Coinbase is attempting to woo institutional investors and may be heading towards a rumored $8 billion initial public offering. Meanwhile, financial giant ICE recently launched Bakkt to provide its institutional clients a regulated on-ramp to crypto.
CoinIQ’s deep dive looks at the looming battle of Coinbase vs. Bakkt to see which side will ride a new wave of crypto investments.
Coinbase: Making Crypto Legit
Pioneering retail exchange
Back in 2012, the crypto community was much more focused on bitcoin’s potential to replace fiat. The establishment had caused the 2007 financial collapse. Instead of going to jail, they received bailouts and golden parachutes. Normal people, lost their houses and their jobs. Cryptocurrency promised to make the financial establishment redundant. Working with the establishment was not an option.
Coinbase’s founders took a different approach after launching their bitcoin trading platform. Within months, America’s anti-money laundering agency, the Financial Crimes Enforcement Network (FinCEN), told bitcoin exchanges that they should register as money transmitters. In a 2016 interview with Fortune, Coinbase president Fred Ehrsam recalled their lawyer’s advice on registering with FinCEN: “avoid it for the time being.”
Rather than follow that advice, Coinbase spent the millions of dollars needed to make the exchange compliant with federal and state money transmitter regulations.
This willingness to play ball served Coinbase well. New entrants to the crypto world felt more comfortable doing business with a company that played by the rules. For the same reason, Coinbase earned the first large investments from venture capital funds.
Today, Coinbase is the largest crypto exchange in the United States. Its 20 million users have conducted trades worth more than $150 billion. Investors have poured more than $217 million to fund Coinbase’s growth. As a rumored initial public offering approaches, Coinbase has been valued at more than $8 billion.
Reorganizing for institutional investors
One of the reasons for Coinbase’s positive outlook is its new focus on institutional investors. The company’s traditional exchanges have been rebranded to distinguish between different kinds of investors.
Coinbase.com is the platform for casual crypto users. It provides quick trades at reasonable rates. Coinbase Pro focuses on more sophisticated individual investors. With more advanced trading tools and fast execution, Coinbase Pro lets people day trade their way to crypto riches. A new group called Coinbase Institutional develops the products and services needed to bring established financial firms into the crypto world.
Adam White was until recently Coinbase’s general manager. While still with the company in mid-2018, White spoke about Coinbase’s institutional strategy on the Unconfirmed podcast with Laura Shin.
“I think what we’re going to see the institutional space [first move] into the investment phase very similar to what we saw in retail. This market has been retail driven the past eight years,” White explained. “The industry has been focused on the investment phase — how do we create the ability for people to easily buy, sell and store a bit of cryptocurrency.”
Coinbase’s new institutional group consists of several services designed to meet institutional customers’ demanding expectations. An institutionally-focused exchange supports high-volume, low-latency trading. A qualified custodial service holds institutions’ fiat and crypto assets. And a dedicated team helps institutions integrate crypto trading into their businesses. White explained that the group engages “with stakeholders in the institutional space, notably investors like hedge funds, crypto hedge funds, asset managers but also others like regulators.”
Going for regulation
Coinbase’s recent acquisitions of small firms in the traditional financial industry will expand the company’s regulatory status. Government-issued licenses will let Coinbase provide services as a regulated broker-dealer, an alternative trading system, and as a registered investment advisor.
“We’re going to have a broker-dealer license,” White told Shin. “That allows us as an introducing broker to onboard customers to… access security tokens and, as an alternative trading system, actually have a FINRA and SEC regulated securities exchange so our customers can trade these assets knowing we have the safe and clear governance of regulators behind that.”
Coinbase has positioned itself to institutional investors as the crypto-oriented company that will help them enter the crypto-space. “Institutions require the right suite of institutional products,” White explained. “So you have to have the table stakes level of products and that’s things like a qualified custodian so they know their assets are safely stored.”
“We don’t think the space has that in spades yet so that’s why we’re really focused on a commitment and an investment to help bring it there.”
Not the only fish in the sea
New York-based Circle Financial is slowly turning itself into a full-featured crypto financial company. At its founding in 2013, Circle offered a single service, Circle Pay which lets friends pay each other for dinner or send remittances around the world.
The company quickly added two other crypto trading services. Circle Trade is an over-the-counter (OTC) trading desk that lets large investors buy, sell and exchange crypto quickly. Circle Invest is a mobile wallet that lets individual investors buy crypto.
The early 2018 acquisition of struggling crypto exchange Poloniex finally began to close the loop. Although once popular among early crypto adopters, last year’s influx of new crypto investors swamped Polo’s internal systems. Circle repaired the damage and turned the company around. Over the past few months, Polo has begun expanding with new coin listings and mobile apps.
Another acquisition just announced in early October brings the SEC-registered equity crowdfunding company SeedInvest into Circle’s control. The acquisition marks a milestone towards Circle’s goal of launching a marketplace for security tokens.
Circle has also introduced a dollar-backed stablecoin, the USDC. Many in the industry see Circle’s stablecoin as a direct attack on Tether, Bitfinex’s rumor-plagued stablecoin.
Founded by technology entrepreneurs Tyler and Cameron Winklevoss, Gemini Exchange launched as a crypto exchange for institutional investors. Seeking the credibility that many crypto exchanges lack, Gemini was among the first crypto firms to make it through New York’s BitLicense process. The arduous licensing regime requires strict compliance with the state’s know-your-customer and anti-money-laundering regulations.
As a registered trust, Gemini Exchange is a fiduciary and can offer custodial services — both fiat and crypto — to institutional investors.
Bakkt: The Establishment’s Disruptor
At first glance, Bakkt looks like any other crypto startup, from its cleverly misspelled name to its sparsely-worded website. However, Bakkt’s high-powered owner is Intercontinental Exchange (ICE), the most established company in the financial establishment. The fact that ICE has made a crypto play sent shivers of joy through much of the crypto community.
ICE flows into the blockchain
ICE is a significant player in the financial industry. It’s a holding company for a number of global equity and commodity exchanges. The most prominent of these is the New York Stock Exchange.
In addition to owning several large financial services, ICE also owns some of the world’s largest clearinghouses. Clearinghouses handles the processing of certain transactions like large stock and commodity trades.
Given its position in the fiat economy, ICE’s decision to launch a crypto company came as welcome news. The crypto community had received a steady drumbeat of bad news as prices fell from their 2017 peaks and regulators continued to reject bitcoin ETFs. In the eyes of crypto optimists, a financial powerhouse like ICE could be the bridge needed to unleash institutional investments in crypto.
Bakkt’s platform for institutions
Bakkt will become a platform for ICE’s institutional investors. Just as ICE is part of America’s financial infrastructure, Bakkt will be part of America’s crypto infrastructure.
The first product built on the Bakkt platform will be the physically-delivered Bakkt Bitcoin USD Daily Futures contract. The term “physically” caused some confusion in crypto circles. It simply means that when a contract closes, the seller will transfer a bitcoin to the buyer.
Although left rather vague, the press release promoted Starbuck’s participation in the project. Presumably, Starbucks will let people use its app to buy their salted caramel mocha frappuccinos with bitcoin. Behind the scenes, integration with Bakkt and its futures contract will let Starbucks hedge against bitcoin price volatility.
Other leviathans in the water
Leaders in the financial industry are not always anxious to embrace crypto and the blockchain publicly. However, the major financial institutions are working in the space– some more publicly than others. On the other hand, the financial establishment may not need the upstarts if they can create their own blockchain-based financial infrastructure.
Citigroup is one of America’s largest financial services firms and its third-largest bank. The company’s innovation lab, Citi Ventures, spearheads many of the bank’s explorations into blockchain applications.
In 2017, Citigroup and Nasdaq used blockchain technology to link the bank’s global payment systems with the exchange’s capital markets. Nasdaq CEO Adena Friedman explained that with the connection, “we can realize greater operational transparency and ease of reconciliation.”
Citigroup recently joined a pilot project developed by IBM and the foreign exchange settlement company CLS. LedgerConnect is a proof-of-concept platform for blockchain-based financial services. The project will identify issues integrating blockchain services with the technical and security requirements of major financial institutions like Citigroup.
Business Insider reported in September that Citi plans to launch a cryptocurrency-based digital asset receipt. As unnamed people familiar with the matter explained it, the financial instrument will be based on deposits of cryptocurrencies held by a custodian. Citigroup will issue the receipt which can then be traded on secondary markets. Institutional investors won’t have to own crypto directly, but will still be able to trade on its value in a regulated environment.
Fidelity Investments operates a number of financial services including one of America’s largest retail brokerages. Since 2014, the company has explored ways to integrate crypto and the blockchain into its services.
Fidelity’s real estate insurance arm, Fidelity National Title, announced a partnership with Building Blocks REIT. The real estate investment trust uses blockchain technology to hold records of the multi-family and commercial properties it owns, including any policies written by Fidelity.
Last year, Fidelity joined the Initiative for CryptoCurrencies & Contracts, an academic research and development effort. Fidelity’s involvement will focus on blockchain applications that will support the financial industry.
J.P. Morgan Chase
J.P. Morgan is one of the few traditional financial institutions to address blockchain technology on its website. The company’s Blockchain Center of Excellence, led by Christine Moy, spearheads implementation of blockchain-based approaches within the financial giant.
One of its projects, Quorum, is an enterprise-centric fork of Ethereum that delivers high-speed, high-throughput transactions while providing a level of privacy that the Ethereum blockchain does not have.
In April, J.P. Morgan and the National Bank of Canada used a Quorum-based app to test the issuance of a $150 million debt instrument. According to Moy, “This is an exciting example of how J.P. Morgan leveraged our combined capabilities in capital markets and blockchain technology, delivering results to a diverse set of clients.”
A month later, Moy demonstrated another Quorum prototype application at the Consensus 2018 conference. Called Dromaius, the app streamlines the process of issuing a financial instrument on capital markets.
The first full-scale rollout of a Quorum-based app actually happened last year. The Interbank Information Network (IIN) is a blockchain-based platform for speeding international payment. Although it isn’t transferring the actual funds, IIN handles the compliance and other communications needed to move vast sums around the world. J.P. Morgan’s head of global payments Emma Loftus explained that “IIN will enhance the client experience, decreasing the amount of time – from weeks to hours – and costs associated with resolving payment delays.” J.P. Morgan, the Royal Bank of Canada and the Australia and New Zealand Banking Group were the first to join the network.
CBOE Global Markets
CBOE Global Markets (CBOE) is a financial industry giant that, like ICE, most people outside the industry don’t know. In fact, it is one of the world’s largest owners of securities, commodities and foreign currency exchanges in the world. Its most recognizable brand is the Chicago Mercantile Exchange.
CBOE was the first establishment institution to introduce a bitcoin futures contract. Unlike Bakkt’s physically-delivered product, the XBT-Cboe Futures Contract is cash-settled based on an index price provided by the Gemini Exchange.
CBOE is also trying to get approval from the SEC for a bitcoin-based exchange-traded fund. Of the various bitcoin ETF proposals under SEC review, CoinDesk reported that the CBOE’s proposal had the best chance of success — although the odds are still low.
Coinbase Vs. Bakkt: Who Has The Edge?
The traditional financial industry will adopt crypto. There are too many benefits — and profits — for Wall Street to ignore crypto for much longer. But these organizations move slowly for a reason. They have obligations to their large, institutional customers and responsibilities to regulators. A startup just doesn’t have the systems, experience and culture to handle institutional requirements.
Two sides hope to ride this new wave of crypto investment. The crypto-centric companies led by Coinbase are more nimble and have a deeper understanding of blockchain technology. They must add the regulatory-compliant systems that institutional investors expect.
Those systems are known quantities, but working in the institutional space is also about relationships and reputations. The image of hoodie-wearing founders more comfortable with tech than people may be a stereotype, but the startup culture doesn’t necessarily translate to Wall Street boardrooms or the offices of Washington regulators.
This is the strength that companies like ICE’s Bakkt bring to the table. Bakkt may be based on new tech, but it shares the culture and heritage of the financial establishment. ICE’s executives understand the concerns and requirements of its customers and regulators. The company also has the deep pockets needed to go head-to-head with a VC-backed unicorn like Coinbase.
In the end, it isn’t really a battle of Coinbase vs. Bakkt — they both want the same thing. Over the next ten years, the financial establishment will become more crypto and the crypto upstarts will become more established. As cryptocurrencies become just another part of the global financial system, the two sides will become indistinguishable.