It’s prime time for the prime broker mindset to arrive in crypto. In fact, the future of the industry may depend on it.
Signs are emerging that the essential services of prime brokerages, long a hallmark of the traditional finance world, are the missing link to fully bring large institutional investors into the cryptocurrency markets. With their entry into this new space, prime broker-style services are poised to impact the way high-level trading takes place.
Why is this happening now? To understand, first, let’s look at the role that today’s prime brokers play in traditional finance.
Traditional Prime Brokers: Increasing Market Efficiency, Decreasing Market Risk
Fundamentally speaking, the goal of a prime broker is to help a hedge fund or a large proprietary trading firm increase its profitability. Prime brokers accomplish this mainly through two methods:
1) Increasing the efficiency of their client’s capital
2) Helping their clients better manage their risk
On the capital efficiency side, prime brokers help to quickly aggregate and route orders, providing their clients with fast and simple access to the best prices and reducing inefficiencies that arise when moving money between different markets and custodian accounts. If a client has custody with several different third parties, these prime brokers have technology integrations with all of them, to serve as a self-clearing facility.
With regard to risk management, prime brokers provide their customers with real-time analytics and risk reporting for liquidity, value at risk, correlation, and more. Another part of this equation is “managed accounts,” in which a prime broker divides one large account into smaller sub-accounts for their customers’ traders and applies all of the same portfolio management functions on a sub-account basis. By keeping those sub-accounts segregated, the firm can combine the benefits of all sub-accounts (e.g., margin and securities lending) while still managing and containing the risk of each sub-account individually.
Prime brokers are also increasingly focused on technology solutions. Smaller prime brokers are trying to differentiate themselves by offering multi-custody solutions: If a client has custody with several different third parties, these prime brokers have technology integrations with all of them.
Why the Prime Broker Mindset Is Needed in Crypto
Many of the challenges that exist in crypto are different from those in traditional finance, so it’s not surprising that new wrinkles can be found adapting the prime broker mindset to crypto.
Many investment managers we talk to understand that there’s a big advantage to be found in crypto markets—one that has simultaneously been lost or diluted in other sectors of traditional finance over the last few years. Namely, that they can realize a high return using quantitative models that had long stopped working in equities and FX. Equities today are flush with quantitative traders who all have similar models, and that has led to a dilution of alpha and ROI.
In response, new projects in the crypto space are starting to emerge that provide professional traders with access to global exchanges via a single account, enabling global execution of advanced, global trading strategies. These innovations are arriving at the right time to help satisfy the needs of institutional investors as their readiness to increase their portfolios’ crypto positions increase.
At this moment, the most active players in the crypto institutional space are mid-to-large prop shops—entities made up of a few large investors working with their own money. Some of these large-scale traders are very active, trading over $100 million a day. Hedge funds are going to join the mix next, and their number is going to keep growing as crypto becomes more and more mature, with more reliable data and better risk models.
While some players are paying attention to the space, such as Tagomi, Omniex, TroyTrade, Caspian, and our company, Apifiny, institutional traders are ready for even bigger thinking to come to crypto. Without easy access to these higher-level capabilities, institutional traders are largely missing out on several of the essential activities that are easily available in traditional finance, such as:
- Short-selling
- Trading on leverage
- Performing instantaneous asset settlements/transfers between exchanges
- Having managed sub-accounts for their traders/trading desks
As institutional investors well understand, a world lacking the above prime broker-style services—in traditional finance and crypto alike—looks a lot less profitable for everyone: without them, the outcomes would be low returns and less trading volume. Less volume leads to high volatility, which in turn discourages participation from other investors who are seeking a stable market.
The Next Big Step for Crypto
Leveling up what institutional crypto traders can expect is a necessary step, simply because everyone in that sector is looking to do more trades to improve their absolute return. Crypto exchanges worldwide are ready to welcome more institutional investors as well: these are players that represent significantly larger volumes than the retail investors that cryptos exchanges are currently geared to attract. The presence of platforms that cater to the precise needs of institutional investors translates into additional trading volume for these exchanges, which generates greater revenues from fees for them.
These needs have always existed, it’s just that the technology wasn’t there to fulfill that need. But that is changing. At Apifiny, we are building Apifiny ConnectTM and Global Best Bid and Offer (GBBOTM). GBBOTM is a solution for OTC desks and Brokers that connects disjointed, local exchanges into unified global liquidity pools for discovery and execution on the best attainable prices on digital assets.
Our discussions with institutional traders uncovered additional needs – even more liquidity, faster settlement, and the ability to obtain borrows for short selling and speculation. For example, when a trader currently transfers funds between exchanges, there is a delay of up to an hour before they can begin trading on the destination exchange.
Institutional investors who sign up for Apifiny ConnectTM will get access to all of the exchanges accessible via our platform. While we don’t provide them with a loan against their portfolio yet, we do give them the ability to quickly move funds from one exchange to another in near real-time.
We are seeing many other companies building a variety of solutions that will help the prime broker mindset develop in the crypto space – and this is a market that has room for many; by introducing capital efficiency and risk management into the blockchain space, we are paving the way for the largest financial institutions to fully participate in the space.
This is what the crypto market needs to grow.
This advent of higher-level services for the crypto world matters—their arrival is a big step not just for institutional investors, but also for the forward progress of cryptocurrency and digital assets.
The institutionally-focused platform was a key missing link, something badly needed for providing significantly increased liquidity and trading volume in the crypto space. Appropriately engaged institutional traders introduce increased volume, which in turn brings increased stability to cryptos while reducing volatility. These conditions will pave the way for bigger players to start investing and give their customers access to a new asset class that is largely uncorrelated to the assets in traditional financial markets.
— Ashu Swami is CTO of Apifiny
Apifiny is a digital asset marketplace that facilitates access to regulated, global financial markets to provide superior liquidity, pricing, and faster order fills for exchanges, institutional clients, market makers, broker-dealers, and OTC desks. We leverage the latest fintech innovations – primarily blockchain, high-speed trading, and smart order routing (SOR) – to bridge the crypto and traditional asset worlds.
Ashu Swami’s Bio:
Ashu is the CTO of Apifiny. Previously, Ashu headed a SPV of Quadeye Securities which pioneered and traded Mining Swaps, operated cloud mining data centers, and managed a mining investment fund. He served as the Chief Advisor to Fortune 50 companies including Intel Corp on Blockchain initiatives.
Prior to that Ashu was a Portfolio Manager at Quadeye Securities and led the high frequency market-making business at Morgan Stanley Program Trading to become a top 5 market maker in US ETFs. Ashu holds a BTech in CSE from IIT Bombay, and M.B.A. from Duke University.
