Investors are giving institutional crypto platforms the cold shoulder, but there is a silver lining

ErisX. Bakkt. Fidelity. The list goes on. 

Last year, these firms were among the many brands that dove into the institutional cryptocurrency market with announcements of their respective Wall Street-aimed offerings.

At the time, bitcoin enthusiasts drooled over the prospect of new institutional on-ramps that promised to lure mainstream investors into the market, known for its cypherpunk and dark web roots. Still, despite a year of headlines, ErisX and Bakkt have very little volume to account for. Indeed, one investor in ErisX told The Block that the firm has facilitated "an embarrassingly small number of trades" since it rolled-out its spot market in April. ErisX declined to speak with this reporter, adding that they are "heads down." Meanwhile, Bakkt, which finally launched its futures market for bitcoin in September after months of delays, is seeing muted interest as well. On Wednesday, the Intercontinental Exchange-backed firm traded a mere 60 bitcoin (~$480,000). Ouch.

Source: The Block, ICE, Coinmetrics

There's also Seed CX, whom some might consider ErisX's cross-town rival. Seed CX, to its credit, might be the furthest ahead, trading "millions" in a given trading day, according to its CEO Edward Woodford. Still, it's a far cry from what Coinbase, Binance, and many other firms in the market see on their order books in a 24-hour period. 

And, sure, it is early days for all three venues. As my grandmother used to say, Rome wasn't built in a day.

Still, the lack of interest in trading on the aforementioned firms, relative to their crypto-native counterparts, is interesting to me as someone who has closely followed the mishaps of so-called "retail" cryptocurrency exchanges such as Coinbase et al. Despite the outages, turnover, and, erm, regulatory hiccups, it appears that traders are perfectly happy on "retail" platforms — at least right now. So what do native crypto exchanges got that the newbie, Wall Street-backed firms don't? It boils down to liquidity, according to the several traders and asset managers I've spoken to over the course of the last few weeks, and we all know that liquidity begets liquidity. 

"No one is in a hurry to on-board with more service providers," Jeff Dorman, chief investment officer of asset management firm Arca, said of the cohort of crypto-native investors. "There are now 100 different ways to express a view on Bitcoin - no one needs a new way to do this. If you're already in the crypto market you'll just use Binance or BitMEX or Deribit because you already have an account open there and the liquidity is better."

Indeed, a seasoned trader at a large over-the-counter trading shop agreed with Dorman's premise, noting that traders want to go where the liquidity is. "I want to go where I can get out of $1 million of risk at top of book," the person said. Indeed, the source said that dealers are actually looking to decrease the number of venues they are connected to, rather than seeking out new options. In addition, a number of dealers are internalizing more volume — that is to say bringing together buy and sell orders within their own systems, rather then sending them off to exchanges. That's a trend that could make the cryptocurrency market look more similar to equities, where large traders — think Virtu, Citadel Securities, and Jump Trading — internalize much of Wall Street's trading activity.

Of course, not all traders are created equal. Non-crypto traders and investors might be more interested in on boarding onto institutional-aimed venues, but those sales conversations take a long time. And for the most part, the Point72s and D.E Shaws of the world aren't interested in trading crypto in size. "As for the guys trading on BitMEX and Deribit, they are looking to take short term views, get in and out of risk quickly," the source said. Longer term investors are more likely to flock to the likes of Bakkt. It just takes time to build a market. 

It's gonna take time, A whole lot of precious time

In my opinion, each of these firms have their own respective silver lining with respect to building a robust marketplace — lest their public relations reps jump down my throat! 

Let's start with the bull case for Bakkt. For starters, their futures product is just a piece of the puzzle. One trader told The Block that the firm's roll-out was a bit rushed, potentially adding to the slow start to the market. "They really wanted to get to market," the person said. That shut out a few folks who were in the process of on-boarding, thus resulting in the muted launch, the person said. He added that there were a number of dealers interested in Bakkt's futures contracts, but are sitting things out until a few settlement cycles pass. It's also worth noting that Bakkt's business isn't limited to trading and futures. In the background, the firm is building out its merchant and retail business. It is also positioning itself as a custodian. In short, futures are important, but they are not the best way to gauge whether Bakkt has been a success or flop to date. 

As for Seed CX, again, I have to give credit where credit is due: they've had some big volume days for their spot market, buoyed in part by a new rebate program. But, to be clear, several of the traders I spoke to said that liquidity is still lacking on the venue. 

"Rule of thumb: my wallet shouldn't do more volume than your entire exchange," one particularly snarky trader put it. Still, many investors see a bright future in the firm's settlement solutions, which offer a way for traders to engage on a bilateral basis. 

"They have a really good administration/operations interface that's good for handling those kind of transactions," one trader said. 

Woodford described the business as "massive" and "growing" in messages to The Block. "We are the least funded but by far ahead," referring to his competition.

Oh, yeah — and then there's ErisX. 

Its fate hinges on the bet that large retail brokers link up to its venue. As chief executive officer Tom Chippas told The Block in July the firm is looking to partner with firms like TDAmeritrade rather than marketing directly to consumers. If TDAmeritrade went live with its own retail broker offering for crypto that flow would likely go straight to ErisX.

But it's not exactly clear when, or if, that will happen. 

If it does, that retail flow is a honey pot for contra flow from large institutional players. 

Only time will tell.