Will asset management exceeding one hundred trillion be revolutionized by DeFi?

Author: inpower Wang Jun, RWA Observation

With the development of DeFi, is it possible for a new BlackRock or Vanguard to emerge in the crypto industry?

As of 2022, the total assets under management globally were approximately $126 trillion (AUM). With global wealth in financial markets at $329.1 trillion, about 38.3% of all wealth is managed by the global asset management industry.

However, the current management scale of crypto assets is only a few hundred billion dollars.

It might account for about 3% of the total crypto asset scale?

Traditional Asset Management Deeply Relies on Trust

The asset management industry, like many other segments of finance, trust is the core foundation.

Asset management refers to investors giving their money to professional asset management companies, which then manage the money on behalf of the investors, investing in stocks, real estate, bonds, etc., and charging management fees and performance shares.

In traditional asset management, when investors transfer money to asset management companies, they go through a series of complex contracts, compliance reviews, and other measures, which at least provide customers with a sense of security: the money is safe and still under control.

In the traditional asset management industry, well-established large asset management firms have a significant advantage in fundraising and brand image over emerging companies.

However, there have been major scandals like the Madoff case, but overall giants like BlackRock and Bridgewater (which has been rumored again recently) are still trusted by investors.

Crypto Asset Management Has a Poor Track Record

With such a large industry, the crypto space certainly won't miss out.

A few years ago, Yearn gained attention by claiming clients could earn up to 1200% annual returns.

Investors could engage in yield farming, liquidity mining, staking, and various other activities, all of which could be executed automatically through smart contracts…

However, most of it turned into a game of who could run the fastest.

Not only does the asset management industry lack trust, but every sector in the crypto space also suffers from a lack of trust.

From the ancient Mt. Gox to the recent shocking events of FTX and Terra, it is evident that the current crypto industry is still a mixed bag. (And there are clearly more fish than dragons; see experience the SEC's enforcement strength in the crypto space)

The original intention of DeFi was to create a financial landscape free from intermediaries, utilizing the power of blockchain smart contracts to give users complete control over their assets.

However, the crypto space, which was initially supposed to "secure trust through technology," is actually filled with distrust, and to outsiders, it can even be equated with "scam groups."

Within the community, "not your keys, not your coins" is regarded as an investment maxim by many professional investors.

Aside from a few asset losses caused by technical vulnerabilities, the vast majority of losses are actually pits dug by centralized institutions masquerading as DeFi (decentralized finance).

Traditional and Crypto Are Accelerating Integration

In the past few years, DeFi asset management has actually undergone significant changes.

The initial focus was on maximizing returns on individual assets, but the current focus has shifted to creating robust and risk-resistant asset pools to meet the needs of traditional users.

Traditional asset management giants like BlackRock are also making moves in the crypto industry, with Grayscale having launched a Bitcoin trust fund early on. (For more layouts, see besides BlackRock, what other financial giants are making moves?)

Barring any surprises, after the approval of the Bitcoin spot ETF, many other token ETFs will also be approved in succession. At that time, leveraging the channel capabilities of traditional financial institutions, a significant portion of crypto assets will be managed by asset management firms.

However, these ETFs launched by traditional institutions are still centralized financial products, but when investors review the underlying assets of these ETFs, they will certainly trust the records of custodial addresses more than the so-called audit reports from professional institutions.

But to achieve true integration, breakthroughs must also occur at the settlement end.

The biggest difference between blockchain transactions and traditional transactions is:

On-chain transactions are settled in real-time, while traditional transactions require settlement through authoritative institutions.

Authoritative institutions are also accelerating the adoption of distributed ledger technology (see Is it a conspiracy by the U.S.? A detailed explanation of the Federal Reserve and Swift's tokenization plan), filling in the technological gaps. If the settlement end can also be confirmed on-chain, and there are a large number of tokenized assets, the boundaries between traditional asset management and on-chain and crypto asset management may become very blurred.

The Crypto Space Has Its Own Cultural Characteristics

Currently, the crypto space is filled with stories of overnight wealth, and compared to other markets, cryptocurrency investors have a different mindset and culture.

Warren Buffett, as a traditional investment mogul, is called the "Oracle of Omaha" for averaging annual returns of over ten percent, but cryptocurrency investors and enthusiasts are only satisfied when their investments double.

The preference for high returns among investors complicates matters further, as it conflicts with the long-term participation that is crucial for asset management.

(To be honest, I bought LINK and CFG at the bottom, and now that they double occasionally, I feel a bit euphoric, especially after jumping on the Dogim Dogecoin inscription surge! Up to 50 times in one night! Did you participate?, which gives me a full understanding of the crypto investor's mindset.)

Due to various smart contracts, automated yield strategies, and an endless array of new ecological plays, the crypto space has actually established a more entertaining casino than Wall Street. Beyond profits and novelty, people are attracted to the crypto space because it is fun and has its own culture.

If a big player enters the scene, it will trigger a collective celebration in the crypto space, seemingly becoming a force against financial hegemony.

To some extent:

The issuance model of U.S. Treasury bonds is not fundamentally different from liquid staking;

The operational model of modern banks is far less transparent and reliable than that of stablecoin issuers;

The money printing mechanism of sovereign currencies has been scorned by Bitcoin enthusiasts for many years…

Using something like Dogecoin started as a joke, but as more people got involved, it became a cultural belief.

Even the creator of Dogecoin did not expect it to develop to this extent.

It can be considered a decentralized version of "Occupy Wall Street."

Non-custodial, permissionless DeFi asset management seems to align well with the ethos of the crypto space.

If led by reputable KOLs, it could potentially lead to the next paradigm shift towards democratization in financial markets. (Is this referring to MakerDao?)

This shift will allow a wide range of global investors to access the global financial market.

The Yearn project currently manages around $300 million, and it still adopts a permission-based principle for issuing funds; perhaps this is the short-term direction for Web3 asset management.

Is "Non-Custodial Funds" the Key to Breaking the Deadlock in the Future?

Non-custodial means that at no time during the transaction or service does the platform or third party hold or own the funds or assets. The entire process typically occurs through smart contracts.

This is in contrast to custodial services, which hold users' funds or assets for safekeeping, management, etc.

Custodial services currently have advantages in recovery and security, allowing reputable centralized services to better assist users in the event of theft or malicious activity, as most of them are insured.

Non-custodial services carry smart contract risks, where vulnerabilities or error-prone code can be exploited to steal funds. Additionally, if users lose their private keys or access to their accounts, they typically have little chance of recovering their funds.

If asset management companies can manage users' funds through technology without holding them, it could solve many regulatory issues.

For example, smart contracts can implement investment strategies through oracles or other preset logic, ensuring that profits generated for depositors following the asset management company's strategy are automatically and appropriately distributed to both parties.

With the proliferation of self-sovereign identity (SSI) in regulatory agencies, mature managers could even create local strategies accessible only to existing clients; in this way, they can benefit from all the advantages of cryptocurrencies without increasing regulatory risk exposure.

In practice, decentralized exchanges like 1inch and Uniswap, lending services like Maker and Compound, and the previously mentioned Yearn and well-known project Solv all adopt non-custodial solutions.

However, in the asset management industry, the biggest resistance to non-custodial solutions still comes from regulation:

In the 1940s, the U.S. passed the Investment Company Act, which stipulated that fund managers could not self-custody and must seek third-party qualified custodians that meet SEC regulations.

The ultimate way to break the deadlock may be for SEC-recognized custodial institutions to launch non-custodial solutions or to recognize non-custodial technology according to certain standards.

However, matters like regulatory games should be left to the tech giants in the U.S.~

Perhaps influenced by this, crypto asset management (Asset Management) currently looks like this:

Compared to the scale of traditional asset management, is it true that the smaller the current market scale, the more opportunities (pits) there will be in the future?