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What Financial Advisors Need to Understand About ICOs

Don’t dismiss this emerging asset class as a simple fad or scam.

By Bob Rutherford

We’re in the midst of the third internet boom.

Disruptive entrepreneurs are inventing new cryptocurrencies and competing to drive their values as high as possible, and eager investors are scrambling to get involved in this new financial phenomenon. Case in point: Since 2016, investors have funneled nearly $9 billion into initial coin offerings, and Telegram’s $1.7 billion success story proves that companies can raise serious funds through ICOs.

But like most boom times, an “anything goes” mentality is starting to give way to a more restrained and regulated approach. As a financial advisor, you’re tasked with arming your clients with the best information possible—a tall order considering how complex and fluid crypto and ICO regulation seems to be. But the most compelling reason to stay up-to-date with it all is also the simplest: Your clients are doing the same.

Curiosity about cryptocurrency is at an all-time high, and now that these assets are regulated and in line with the standard institutional investors, adoption is approaching a tipping point. Your fiduciary duty to your clients demands that you not dismiss this emerging asset class as a simple fad or scam.

Trending Toward Regulation

Last September, China outlawed ICOs in any form. But Europe and the United States have taken the opposite track. Security tokens—currencies that are directly related to the growth of the company—are subject to the same rules as any other securitized asset. Not every digital coin fits this definition, but a much larger number of ICOs now fall under the purview of regulators.

In response, crypto investors are taking new approaches to ICOs. Invoking the Regulation D exemption in the Securities Act has become popular because exempted assets don’t have to be registered with the Securities and Exchange Commission. Regulation A+ in the JOBS Act is also common because it facilitates participation by retail investors.

We’re also seeing more asset-backed token offerings. Essentially, the coins confer ownership of a physical asset, just like a traditional stock. And, unlike some ICOs of the past, these coins must adhere to all securities rules and be as transparent as a traditional IPO. Increasingly, new coins are seeking out the approval and oversight of regulators rather than trying to duck them.

Finally, the cryptocurrency market is expanding into lending and margin trading. Consumer and enterprise loans are both being adapted for the blockchain and expanding access to capital. Widespread margin trading is also helping to stabilize crypto markets and facilitate more serious investing.

Why Stay Ahead of the Crypto Curve?

When terms like “disruptive” and “cutting edge” get thrown around, it’s easy to assume that innovation is also inaccessible. In the case of regulated ICOs, just the opposite is true. Banks and smaller lenders are actually in a better position to capitalize on these markets than elite investment bankers.

Thanks to Regulation D, banks can offer coins to even non-accredited investors, which creates huge new revenue opportunities. Goldman Sachs, for instance, made $7.37 billion from investment banking in 2017 alone. A piece of that pie is now open to much smaller institutions.

The slice could be even larger than expected because many of the major players in the industry have shied away from cryptocurrency. They see it as an unproven and unnecessary part of their portfolio. Smaller banks are leaner and more agile by definition, making it easier for them to embrace ICOs and capitalize on a market where the competition can’t.

Here are some strategies for how you can adjust to this emerging trend:

  • Court young investors: Millennials are gaining economic power and evolving into the investor class of the near future. They also harbor more favorable views on cryptocurrency. One survey by Blockchain Capital, a venture capital firm, found that 30 percent of millennials would prefer to own $1,000 of cryptocurrency than an equivalent amount of stocks or government bonds. Younger investors have a built-in enthusiasm for innovation and disruption, making them ideal investors in brand new securities.
  • Adopt blockchain early: The blockchain promises to revolutionize everything from public debt to derivatives and commodities. While there’s a certain amount of hype baked into this forecast, the utility and potential of blockchain are undeniable. As proof, just consider that 55 percent of the executives in one Deloitte survey said they would be at a competitive disadvantage without blockchain. Right now, it’s an asset, but soon it will be an obligation, and the late adopters will have missed out. 
  • Embrace a new paradigm: Cryptocurrency isn’t just a new type of asset; it’s an entirely new way to think about investing. The City of Berkeley, Calif. is a good example. The municipality just issued its first ICO: initial community offering. Despite the winking title, this is an honest effort to raise money for low-income housing using the mechanisms of crypto markets. The point is that ICOs are disrupting every kind of market and creating entirely original investment opportunities. Financial advisors need to get on board or at least be aware of these trends if they are going to claim true expertise.

Regulated ICOs are a positive development; they bring cryptocurrency further into the mainstream. Offering these assets to investors is already possible for small banks and independent advisors. The ones that are best positioned for the future are the ones that embrace cryptocurrency now.

 

Bob Rutherford is the CEO and founder of Hedge.

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