US Leadership Wakes Up – America is Joining the Digital Finance Race
US LEADERSHIP WAKES UP
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AMERICA IS JOINING THE DIGITAL FINANCE RACE
It has been just two weeks since our last newsletter to you, but in that short period of time, the biggest headwind for the global adoption of digital monies, commodities, and assets has turned into a very powerful tailwind.
The US leadership in Washington just woke up, and took action to bring America into the global race to see who can drive the innovation of the financial system to the benefit of us all.
This in turn implies powerful consequences for our investment strategies, funds, and ultimately performance. Everything just got quite a bit brighter for reasons we will explain in this week’s newsletter.
Read on to learn:
How the rest of the world is running fast towards a digital financial future
How and why US leadership in Washington just entered the race
What led to this turnaround
Why we think this greatly raises the prospects for our investment strategies and funds
Each is discussed in turn.
The World is Running Fast Towards Digital Finance
On May 15th we published the mid-year edition of our biannual Digital Asset Regulation Report, which tracks the state of progress among the world's top 25 financial centers – and the results were surprising.
The world's financial capitals and their national leaders, almost without exception, recognize very clearly as we do that cities which enable digital monies, commodities, and assets will be global financial centers of the future.
As a result of bold pro-innovation mindsets and legislation in the 80s, 90s, and 00s, the US captured upwards of 90% of the value creation of the early internet, making it a global financial and technological powerhouse for more than 30 years.
The race is now afoot for control of the next global wave of innovation and value creation that will result from the digitalization of commerce and finance. If the digitalization of communications and content are a good indicator, it will be the greatest value creation event in history – resulting in superior returns for disciplined and diversified early stage investors. Unsurprisingly, many geographies around the world are vying to host the Silicon Valley of tomorrow via digital asset enablement.
Please listen to the webinar that our Head of Digital Asset Research, Topher Nelson, recorded on this topic at the release of our biannual Digital Asset Regulation Report to learn more.
A Landmark Week for US Digital Asset Policy Signals a Sea Change
To date the US has been losing this race.
As an example, European regulators have worked for several years to engage with the blockchain and financial industry to develop workable regulations and guidance for digital asset enterprises and the results are clear legislation in the EU, Switzerland, and the UK.
US regulators have taken a different tact.
What began as a ‘not invented here’, ‘we don’t need this’ attitude, rapidly morphed into a hostile, overreaching political campaign against the blockchain and crypto industry led by President Joe Biden and Senator Elizabeth Warren with the assistance of Chairman of the SEC Gary Gensler and the (soon to be former) Chairman of the FDIC Martin Gruenberg.
2022 and 2023 were not easy times for a blockchain founder. The ‘anti-crypto army’ of Warren and Gensler took a lot of actions, and it has taken a while to discover how out of line they were:
The SEC has been sanctioned by a federal judge in Utah for lying in court, bankrupting a business, and destroying lives to get a temporary restraining order in the Debt Box case.
The SEC treated the BTC ETF application process in such bad faith that it was ultimately overruled by a different federal court judge who called their behavior “capricious and arbitrary”.
The SEC inked a rule on crypto custody called SAB121 (discussed below) without consulting industry or other regulators, which was so misguided in its understanding of digital assets that it essentially banned regulated entities from offering custody. Despite the fact that the SEC does not regulate banks.
During the same time the SEC sought to play a war by enforcement without offering regulatory guidance, including against Coinbase, Ripple, Kraken, and Uniswap Labs – all well-known, reputable players in this space.
Meanwhile, the SEC completely failed to protect US consumers from FTX, Terraform Labs, Celsius, Three Arrows Capital, and others (we still do not know what Gensler did in his many meetings with Sam Bankman Fried and FTX).
FDIC Banking regulators haven’t done much better.
From issuing a joint letter in early 2023 which unilaterally declared crypto tokens on public blockchains to be “highly likely to be inconsistent with safe and sound banking practices”...
…to pressuring banks to deplatform crypto customers without any evidence of wrongdoing or undue risk, as part of Operation Chokepoint 2.0 (Gruenberg was censored after the Obama administration for a similar Operation Chokepoint 1.0 but was able to do it again - at least for a while).
After years of arbitrary and capricious treatment, this has been a landmark week for digital finance in the US which made a 180 degree turn with a host of decisions that fundamentally change the outlook for blockchain enterprises, users, and investors.
We think this will go down as one of the most consequential weeks for blockchain innovation.
Let’s explain why.
The Republican Leader in the Presidential Race Became Very Pro Blockchain
After President Biden announced that he would veto House and Senate votes to eliminate SAB 121 (see below), former President Trump took to social media to declare his position: "I am very positive and open minded to cryptocurrency companies and all things related to this new and burgeoning industry," and then “Our country must be the leader in the field, there is no second place.”
Later, he announced on stage that he was the US’s pro-crypto candidate and that not only was he okay with Bitcoin, but he would take rapid action in his presidency to accelerate the industry.
“I will ensure that the future of crypto and the future of Bitcoin will be made in the USA, not driven overseas. I will support the right to self custody … To the nation’s fifty million crypto holders, I say this: I will keep Elizabeth Warren and her goons away from your Bitcoin, and I will never allow the creation of a central bank digital currency.”
It also did not go unnoticed that in a fundraiser in Florida he raised tens of millions from the same industry that President Biden had been blocking for so long. President Biden sent out a letter to backers declaring that crypto and oil billionaires are backing the opposition and we need more money now.
The response from his party was probably not what he had been hoping for.
Senate votes to repeal SAB 121 (May 16th)
On May 16th the US Senate joined the House of Representatives in voting 60-38 to repeal an SEC regulation known as Staff Accounting Bulletin No 121 (or SAB 121). Issued in 2022, SAB 121 mandated that companies holding customers’ crypto must treat these assets as liabilities, requiring them to be recorded at fair value on their balance sheets.
This policy indirectly imposed heavy capital requirements on banks that wanted to offer crypto custody services, effectively stifling the banking sector’s ability to serve the blockchain industry. It also exposed the SEC's fundamental misunderstanding of the custodial nature of banks’ holding digital assets, treating them as liabilities rather than as property belonging to customers.
Furthermore, the SEC does not regulate banks - a key point that apparently went unnoticed by the anti-crypto army.
Following this landmark win, the resolution now heads to President Biden, who had threatened a veto. The bipartisan support for this resolution reflects a growing interest in developing clear crypto policy and the Biden administration’s position is getting increasingly hard to justify. If Biden does veto the repeal, Congress may attempt to override his decision. If the repeal passes, it would greatly increase the availability of Bitcoin-based financial services in the US. Biden has until June 3rd to make a decision.
The smart money is betting Biden will call up Gensler at the SEC and tell him to repeal the ruling so that he can avoid doing anything himself in the face of such strong bipartisan opposition.
SEC Approved Eight Spot Ethereum ETF Applications (May 24th)
The following Thursday marked another historic event, with the SEC changing tune unexpectedly at the eleventh hour to approve eight spot Ethereum ETFs. This came as quite a surprise, as the market spent much of May repricing Ethereum downwards relative to Bitcoin in anticipation of SEC rejection across the board. Just a few days earlier, analysts had the chances of approval pegged below 25%, with many calling it a pipe dream.
Instead, the SEC approved all eight spot ETH ETF applications on its docket, from institutions like BlackRock, Bitwise, Fidelity, and VanEck. Relative to their “capricious and arbitrary” treatment of the original Bitcoin ETF applications, the rapid approval of the Ethereum ETFs marks a significant tide shift - although in this case the SEC allowed staff to make their determination without a vote of the commissioners - which is the typical course of events in ETF approval processes.
Trading won’t commence on the new ETH ETFs until the S-1 registration statements are approved but it’s reasonable to assume they will be. Regular readers will know that the Bitcoin spot ETF launches were the fastest ETF launches in history, with demand outpacing new Bitcoin mined in the first 60 days by more than 7x. As with Bitcoin, Ethereum ETFs will open the door to institutional investment and likely result in a flywheel effect for Ethereum and Ethereum-based projects. We are early investors in many.
Perhaps more importantly, and a topic for a future newsletter, the approval of Ethereum as a commodity also opens up a new era of software development on open source, tokenized, and community based platforms. Indeed, why would any brilliant software developer choose to take a paycheck from Apple, Microsoft, or Samsung when this new paradigm appears to now be officially blessed?
House Passes FIT21 Act (May 24th)
Perhaps the biggest political turnaround was the next up. Also on Thursday, the House passed the Financial Innovation and Technology for the 21st Century Act (or FIT21). Alongside the Market Structure Act, the bill proposes granting the CFTC control over digital commodities markets and provides clarity on the classification of tokens, stating that an investment contract alone does not classify a token as a security. The bill represents the first stab at comprehensive crypto regulation and creates a path for cryptocurrencies to be exempt from many securities regulations if they achieve significant levels of decentralization.
Here the level of Democratic support was completely unexpected, with no less than 71 Democrat members of the house ignoring their leadership’s guidance in an election year to vote for FIT21.
House Passes CBDC Anti-Surveillance State Act (May 24th)
The US House of Representatives also passed on Thursday the CBDC Anti-Surveillance State Act, officially blocking the federal reserve from issuing a central-bank digital currency (or CBDC) without congressional approval. The bill, which represents a win for American privacy and free market values, essentially heads off the possibility of an Orwellian CBDC.
Both of the last two bills now move to the Senate, marking significant steps in shaping America’s emerging crypto regulatory landscape.
Taken altogether, in just one short week, these developments begin to pave a path forward for digital assets in the US, marking a landmark shift after years of hostility and delay.
As Architect Partners’ Elliot Chun put it, this month “our industry officially transitioned from #TheGreatPurge and entered into #TheGreatSurge.”
Digital Natives Coming of Age – A Shifting Electorate
So what really just happened?
Regular readers will recall that we have pointed out for a while that digital natives (or those 45 and under) now represent upwards of 50% of the voting population in the US, and 60% worldwide – and they are significantly more pro-crypto than their predecessor generations.
To put this into numbers, the US has 330m people, but only 160m or so voters. Roughly 80m of those are digital natives and between 40m and 60m of them already hold digital assets like Bitcoin, and depending upon the surveys you read, between 60 and 80% of them are very supportive of blockchain, crypto, and digital assets.
Doing the mathematics, that means that between 25% and 40% of US voters own crypto already and likely most of them are under 45 years old. Having grown up with digital communications and content, they’re frustrated by our shockingly analog financial system. They’ve been able to send messages, pictures and videos around the world in seconds for most of their lives, and they expect the same of their dollars and transactions. In fact, nearly 70% of people polled are dissatisfied with the current financial system.
US regulators have done themselves no favors in this regard either. Digital natives, like others, have grown increasingly tired of politicians and appointed leaders who have been shown to be capricious, arbitrary, and in some cases, apparently criminal.
Even before former President Trump made crypto an election issue, we anticipated digital asset policy would become a pivotal issue especially with politicians trying to garner the votes of the growing digital native voting population which is now entering their peak earning years.
Secondly, with US presidential elections on the horizon in November, we are unsurprisingly seeing the emergence of a more organized pro digital asset movement at the national level as well. Well funded, well organized and not willing to be subject to the vagaries of regulation by enforcement without guidance.
Traditional finance players have been a third underlying force here. From Larry Fink, CEO of BlackRock (the world’s largest asset manager), coming out in favor, to numerous bank and payment company CEO’s wanting to get into the game and leveraging their traditional Washington lobbying power.
But the primary force that made this happen was the future - because the digital natives are the future and they won’t let anyone take their digitalization away.
The Rest of the World is Still Ahead
To be clear though – much of the rest of the world is well ahead with regards to digital asset regulation. As examples:
Europe’s Markets in Crypto Asset Regulation (or MiCAR), one of the world’s most comprehensive digital asset regulatory frameworks, goes into effect in December with certain stablecoin provisions going live as early as next month. Europe’s Transfer of Funds regulation (aka Europe’s travel rule), passed in 2023, goes live in December as well and the European Central Bank’s advanced digital euro CBDC project is now moving into a two year preparation stage. The European Parliament will also hold elections in June followed by the appointment of a new college of Commissioners later in the year – both set to be critical events for the future of digital finance.
Asian crypto hubs are also rapidly emerging in places like Singapore, Hong Kong, and Tokyo which have announced plans to be global centers for this industry. In April, Hong Kong launched its own Bitcoin and Ethereum spot ETFs, which have unique features the US ETFs do not. Namely, allowing investors to trade Etherum and Bitcoin in for ETFs without having to exit existing positions nor recognize gains. China remains staunchly anti-decentralization, viewing products like Bitcoin as a monetary risk, but their CBDC product is already well advanced.
India, while cautious with regards to decentralized products, just plugged their CBDC into the nation’s largest digital payments platform for retail payments.
Dubai’s VARA regulatory body also represents an advanced crypto regulatory framework and the government, in partnership with the department of tourism, has made strategic efforts to put itself at the heart of Web3. Token2049, which happened last month in Dubai, for example, has quickly become one of the industry’s hottest events. Typical of the kind of strategic investment the country is making which goes above and beyond, their Department of Economy and Tourism partnered with our portfolio company Karate Combat to put on the headline event. Dubai’s digital dirham CBDC project is also moving into late stage pilot testing, as are many CBDCs around the world now.
So while we are excited to see the US getting into the race, we can’t move slowly. This will be a legislative sprint, which is not always America’s strong suit.
Expect Upward Valuations Across Blockchain Investment Classes
As early stage venture investors, we are always focused on the implications of trends we see for the long term value of our investments. And the takeaway is clear – expect upward valuations across blockchain investment classes.
First, pro innovation legislation will accelerate the transition to digital finance, and the US, which was the laggard, is now going to be working hard to catch up.
Second, much of the uncertainty and lack of clarity that was slowing down innovation and creating heavy burdens on the companies we have backed, is now going away allowing them to focus again on what they do best - innovating.
Third, the drivers of valuations - users, revenues, cash flows, and so on - all got turned up with this 180 degree turnaround in the US. The US is still the world’s leading economy, and now that it is joining the digital finance movement, we fully expect a lot of acceleration in the fundamentals.
To sum it all up, in our own words, digital monies, commodities and assets are inevitable and all of the world's financial infrastructure will need to be upgraded to support them - the consumer benefits are remarkable as we move into a time of low cost, fast, easy to access and secure finance and commerce for all.
As governments and legislatures around the world remove arbitrary barriers to accessing this new and superior financial technology, adoption will only grow. Legislation like FIT21 and the repeal of SAB 121 only accelerate this process.
The world’s largest financial managers, as our Institutional Digital Asset Adoption report showed in March, are already gearing up for this. Our latest Digital Asset Regulation Report shows the subsequent legislation is already going into place around the world.
Combined with the landmark progress of the past week in the US, we are now in a totally new era for digital assets.
Our View of What Investors Should Now Do: Deploy Ahead of Inevitability
So what should an investor do?
For ourselves, we take our lessons from the early internet days. To capture an Amazon or Google in your portfolio early on, you had to be highly diversified and investing with the best managers. We believe the same applies to blockchain investing. This is especially true with regards to geographic diversification, since as our research shows, Blockchain is turning out to be a much more global phenomenon.
Our new Fund VII is now accepting expressions of interest - a single investment provides global, diversified exposure to blockchain startups and projects across all investment themes by investing with and through the world’s leading blockchain investment firms.
If you are interested in scheduling a call with our team, please click here or email us at ir@blockchaincoinvestors.com
Thank you for reading, and welcome to a very much brighter blockchain future.
The Blockchain Coinvestors Partners
About Blockchain Coinvestors
Blockchain Coinvestors is the best way to invest in blockchain businesses. Our vision is that digital monies, commodities, and assets are inevitable and all of the world’s financial infrastructure must be upgraded. Our mission is to provide broad coverage of early stage blockchain investments and access to emerging blockchain unicorns. Blockchain Coinvestors’ investment strategies are now in their 10th year and are backed by 400+ investors globally. To date we have invested in 40+ pure play blockchain venture capital funds in the Americas, Asia, and Europe and in a combined portfolio of 1000+ blockchain companies and projects including 80+ blockchain unicorns. Blockchain Coinvestors’ first fund of funds ranks in the top decile amongst all funds in its category on both Pitchbook and Preqin. Headquartered in San Francisco with a presence in London, New York, Grand Cayman, Zug and Zurich, the alternative investment management firm was co-founded by Alison Davis and Matthew Le Merle.
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