Since the pandemic, financial institutions have increased their exposure to the cryptocurrency sector in order to be able to offer crypto investment opportunities to their clients.

The cryptocurrency industry is going through a tumultuous time. Since the crypto crash in May 2022, the value of the crypto market capitalization has declined. Between November 2021 and the end of July 2022, the cap fell by 65%. Despite this difficult period, institutional and retail investors increasingly want exposure to the market.

Crypto as an investment instrument

GlobalData’s 2022 Financial Services Consumer Survey revealed that consumers around the world are interested in the cryptocurrency industry. This interest is mainly driven by the motivation to use cryptocurrency as an investment instrument. 77.4% of global respondents who said they have a cryptocurrency said they were motivated to profit from it, while only 18.5% of respondents said they use it as a payment tool.

The crypto sector has been attracting a lot of interest from consumers and institutional investors since the pandemic. PWC’s Global Crypto Hedge Funds 4th Annual Report 2022 reported that the assets under management (AUM) of the crypto hedge funds surveyed were $4.1 billion in 2021, up 8% from the previous year. Although hedge funds gain exposure to the crypto market, they limit their exposure, as approximately 57% of hedge funds investing in crypto have less than 1% of total assets under management invested in the sector. The high volatility of the sector makes cryptocurrency a risky asset to invest in. One of the main strategies that hedge funds adopt with cryptocurrencies is a market-neutral strategy, which aims to generate profits regardless of market direction by mitigating risk through the use of derivatives.

Lack of regulatory framework

Besides the volatility, the lack of a proper regulatory framework in the crypto sector prevents financial institutions from significantly increasing their position within it. This lack of regulation leads to uncertainty about the longer-term strategies funds can adopt or the types of cryptocurrencies they can invest in. Regulation of the sector could create stability by reducing speculation, which is partly responsible for the high volatility. In addition, regulations can increase investor confidence in the sector as protective schemes and hedging can be introduced to make transactions and investments safer and bring the sector under the scrutiny of regulators.

According to GlobalData’s 2022 Financial Services Consumer Survey, approximately 60% of respondents who hold cryptocurrencies hold less than $15,000 in crypto investments, with 41% holding less than $5,000.

This is much higher than the proportion of respondents holding less than $15,000 in stocks (56%) and bonds (52%). Investors who include cryptocurrencies in their portfolio do so by taking small market positions. This limits the impact on their investment if the crypto market were to crash.

The cryptocurrency sector is finally attracting the attention of financial institutions looking to capitalize on its growth. Although their investments are currently limited, they are likely to strengthen their position, especially when governments finally introduce regulatory frameworks.

Figure 1: There is an appetite for crypto investments as 60% of surveyed crypto holders hold less than $15,000 in crypto, more than bonds and stocks

Chris Dinga is a Payments Analyst at GlobalData