Crypto and traditional finance: A risky but promising alliance

What do BlackRock, Invesco Galaxy, WisdomTree, or even Fidelity have in common? Obviously, we will say at first glance that these are the companies in the finance sector, each with its own specificities. But anyone who follows the trends in the crypto industry in recent months knows that each of these companies has, in one way or another, engaged in this industry. Good news for the latter which sees its financial influence expanding, somewhat confirming its relevance in terms of investment. However, what appears to be sustained adoption of crypto by institutions in the finance ecosystem, nonetheless hides significant systemic risks. It is the latter that we will focus on in this article.

Volatility, 1er risk of the adoption of cryptos by financial firms

A few months ago, BlackRock, the largest asset manager in the world, threw a spanner in the works. Reluctant until now about investments in cryptos, the company led by Larry Fink announced its commitment to the flagship crypto: bitcoin (BTC). Convinced by the financial relevance of the asset, the company submitted an application for a spot Bitcoin ETF to the Securities and Exchange Commission (SEC). Objective, to make the asset accessible to investors who would like to be exposed to it.

Since then, several other leading asset managers have embarked on a similar approach. There is thus a palpable tendency to the adoption of cryptos, not just bitcoin (BTC), by asset managers. Particularly because of the increasingly diversified and profitable options they offer to financial companies.

However, the growing adoption of cryptos by financial institutions exposes them to a major risk: price volatility. This unpredictable and rapid characteristic of crypto value fluctuations can indeed cause significant financial threats for these institutional investors. Bitcoin (BTC) is the most telling example. In 2022, the most popular crypto experienced a decline of more than 50% after reaching a peak of around $69,000 in 2021. Despite everything, the asset has been marking its return to favor at around $43,745 for several months. dollars.

Needless to say, the adoption of crypto exposes financial companies that engage in it to multiple dangers linked to its intrinsic volatility. The first concerns substantial losses of capital. Furthermore, risk management becomes a difficult task due to this volatility. Traditional risk management tools struggle to anticipate rapid changes in crypto prices. This makes it difficult to implement effective strategies. Finally, the volatility of crypto prices can damage the reputation of these institutions since significant losses can deteriorate their credibility.

Crypto adoption and security challenges for financial firms

It should be remembered that the crypto industry is based on the emerging blockchain technology. The problem is that the evolution of the latter is not fixed. She is constantly progressing. This context of permanent technological innovation generates significant security risks for financial institutions venturing into this market. These include the dreaded Denial of Service (DDoS) attacks, SQL injection threats, and malware attacks. Every year, millions of dollars in cryptos have been stolen by hackers around the world, thanks to these methods which ruin several companies.

And despite efforts to combat crypto cybercrime, these practices still seem to have many days ahead of them. This is, to say the least, what recent investigations by TRM Labs indicate. It is an American company specializing in blockchain analysis and the fight against financial crime in the crypto sector. Financial firms that engage in crypto must be aware of this reality. They will then be able to protect themselves from it, while confronting it effectively and proactively.

Crypto adoption by financial firms and regulatory uncertainties

Regulation is perhaps the biggest risk financial institutions face in their rampant adoption of crypto. As a reminder, regulation of the crypto industry is still in the development phase. Being in its infancy, the latter generates a significant level of legal uncertainty.

In fact, financial companies that engage in the crypto industry are navigating it on sight. A situation that exposes them to various risks of non-compliance, whether in their crypto investments or in the provision of services linked to these assets.

However, non-compliance with the standards in force is a source of legal proceedings as well as administrative sanctions such as fines. This is exactly what the Binance exchange suffered recently. Furthermore, legal uncertainty makes obtaining insurance or guarantees more complex. This has the effect of increasing the costs and risks associated with crypto adoption.

All of these threats are somewhat controllable. To achieve this, financial companies launching into crypto must prioritize certain sound practices in order to sustain their activities. Among these, the training of their staff, the implementation of regular audit procedures to evaluate the effectiveness of the security measures put in place. They should also consider opting for cyber insurance to cover possible losses resulting from cyberattacks which are legion in the crypto sector. Without forgetting practices in terms of technological and information monitoring, guarantees of making informed financial decisions.

Conclusion

The growing adoption of cryptos by financial firms presents undeniable opportunities for them. However, it is not without risks. These are not negligible. Between crypto price volatility and security challenges, institutional investors are exposed to substantial losses. Regulatory uncertainty in the crypto space does not help matters since it increases the risks of non-compliance, leading to penalties and additional costs. That said, companies in the finance sector can thrive in this new environment. Provided that they opt for relevant practices allowing them to minimize risks and ensure a sustainable adoption of crypto which should increase.

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