How banks compete in the digital world has changed forever. Paritosh Gambhir elaborates on the growing market acceptance of cryptoassets, the rapid advancement of cryptocurrency technology, and the burgeoning participation of financial institutions in the this market.

Is it time for banks to get ready for virtual assets? Recently, His Highness Sheikh Mohammed bin Rashid Al Maktoum, Vice President and Prime Minister of UAE and Ruler of Dubai, approved a first-of-its-kind law to regulate virtual assets in Dubai. An independent authority has also been established to oversee the regulation, licensing and governance of virtual assets, nonfungible tokens (NFTs), and cryptocurrency. The authority’s main responsibilities include regulating the issuance and release of virtual assets and NFTs, licensing, and protecting personal data, among others. Banks must ask themselves whether they are well prepared for this innovative regulatory release.

Institutional cryptoasset adoption is driving innovation in core banking products and services across custody, brokerage, trade clearing, settlement, payments, lending, and more. At the same time, a new operational infrastructure for banking is emerging, which has set the foundation for resilience and growth in a fast-changing industry. 

In fact, the global crypto market cap has reached USD 2.03 trillion14 — almost 18% the market capitalization of gold.15As of 6 January 2022, the total crypto market volume over the last 24 hours was USD 137 billion. Forbes identified the “cryptofication of banks” as one of the top five FinTech trends of 2022, due to increased demand, supply, and indeed banks’ fear of missing out. It commented: “For banks, crypto will be to 2022 what social media was to 2015.”16

Crypto products and services have demonstrated tremendous growth potential in the banking sector. There are multiple areas of opportunity for traditional banks, FinTechs, and digital native banks to deliver solutions for storing, moving, and using cryptoassets easily and securely. Three banking segments – prime brokerage; yield generation via lending, borrowing and staking; and payments – stand out for their profit potential.

  • Prime brokerage services

Custody – the management of assets and the underlying cryptographic keys that cryptoasset owners use to execute transactions – allows banks to add additional operations and services to their portfolio, including cash management, securities lending, leveraged trade execution, and other white-glove support.

  • Yield generation: crypto lending, borrowing and staking

The demand cycle for crypto borrowing and lending has risen dramatically across the full spectrum of crypto-market participants. This demand cycle is reflected in the dramatic growth of user adoption of centralized lending platform organizations. In both centralized and decentralized crypto-borrowing and lending models, users can deposit their cryptoassets to generate yield. Yield generation has proven to be critical value-adding service layer for participants who have taken investment positions with long horizons.

  • Payments

Around the world, digital payments are exploding in the business-to-business and business-to-consumer arena. Across these models, there has been an acute focus on cross-border payments to realize efficiencies in cost and settlement provided by stablecoins. Mobile payment apps have exploded in popularity, especially since social distancing has restricted the use of physical cash to some extent.

Key challenges

  • Compliance with regulatory obligations: A patchwork of regulations has emerged and continues to evolve. Maintaining compliance with laws and regulations related to an array of financial crimes is already a major challenge.
  • Fork management and governance: Forks occur when a single crypto blockchain breaks into two separate chains. They have a significant impact on crypto businesses.
  • KYC and cryptoasset provenance: Crypto owners are identified not by names or account numbers but by cryptographic addresses that can be created at any time, by anyone, anywhere – this presents a unique challenge to KYC programs.
  • Securing cryptoassets: Given the potentially high value of cryptoassets and the natively digital nature, crypto businesses and their customers are prime targets for cyber criminals.
  • Accounting and financial reporting: Cryptoassets challenge traditional financial reporting boundaries. The accounting for these assets is an emerging area, with limited industry guidance.