Cryptocurrencies: Driving The Future

Summary

• There is no question that the phenomenon of cryptocurrencies has become worldwide as millions of people and trillions of dollars are drawn to the asset.
• The latest eye-catching characteristic of cryptocurrencies is the fact that the prices of these assets are becoming highly correlated with the prices of more traditional assets.
• Regulators and traditional financial institutions have accelerated their responses to this activity and signs are all around that more money and more resources will be directed to this space.
• So, the traditional financial institution will now fully take on the "new" technological world, and efforts to bring about the digital future will only be accelerated.
• Will cryptocurrencies be a part of this future?

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There are two points that are of growing importance in the world of cryptocurrencies.

First, the phenomenon of cryptocurrencies is global and this factor cannot be ignored by the major economic powers of the world.

When we talk of money, as I have tried to emphasize in my posts, we are talking about information and the technologies that are tied to information processing and servicing.

Given this, we must remember that history is very clear on the point that throughout time, information grows and spreads. Information, in a real sense, cannot be contained.

"The International Monetary Fund has urged national and global regulators to establish a co-ordinate, consistent and comprehensive approach to supervising cryptocurrencies--a daunting task given the speed at which digital assets are moving into mainstream finance, " writes Chris Flood in the Financial Times.

But regulators, as well as banks themselves, are running behind the thrust of innovation and the need to break old habits and old modes of thinking.

Just last week, the Federal Reserve put out a research paper asking for comments and responses to possible paths it might take in developing a central bank digital currency. Other major central banks around the world seem to be a little more advanced in their efforts.

But, the banks they oversee and regulate don't seem to be too much further ahead in the effort.

However, now, some real movement seems to be coming to the surface. For example, JPMorgan Chase & Co. (JPM) seems to be putting a massive amount of resources into the effort to 'catch up' with what is going on in the rest of the world.

Just the other day, TD Ameritrade announced that it was building up its staff addressing technology in a major way.

And, it looks as if more and more are going to follow this lead.

But, leaders like Nayib Bukele, the president of El Salvador, plan to raise money by selling bonds linked to the world's biggest cryptocurrency.

This is just one example of many emerging market countries that are looking for ways to tap world markets using this new technology.

Correlation Between Markets Increasing

The second point has to do with how the cryptocurrency markets are maturing.

Tobias Adrian, the IMF's financial counselor and head of its monetary and capital markets department claims,

"The correlation between crypto and equity markets has been trending up strongly."

"Crypto is now very closely tied to what is happening in equities."

Eva Szalay, confirms this relationship writing in the Financial Times,

"The world's biggest cryptocurrency is increasingly tracking the movements of assets that exert influence across other global markets."

"Correlations with U.S. tech stocks, crude oil, and government bonds have all risen significantly over the past two years."

"Bitcoin has often moved in near lock-step with NASDAQ 100 futures as markets have wobbled in the opening weeks of 2022."

One only has to look at what has been happening in United States markets this month to reach this conclusion.

When the markets move, cryptocurrencies move.

The correlation between the two is becoming part of investing lore.

But, this has its inherent contradictions.

As Emily Flitter writes in the New York Times, the valuation methodology differs between the two types of assets.

In the case of cryptocurrencies,

"Traditional financial analysis doesn't apply here."

"A stock analyst, Ms. Flitter contends, "determines whether a company's shares are expensive or cheap by assessing its business model, future prospects and leadership."

Few of these metrics, if any, apply to the valuation of a cryptocurrency.

"Belief alone can drive value."

Bitcoin (BTC-USD) and Ethereum (ETH-USD) are looked on as having value because they serve, modestly, as a medium of exchange. They can be used to "buy and sell many goods and services," although their real ability to do this has been questioned by many.

Ms. Flitter writes,

"By standard measures of value, the prices of Bitcoin and Ether are understandable."

"They are priced highly because they are well established and liquid with broad user bases."

Others, however, are not so well used or traded. The other "coins" that do have a fair amount of activity are "dominated by an active insiders club."

The ultimate difficulty is that many, if not most, of the coins being traded around the world, have no underlying reason for existing."

Events Are Going To Speed Up

The evidence cited in examining these two points confirms the fact that the world of finance is changing rapidly.

Bank regulators, believing that the industry was well protected, dragged their feet in responding to the changing technology.

Commercial banks, feeling protected by their regulators, also were slow to move, one reason being that they just did not want to take on their behind-the-times overseers.

This is what can happen when technology is changing, and one can pick out other instances in the history of banking when this proved to be the case.

But, innovators are always looking for gaps. And, they certainly found some gaps in the financial industry as information technology advanced and spread.

The digital revolution in finance was going to happen and it will happen.

I am not sure we will even recognize what transferring money and lending is all about in five years or so.

Things are going to speed up from here because of all the advances that organizations like JPMorgan, TD Ameritrade, and others will be making in the near future.

I believe that the regulatory community is going to end up excluding many of the now-called cryptocurrencies from the marketplace. Regulators are going to question what purpose, other than trading vehicles, cryptocurrencies are good for. And, these vehicles are sources of all kinds of actions that regulators are averse to, like illegal transfers of money, scams, and other forms of abuse.

This seems to be the behavior of nations that really don't want to have to deal with the issue. They have enough justification to dismiss the problem without too much argument.

The Future

Digital finance is the future. I have believed this when I was running banks. To me, the issue has always been connected with the concern over when the bankers would begin to feel that the regulators were going to consider "opening up" the banking system to these new technologies.

Why should banks put in a lot of money to develop these technologies when the regulators were always going to represent some kind of resistance to the emerging technologies?

Well, now we are at the position where the regulators are going to have to respond, which means that the traditional commercial banks will finally have the opening to move with the technology.

Cryptocurrencies have certainly turned out to be a driving force.

They have made the issue a global one. And, globally, massive amounts of money are being directed to building the "new" financial system.

We now see that billions, if not trillions, of dollars, can be lost or gained in the crypto area, as traditional markets become drivers of cryptocurrency asset prices.

These concerns are going to become the driving force behind the creation of the "new" banking system.

Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.