This blog contains input from Wipfli Financial Advisors’ Chief Investment Officer, Rafia Hasan. She contributed to a previous blog about what the average person should know about investing in blockchain, which you can read here.
We also previously sat down with Girish Ramachandra, a senior manager in Wipfli’s technology consulting division, to define what blockchain technology is, why people are so excited about it, what its applications could be outside of cryptocurrency and what its common misconceptions are. You can read the insightful Q&A here.
A year ago, we were talking about potential blockchain applications and educating the public that cryptocurrencies like Bitcoin are only one use of blockchain. Because blockchain is the underlying technology that enables cryptocurrency, the two are not interchangeable terms, and in fact there are a wide variety of potential blockchain uses. Since my last blog, we’ve seen more of these blockchain potentials become a reality.
Blockchain has shown no signs of slowing down. For example, J.P. Morgan recently began testing blockchain technology with its JPM Coin. This digital token instantly settles transactions between clients in its wholesale payments business, and it’s the first use of a digital coin by a major U.S. bank.
But it’s important to put this news in perspective. You may wonder why we’re seeing a bank invest in a digital coin now when most consider cryptocurrency too risky. Cryptocurrency is not backed by or redeemable for a fiat currency, whereas the JPM Coin is redeemable by the bank for one U.S. dollar and is not subject to fluctuation like cryptocurrency. What’s more, while cryptocurrencies are largely unregulated and came to prominence initially as a way to circumvent the traditional banking system, J.P. Morgan is seeking regulatory input so that its coin has a stamp of approval from authorities.
What Blockchain Means for the Average Person
A good comparison for the continued evolution in blockchain technology is the internet. It was a big jump to go from computers — which were very expensive at their outset and not available to the general public — to the internet. It was the internet that transformed the use of computers and made them widely available, from the chunky home desktops of the late 90s to the slim smartphones we carry around everywhere with us today. And then we went from email and e-commerce to social media and video streaming in a relatively short period of time. The internet caused so much disruption that we have a continuing 90s nostalgia movement just because that decade seems like a lifetime ago, not just 20-30 years.
What the internet did for the exchange of information, blockchain has the potential to do for the exchange of a digital asset’s value. Right now, many people in the blockchain space are talking about “tokenization,” which breaks down the ownership of an asset into digital tokens to allow wider-scale ownership of that asset. Tokenization started with initial coin offerings (ICOs) and has evolved to securitized token offerings (STOs), which have the potential to unlock the value of trillions of dollars of assets that are currently closed to the average person and make them more accessible.
We’re talking about real-estate holdings, private equity, etc. When these assets are tokenized and brought into the market, it could impact the average person and how they do their financial and retirement planning, as well as where and what they choose to invest in.
But should these investments be a part of an investor’s portfolio? Rafia says about the wider access potential, “Currently, private equity, venture capital and other similar investments are not available to retail investors because there are a lot of regulations preventing it, as they tend to be riskier asset classes, and regulators don’t want them to be available to the general public. It’s a deliberate distinction from an access standpoint. If STOs are subject to the same regulations, we could see the same guardrails come up to protect the average investor.”
It’s the responsibility of governments to implement the necessary regulations to safeguard people from fraud. In particular, there were lots of fraudulent ICOs that duped investors because of the lack of current regulations. The U.S. Securities and Exchange Commission (SEC) even created a dummy ICO site to show investors just how easy it is for a company to put an ICO together and defraud the average investor out of their money.1
“It’s valuable for us to stay informed of what is going on in the industry and coming down the line in innovative technology, so we can help our clients plan appropriately, but in our view a lot needs to happen before we would even begin to consider the adoption of these types of securities in an investor’s portfolio,” Rafia emphasizes.
How Disruption Brings Blockchain to the Masses
Disruptions in the marketplace don’t necessarily announce themselves. In hindsight, it’s easy to look back at the signs, but many companies don’t take emerging disruptions seriously enough or evolve in time to survive.
We’ve seen Blockbuster go under because of Netflix’s original DVD mail service, which evolved further into video streaming and has sent TV networks and other media companies scrambling to put out content streaming services of their own. The internet’s wider access to information basically killed travel agencies. Now we have e-commerce travel sites that let you view and book cheaper flights and hotels on your own. And don’t forget how we’ve seen Amazon make a range of businesses extinct.
But we get comfortable with what “today” is like and don’t think as much about what “tomorrow” not only could be like but also will be like, with or without us. Businesses continue to ignore potential disruption, which is a mistake.
J.P. Morgan is trying to put itself ahead of blockchain’s potential disruption with JPM Coin. We see this across industries even outside of blockchain. For example, manufacturers have been investing in technologies like the internet of things (IoT) and artificial intelligence (AI) to stay ahead of the competition. More and more businesses are recognizing that disruption will come eventually, and so they are researching and planning out how they can be leaders in that disruption.
There is risk involved, of course. When you’re using technology to change your fundamental business model, there are small experiments you need to do before you can announce you’re changing that business model — no matter how big or small your company is. You can’t do it overnight.
For J.P. Morgan, JPM Coin represents one of these small experiments in blockchain to see how its business can potentially evolve to meet the changing needs of its customers (and head off/lead industry disruption). Essentially, this is a pilot project it’s testing with a small percentage of the money it moves internationally every day for its institutional and corporate clients, which will allow it to work out the kinks if it decides to roll out JPM Coin on a larger scale.
But it might not be the only one. Although this appears to be an important development within blockchain usage, it’s impossible to predict if there will be another player that comes into the field that finds an even more compelling way to use blockchain than J.P. Morgan. There may also be uses of blockchain technology in sectors other than banking that are even more of a value-add.
So what does this mean for the average investor? “Investors should approach these situations with caution,” Rafia warns. “In 2018 companies were changing their names to add the word ‘blockchain’ and subsequently saw the value of their stock increase (even though their business did not involve blockchain).2 Regulators cracked down on this fraud. As always, Wipfli Financial advises taking a well-diversified approach to investing and spreading your risk across companies, sectors and geographies so that your portfolio is less impacted by the success or failure of any one company.”
It’s certainly a statement that J.P. Morgan is investing in blockchain technology, but these investments are happening across industries without as much public attention. Nonprofits and world governments are researching blockchain’s potentially huge benefits, in particular. (Read more on that here.)
Many people continue to wonder how blockchain impacts them personally. If you have questions, you can read about what the average person should know about investing in blockchain here, as well as learn more about Wipfli Financial’s investment philosophy here.