s iShares Bitcoin Trust (IBIT) – jumped from nothing to more than $20 billion in six months. These buyers do not want to go through the rigmarole of thumb drives, multi-sig passwords, etc. They just want exposure to the asset class in a readily tradeable form in a structure they know and trust.
These holders almost certainly engage with TradFi for the vast majority of their financial needs and so guess where they will turn for services backed not just by their usual bundle of assets but also by their new digital assets.
The Inevitable Integration
In this environment, traditional financial institutions find themselves crowded into the crypto world by client demand. Even institutions that completely avoid crypto trading will inevitably be exposed to digital asset, because their clients are exposed to digital assets.
Clients want to stick with the tried and true, and so they will expect the full suite of TradFi services from their long standing relationship banks. This includes lending, custody, valuation, tax reporting, and advisory services. When financing clients, bankers now need to have a view on the value of their digital asset holdings, which also requires an understanding of where and how these assets are held.
Ignoring this asset class risks alienating long-standing customers and driving them to competitors. There is certainly a cost to sourcing new banking relationships, but if current providers are unable to meet their needs and expectations, clients will move. Similarly, client onboarding will increasingly require management to assess digital asset exposures. TradFi institutions that implement the right systems, leverage third-party data sources, and adopt effective approaches will delight their customers.
Agio Ratings' Support
At Agio Ratings, our team of TradFi alumni, traders, and data scientists is dedicated to bringing rigor and independent analysis to the high cadence digital asset marketplace. We have developed statistically driven tools whose outputs analyze credit risk in ways that fit TradFi institutional needs. Agio believes that risks many TradFi’ers thought were non-modellable can actually be quantified. We are already speaking with a range of key players in global finance.
Crypto-adjacent risks are live and present. Agio Ratings has solutions to help grapple with them.
In future posts, we will explore how financial institutions can distinguish between compliance and customer protection, two distinct issues that require different solutions. Agio Ratings is also applying analytical rigor to risks that most TradFi and crypto-native firms may consider non-modelable, potentially reducing the high capital charges associated with this asset class.
