Next week, the entire digital asset industry will be celebrating Bitcoin’s 14th birthday, memorializing the moment Satoshi Nakamoto minted the very first Bitcoin block on Jan. 3, 2009. Since then, the industry has had cause to celebrate milestones both big and small: from the very first time the cryptocurrency was used to purchase a real-world item a year later – two large pizzas, to be precise – to the long-awaited launch of the United States’ first Bitcoin futures exchange-traded fund, issued by ProShares in 2021.
The industry’s journey has certainly been far from linear. Now in the throes of adolescence, Bitcoin is still experiencing growing pains as regulation catches up with innovation, while the entrance of new players – institutional or otherwise – continues to shape its future. As the industry grapples with the implosion of some of its biggest giants in recent months, what lies ahead for Bitcoin in 2023?
Impressions versus reality
If 2022 will be remembered for anything in the history of digital assets, it will be that it was the year of the Great Crypto Collapse — market swings and price dips aside, incidents of fraud and mismanagement have embattled the industry. First, the collapse of Terra-Luna this spring and the resulting losses suffered by crypto hedge fund Three Arrows Capital, which triggered a wave of bankruptcy filings. Now, the demise of one of crypto’s largest exchanges, FTX, filing for bankruptcy after the misuse of customer funds.
The events of this year have shaken institutional investors who had been slowly warming to digital assets. Crypto funds and projects had been lauded as “buttoned-up” success stories promised high returns as well as minimal correlation to other assets – a highly lucrative opportunity amid the looming threat of recession, the impact of high inflation, and ever-increasing return mandates. Trust was so high that the CFA Institute’s 2022 Investor Trust Survey found that 94% of state or government pension plan sponsors globally were investing in cryptocurrencies. Meanwhile, almost a third of institutional investors globally had invested in digital assets by the first half of 2022, according to Fidelity Digital Assets.
The repercussions of this year have been painful. The Ontario Teachers’ Pension Plan (OTPP), one of the world’s largest pension funds with approximately CA$242.5 billion (US$178.7 million) in assets under management, had made prior investments in both FTX International and FTX US, valued at US$75 million and US$20 million respectively. Following FTX’s collapse, OTPP announced that it would be writing down its investment in FTX to zero. Other firms such as Singapore government-owned Temasek Investments and venture capital firm Sequoia Capital have also seen their investments zeroed.
Caution will abound in the year to come with institutional money flowing into the space likely to dwindle, especially as investors look to mitigate the effects of broader macroeconomic headwinds. Crypto may have been a vehicle to diversify portfolios, but it will lose its luster as bad actors squander all the good work done to date, leading to plunging prices. However, there is a silver lining – greater demands for due diligence and an emphasis on corporate governance, perhaps even prompting greater oversight from limited partners who will want to see venture capital funds sitting on the boards of their crypto-related portfolio investments. Better oversight could be what helps build the trust and legitimacy the industry needs to go mainstream, remembering this year’s events were sparked by a lack of transparency and deficient risk management, while the underlying technology kept working flawlessly.
Going for green
Investors’ attention has not been solely focused on crypto this past year. Environment, social and governance investments have intensified as the finance industry looks to wean itself off high-carbon, high-risk assets and look for future growth areas. Impressive results from ESG assets have sweetened the deal, with 60% of institutional investors surveyed by PwC, stating that ESG investing has already resulted in higher performance yields relative to non-ESG investments.
For those with both green and crypto holdings, there is the question of squaring Bitcoin’s growth potential with its carbon footprint. For years, critics have spoken on the sustainability and energy-efficiency issues surrounding Bitcoin mining while supporters highlight the use of renewables or of surplus energy to power operations, thereby reducing wastage in energy production.
Either way, regulators are moving fast. This November, a two-year moratorium on new permits for fossil fuel-powered, proof-of-work (PoW) mining operations was signed into law in New York as the state looks to re-evaluate its economic development opportunities against climate goals. And in the same month, Bitcoin mining revenue hit its lowest in two years, all while the network’s mining difficulty hit a new all-time high of 37 trillion, demanding more computational energy and therefore, more energy expenditure which comes at a cost.
Meanwhile, the European Union ushered in the Markets in Crypto Assets (MiCA) framework which has called for a more sustainable crypto industry as a whole. Though explicit mentions of PoW were eventually stripped from the bill, sustainability is certainly an area that E.U. policymakers will be watching for the foreseeable future.
Ever since the Ethereum network successfully transitioned from PoW to proof of stake (PoS) via “the Merge” this past September, analysts have been quick to argue that ETH may become the new face of sustainable crypto assets. The Ethereum Foundation estimates that the move to PoS will reduce the network’s energy consumption by 99.95% and during this year’s United Nations Climate Change Conference, a cohort of Web3 companies unveiled the Ethereum Climate Platform, which looks to “redress and counteract” the network’s carbon footprint dating back to the network’s launch in 2015 by investing in ongoing science-based climate projects. Ultimately, until we see renewables become the standard — rather than the alternative — ETH investments may very well become the norm for ESG-minded investors.
Starting from zero
However, with uncertainty comes opportunity. While depressed prices have allowed determined HODLers to purchase more BTC cheaply, institutional investors have seen it as a chance to short the market. CoinShares found that in the last few weeks of November, 75% of all institutional crypto investments went to short crypto investment products. Now, should prices stay as they are, compounded with the current economic environment, investors may choose to hold their positions in order to stave off losses. After the recent events, it seems we may have reached a point of seller exhaustion. Seeking an opportunity to invest in an undervalued asset, institutions may choose to flock to crypto again.
For better or for worse, the challenges facing the crypto ecosystem for the past few months will ultimately be a test of resilience for both investors and projects alike. Bitcoin has survived previous cycles and will no doubt endure this one too, thanks to its function as a store of value and an enabler of new projects and innovations.
Promising developments are especially taking place in South America — in November, Brazil’s congress approved a new regulatory framework that will give legal status to payments made in Bitcoin and other cryptocurrencies for goods and services. While the framework has yet to be signed into law by the president and will not go as far as granting cryptocurrencies the status of legal tender, the move is still a significant step forward. Some financial institutions in the country have already expressed interest in the industry, such as the Brazilian branch of Spanish bank Santander, which announced earlier this summer that it intends to offer crypto trading services to its clients. The framework, however, would also allow banks to offer and facilitate crypto payment services which will be key in encouraging their widespread use.
Like any teenager, Bitcoin will ultimately face its very own crisis of confidence. Greater regulation may in the short term threaten the platforms and services that enabled an entirely new generation of investors to jump head-first into the space. However, the same regulatory framework ought to provide more confidence for institutional and sovereign players to enter the scene in the long term, with the assurance that Bitcoin and crypto are here to stay. Now, more than ever, the strength of its earliest supporters will make all the difference — the dedicated builders and innovators who continue to believe in its promise in enabling a better financial ecosystem.