RelayNode NYC #55 - Market Structure & Prime Brokerage Wars.

RelayNode

Jun 1

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RelayNode NYC is curated by:

David Gogel: Founder @GogelX/Definancier, Advisor/Operator/Investor, Advisor @Paperchain.io, Wharton MBA/BS/BA, fmr Associate @Techstars' Blockchain Accelerator, Co-president @Wharton FinTech, Corp Dev @LinkedIn @AIG

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Market Stats (as of Monday, May 31st, 7:30 PM EST)

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A week for the history books. Goldman Sachs vs. Bitcoin. SpaceX Falcon 9 makes a historic space flight. Trump vs. Section 230 & Twitter. President Trump eliminates special treatment for Hong Kong, in response to China's new security legislation. Protests and riots across America over George Floyd’s death.
The ultimate measure of a (wo)man is not where (s)he stands in moments of comfort & convenience, but where (s)he stands at times of challenge & controversy. A riot is the language of the unheard. In the end, we will remember not the words of our enemies, but the silence of our friends. #BlackLivesMatter
Driven by the optimism of easing lockdowns and the prospect for a V-shaped recovery, stocks rallied last week with the Dow, S&P, and NASDAQ up 3.8%, 3%, and 1.8%, respectively. In general, confidence has returned to financial markets. But under the surface, a sense of uncertainty and a growing disconnect between Wall Street / Main Street remains. 40M unemployed, social unrest, an upcoming election, a ballooning Fed balance sheet, a 2nd COVID wave remain on my mind. Yet futures are up 🤔?
The total market cap of crypto-assets sits at ~$266B, increasing 8% WoW. While Bitcoin had a strong week, breaking through $9K on Wednesday before consolidating in the $9K-$9.6K range, Ether outperformed increasing ~13%.

1 Big Thing: Market Structure & Prime Brokerage Wars

An Evolving Market Structure

The lack of Reg NMS execution requirements, the high variability of trading fees, and the fragmentation of liquidity across centralized and decentralized crypto exchanges pose challenges for institutional investors who want to limit market impact when executing large orders.
Fragmented market structure results in thin order books, increasing the total cost of trading by requiring execution across several exchanges or by pushing large orders to OTC markets. Market participants’ liquidity goes largely undiscovered due to an inefficient and cumbersome process. Further, the lack of reliable liquidity metrics (fake volumes anyone?) adds to the uncertainty.
However, market infrastructure has rapidly evolved to overcome some of the liquidity challenges. Stablecoin usage has grown rapidly, improving the flow of funds between exchanges and providing some leverage. Further, the rise of prime brokers is expected to clean up fragmentation, enhance data reporting, and bring in larger pools of institutional capital.
To this end, trading platforms have begun consolidating infrastructure, services, and fees by integrating backward, forward, and horizontally across workflows (price discovery, trade execution, clearing, settlement, and post-trade reconciliation.) More M&A to come resulting in improved market efficiency.

The Prime Broker Wars

3 influential crypto firms, Genesis Trading, BitGo, and Coinbase, all recently announced plans to become prime brokers:

Genesis Trading is gearing up to launch Genesis Prime, a prime brokerage focused on crypto-assets. Genesis will launch an integrated client interface, additional technology solutions, a derivatives trading desk, and add capital introduction capabilities for hedge funds, quant funds, asset managers, and family offices. Just last week, Genesis acquired Vo1t, an institutional-grade custodian, to bolster its offering.
BitGo, a leader in digital asset financial services, announced that it is offering institutional trading services through its new entity BitGo Prime. The ability to seamlessly trade from secure, insured cold storage is being offered exclusively to BitGo Prime clients, whose assets are held with qualified custodian BitGo Trust.
In one of the largest crypto deals, Tagomi, a crypto prime broker, was acquired by Coinbase in an all-stock deal for an estimated price of $75-$100M (Tagomi had raised a total of $28M but terms of the transaction were not disclosed.) Tagomi is an electronic agency brokerage service that launched in December 2018, with a focus on serving institutions (hedge funds, RIAs, broker-dealers, HNWs). Customers get access to ~15 exchanges/venues with integrated custody products and treasury management. Tagomi does not provide liquidity using its own balance sheet - it is an agency broker that acts as a middleman to the exchanges and places trades on behalf of clients. Tagomi offers smart order routing technology which allows the brokerage to monitor market data, pool liquidity, and shop around for the best price across exchanges to provide trade execution services. Tagomi also provides lending, shorting, margin, and settlement services.

Strategic Rationale: The acquisition of Tagomi allows Coinbase to bolster its core business by increasing its Pro market share with institutional traders. The Tagomi acquisition comes with a long list of onboarded / KYCed clients. I view it as both an offensive move to gain market share and lower revenue concentration, as well as a defensive move to protect its high trading fees through value-added services and increased liquidity, potentially through prioritized order flows. Coinbase would derive new revenue from spreads on financing and trading commissions, and generate revenue whether customers trade on Coinbase or elsewhere. The acquihire expands Coinbase’s footprint outside of SF and brings in top Wall Street talent with extensive experience at Citadel, Two Sigma, Virtu, KCG, and Goldman Sachs. Further, the acquisition creates new capabilities for Coinbase Pro to provide lending, shorting, margin, and settlement services, rather than build all those services in house.

What Lies Ahead: The rise of crypto prime brokers was inevitable and a welcomed development in the ecosystem. With more capital entering the space, competition is likely to heat up with new prime brokers, dark pools, ATSs, and some traditional banks to chase the institutional pie. Potential concerns around conflicts of interest (i.e. exchanges owning prime brokers) will drive more R&D on decentralized NBBOs and decentralized prime brokers. Meanwhile, decentralized exchanges will gain significant attention and might represent the next evolution in the exchange landscape.

What To Read

🌐 MACRO / WHY BITCOIN?

🌐 “We do not recommend Bitcoin on a strategic or tactical basis for clients’ investment portfolios even though its volatility might lend itself to momentum oriented traders:” Goldman Sachs hosted a client call argueing that cryptocurrencies including bitcoin are not an asset class because they “1/ Do Not Generate Cash Flow Like Bonds 2/ Do Not Generate any Earnings Through Exposure to Global Economic Growth 3/ Do Not Provide Consistent Diversification Benefits Given Their Unstable Correlations 4/ Do Not Dampen Volatility Given Historical Volatility of 76% – On March 12, 2020, the price of Bitcoin fell 37% in one day 5/ Do Not Show Evidence of Hedging Inflation.” GS concluded that: “we believe that a security whose appreciation is primarily dependent on whether someone else is willing to pay a higher price for it is not a suitable investment for our clients.” Jill Carlson, a former GS trader, explains what Goldman gets wrong.
🌐 Depreciating CNY may send Chinese savers into bitcoin as a hedge: Chris Burniske, GP at Placeholder Ventures, explains historical correlations between the CNY/USD exchange rate and the bitcoin price. The PBOC moved on Friday to support the yuan after it fell to its lowest level against the USD in 8 months, amid rising tensions with the US and growing uncertainty over Hong Kong’s future. Will Chinese investors hedge onshore RMB exposure into bitcoin?
🌐 Analyzing the exodus of BTC from exchanges: Glassnode analyzes several drivers behind why the balance of BTC on exchanges has decreased by 12% since Black Thursday and continues to decline, reaching its lowest point in over a year.

💰 FUNDING, M&A, EXITS

💰 Floating Point Group, an MIT-born startup offering a US-regulated single-point-of-access for sophisticated trading with a suite of algorithmic execution tools, raised $2M in seed funding from AngelList & MetaStable Capital founder Naval Ravikant, pif.vc, Algorand's CEO Steve Kokinos, BoxOne Ventures, Seabury Global Markets, and several asset management executives.
💰 CoinDCX, one of India’s largest cryptocurrency exchanges, raised $2.5M in strategic funding led by Polychain Capital and Coinbase Ventures. The investment comes shortly after the exchange’s Series A in March, in which CoinDCX secured $3M from Bain Capital, Polychain, and HDR Group. Funds will be used to encourage the mass adoption of crypto. India represents a large opportunity for companies that can speedily establish themselves in the near-vacuum left by the 2-year RBI ban. 3 different strategies for success in India:

David Gogel (古大卫) @dgogel

3 different strategies to grow crypto in India: 1/ Build @krakenfx blog.kraken.com/post/4145/krak…2/ Buy - @binance @WazirXIndia 3/ Partner - @CoinDCX @coinbase @OKExKraken Announces Recommitment to Indian Market Following Supreme Court Ruling | Kraken BlogAt Kraken, we’ve long served the Indian market with a full suite of exchange products, including spot, derivatives and futures, all complete with best-in-class security and execution. Unfortunately, our growth in the market had been limited by a 2018 ruling issued by the Reserve Bank…blog.kraken.com

May 26th 2020

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💰 Kingdom Trust, a crypto custodian with $13B in AUM, acquired Choice Holdings, a crypto retirement company. Kingdom Trust announced it rolled out a single retirement account for traditional and digital assets. The self-service retirement platform allows investors to hold stocks, ETFs, and digital assets in one tax-advantaged account. Financial terms were not disclosed.
💰 Magic, a startup formerly known as Fortmatic building a decentralized online identity and log-in service with 6500+ developers using the service, raised a $4M Seed led by Placeholder, with participation from Lightspeed Ventures, SV Angel, Social Capital, Volt Capital, Refactor Capital, Naval Ravikant, among others. Funds will be used to accelerate the global adoption of passwordless authentication while empowering developers to benefit from newer, more powerful Internet platforms.
💰 Omniex, an enterprise crypto-asset infrastructure provider targeting institutional investors, raised $14M in a Series A led by SIX Group with participation from Jump Capital, Wicklow Capital, and Sierra Capital.
💰 LayerX, a Japan-based security token technology firm, announced it raised 3 billion yen (~$28M) from JAFCO, ANRI, and Yahoo Group.

🔓 DEFI / CEFI / OPFI

🔓 Growing DeFi by tokenizing real-world assets & using Ethereum as a settlement layer: Centrifuge, a protocol for decentralized asset finance allowing users to convert real-world assets into crypto-assets that can be used to access DeFi services, announced the release of an asset-backed lending Dapp called Tinlake and the availability of the Centrifuge Chain mainnet. In the past, I had the privilege of working with Centrifuge and Paperchain on a lending pilot to advance $60,000 USD in Spotify revenue to a Paperchain record label customer. The advance was issued live on stage using Centrifuge’s Tinlake finance application and was originated in <30 minutes at a transaction cost of < US$3. Full post mortem on the transaction here. Ryan Sean Adams, Founder of Bankless, explains why securitization turns DeFi into a global credit system and how Centrifuge will help DAI scale.
🔓 Compound’s governance decentralization process: Compound, the money market protocol holding $100+M of assets, explained its token-based governance system, and outlined the process to distribute $COMP tokens.
🔓 DeFi risk management needed: Ken Deeter, Partner at Electric Capital, explores different approaches to risk management in DeFi. Building these foundations of trust will be instrumental in growing beyond early adopters and attracting the largest market participants.
🔓 More Bitcoin coming to DeFi: Ren Protocol announced the mainnet launch of the RenVM, which allows users to trustlessly mint BTC, BCH, and ZEC on Ethereum.

💱 STABLECOINS & CBDCs

💱The digital dollars’ 2-tiered distribution system: The Digital Dollar Project released its first white paper exploring a US CBDC. Topics covered include tokenization, potential benefits for retail, wholesale, international applications, privacy, and design/governance choices for the rails that would transfer a tokenized USD. A key design feature is that the dollar would have a 2-tiered distribution architecture that would preserve the role of retail banks, rather than cutting them out in favor of a direct citizen-central bank relationship.
💱USDT arbitrage on centralized exchanges: Flipside Crypto explores data on Tether, the largest stablecoin, and its use on the Ethereum blockchain. Most of Tether is used for arbitrage on centralized exchanges, specifically Huobi, Binance, and Bitfinex. Flipside explained that traders are paying higher fees on Tether transactions to send USDT directly between personal wallets, as opposed to processing through exchanges to create faster and more efficient arbitrage.

🌉 INSTITUTIONAL INFRASTRUCTURE

🌉 Inverted exchange models: CrossTower, a new crypto exchange launched by former AlphaPoint executives turns the crypto exchange pricing model on its head by introducing an industry-first taker rebates model. Studies have found that inverted exchanges in equity markets have become the first venue of choice for retail trades, as retail brokers seek out rebates for their client orders. CrossTower — led by co-founders Kapil Rathi and Kristin Boggiano — join the ranks of exchange operators catering to the decidedly institutional crowd. Rathi previously held senior roles at Cboe, Bats, ISE and the NYSE. Boggiano, who served stints at the CFTC and the SEC, worked for Schulte Roth and Guggenheim Partners. Both Rathi and Boggiano worked for AlphaPoint, which develops white-label exchange software, serving as COO and CLO, respectively.
🌉 Genesis entering derivatives trading: Genesis Global Trading launched a derivatives trading desk led by former Galaxy Digital staffer Joshua Lim. The new derivatives desk will expand the company’s suite of products as it aims to attract more institutional clients to the newly branded Genesis Prime.
🌉 Google decentralizing CDNs: Theta Labs, a venture-backed blockchain company building end-to-end infrastructure for decentralized video streaming and delivery, announced a partnership with Google Cloud. As part of the partnership, Google is helping Theta with its mainnet 2.0 launch, and will become the platform’s fifth validator. Theta is staking 5M THETA tokens (worth ~$2.4M) for Google on the network.
🌉 Exchange partnership with smartphone manufacturer: Gemini announced it has become the first U.S. crypto exchange and custodian to partner with the Samsung Blockchain to power the Samsung Blockchain Wallet. This integration will allow Samsung Blockchain Wallet users to connect to the Gemini mobile app to buy, sell, and trade crypto and self-custody crypto directly on their Samsung Galaxy phones. Your move, Apple.

🍰 LAYER 1

🍰 A big step for blockchain interoperability & scalability: After 3 years of R&D, the Web3 Foundation launched an initial version of Polkadot, a sharded protocol that allows decentralized blockchain networks to operate together, seamlessly and at scale. Polkadot has been under development since 2017, after raising $140M in an ICO. The current mainnet will operate via a Proof-of-Authority consensus mechanism, which will advance through a series of milestones ending in full decentralization. Polkadot founder Gavin Wood explains the full launch process in a video. By parallelizing the workload, Polkadot solves major throughput concerns that have hampered decentralized app development.
🍰 More “Ethereum killers”: AVA Labs, a blockchain protocol founded by Cornell’s Emin Gün Sirer, makes it simple to launch finance applications using blockchain technology–with highly scalable and efficient networks, customizable public and private blockchains, the capability to create any digital asset, and more. Ava launched the Denali Incentivized Testnet, the final phase of testing before AVA’s mainnet launch this summer.

🍰🍰 LAYER 2

🍰🍰 Scalability improvements: The Matic Network is a Layer 2 scaling solution that achieves scale by utilizing sidechains for off-chain computing while ensuring asset security using the Plasma framework and a decentralized network of Proof-of-Stake validators. The Matic Network mainnet is now live.

⚖️ LEGAL

⚖️ ICO enforcement action: The SEC announced charges against BitClave, a decentralized search ecosystem to help match sellers with buyer needs, for conducting an unregistered initial coin offering raising $25M in 2017.

⚖️ We’re not ready for full on-chain governance: Aragon, a protocol that allows for the creation and management of decentralized organizations, filed legal action against Autark, a grant recipient from the first Aragon Network Vote. Autark alleged that Aragon filed a baseless legal action in Switzerland against Autark LLC, a US-based entity, and that it was attempting to cancel the remainder of the grant. The Aragon Association responded accusing Autark of breach of contract. It looks like we still need the traditional legal system to adjudicate claims.

🎥 VIDEO OF THE WEEK