Tradition meets modernity
01. January 0001
- Institutional investors
- Alternative investments
Cryptocurrencies, ICOs, tokens, services on the blockchain - digitalisation is transforming the world of alternative assets. Dr Sofia Harrschar, Head of Alternative Investments & Structuring at Universal -Investment, and her colleague Daniel Andemeskel, Head of Innovation Management at the Universal Investment Group and Managing Director of UI Enlyte, explain how this revolution is affecting Service KVGs (service investment management companies). Among other topics, they highlight the gains that these new technologies hold for Institutional Investors and Asset Managers.
Digitalisation and in particular new technologies such as tokenisation, blockchain and artificial intelligence are playing an increasingly important role in asset management. What are the most important developments in your opinion?
Harrschar: Digitalisation is taking place on both the investment and the services side. We are therefore talking about a cross-sectional technology that affects the entire value chain. A relatively new development is that digital assets are becoming an increasingly important asset class for a broader spectrum of investors. This has many implications, including, for example, in the way funds need to be structured.
Andemeskel: In the past two years we have reached the next level in terms of tokenised instruments. This applies to blockchain instruments - from tokenised shares, debt securities, alternative investments, real estate and convertible bonds to cryptocurrencies, central bank digital currencies (CBDCs) and non-fungible tokens (NFTs).
You may remember that in March 2021, a digital artwork was auctioned off for almost 70 million dollars at Christie's in London. This would have been inconceivable a few years ago. These developments are reflected in the new regulatory framework aimed at keeping pace with the changes. In Germany, the Fund Jurisdiction Act (Fondsstandortgesetz) and the German Electronic Securities Act (Gesetz zur Einführung von elektronischen Wertpapieren) came into force last summer. Digital assets have thus been integrated into the regulated world.
How are management companies impacted by institutional investors’ increasing focus on digital assets and by the changes in asset managers’ entire value chain?
Harrschar: As a management company, Universal-Investment is working on reconciling the old world of regulated funds with the new world of digital assets. Our role is to offer our clients a consistent high-quality service, regardless of the new challenges that digital assets pose for management companies. We need to adapt the entire service chain to make it work for digital assets. One example is the processing of digital assets in all the different accounting systems. Pricing is another issue, including for our affiliated service providers. Risk management also needs to be adapted. Ultimately, we need to structure classic fund wrappers in such a way that investors can also invest in digital assets here. And this is only the first step. The next one would be to digitalise the classic fund wrappers themselves. Universal-Investment and Enlyte are already exploring ways this can be implemented as soon as regulation allows it.
Andemeskel: The blockchain universe is a whole new world, with immense potential for change. It is comparable with the introduction of the commercial internet in the 1990s. The changes also prompt questions: what interfaces do we need to create in order to map digital instruments? What are the custody issues if crypto assets are regarded as investable assets under § 284 KAGB? How would trading work? What about risk management? And the link to the fund's custodian? How do you provide data? From both a legal and tax point of view, several details still require further clarification. For example, although the tax authorities have already issued statements on the tax treatment of cryptoassets in direct investments, the treatment of fund investments still needs to be fully clarified. It is therefore crucial that we work closely with our business partners and the regulatory authorities.
What advantages do digitalisation and new technologies such as tokenisation and blockchain offer institutional investors and fund initiators?
Andemeskel: They result in a significant increase in the efficiency and speed of transactions in fund purchases. The process of identifying and verifying new customers (KYC) is also faster and more secure through a blockchain solution. Additional distribution channels are created. Institutional investors have new diversification opportunities if they use digital assets, even in assets in which they are currently not able to invest. Private investors can use STOs to invest in assets that were previously reserved for institutional investors. They are able, for example, to invest in non-fungible assets such as private equity, real estate and commodities. Another advantage is security as blockchain transactions cannot be modified. This creates security.
Harrschar: The role of intermediaries is also changing, with investors moving closer to the assets.
In Germany, the Electronic Securities Act came into force in June 2021. The industry sees this as the first step towards digital funds. Is Germany a pioneer in this respect? And what still needs to be done on the regulatory side?
Andemeskel: Germany has indeed shifted up a gear with the Electronic Securities Act and the authorisation of tokenised fund shares. On the regulatory side, there has been a lot of good will as well as considerable progress in the past two years. Germany is well positioned compared with its international peers and is on the right course. Some issues remain so the new laws need to be implemented in close cooperation with the regulatory authorities.
Let's take a look into the future, in 10 to 20 years’ time. What new technologies are on the cards in asset management?
Harrschar: Advances in digitalisation will lead to signficant changes in the financial and in particular the fund industries. I expect to see two major developments: first, there will likely be decentralised and direct access to many standardised investment opportunities. Second, investments will likely be customised and tailored to a far higher degree to the clients’ required form of investment. It is likely that today’s dominant blend will disappear.
Andemeskel: In 10 to 20 years’ time, the financial world will be far better connected. This will affect everything from investment to lending. It will also be far easier to invest in a sustainable and ESG-compliant way. In the future, investors may be able, for example, to invest directly into the cultivation and production of tea in India via the blockchain (providing that the tea farmers also offer their products on the blockchain). There will be far greater transparency. What is more, in the future it will be far easier to invest – comparable with the ease of online shopping today. There will be an influx of new market participants. The coronavirus pandemic has highlighted that if companies need to go digital, they can go digital. Financial industry players need to help shape this digital future.
What does this mean for you as an open infrastructure platform for the financial industry?
Andemeskel: We need to invest significantly into the quality and digitalised structure of our services. We are already at an advantage as we started dealing with all these topics early on and bundled our know-how and technical infrastructure into our subsidiary UI Enlyte. UI Enlyte is an independent white-label platform that allows its clients to participate in the ecosystem of digital assets without having to invest heavily into their own blockchain technology. Through UI Enlyte, we serve different client segments and profiles, including alternative investment managers. We have also recently begun to offer our technology to custodians who want to become active in crypto custody. Furthermore, our system allows standard special funds to invest up to 20 per cent in cryptoassets, in line with current regulation.
The German Electronic Securities Act (Gesetz über elektronische Wertpapiere (eWpG)): The law, passed on June 3, 2021, essentially introduces the legal framework for electronic securities in Germany. Physical certificates for securities are now no longer mandatory.
The Fund Location Act (Fondsstandortgesetz (FoStoG)): The law, which came into force on July 1, 2021, allows German special funds to invest up to 20% of their assets under management in crypto assets.
Markets in Crypto Assets (MiCA) proposals: Aim to regulate the digital representation of values and rights in Europe using distributed ledger technology. Initiated in 2018, set to be implemented by 2024.