An Under-appreciated Way to Play the Growth of the Crypto Industry

We all know that the introduction of bitcoin ETFs was a watershed moment for the crypto industry – validating a technology 10 years in the making. 

But while investing in cryptoassets may be the highest performing way to invest in crypto over the long run, it may not be the most sustainable. 

Sure, Bitcoin is here to stay, but how does one make a directional yet risk-averse bet on the other approximately 20,000 crypto-assets in existence?

One way—as we have explained ad nauseam in this rag—is through backdoor crypto-native investments, such as Coinbase.

For long-term investors, though, taking a single bet on a transformational asset class is the cause for alarm. While Coinbase is obviously a great investment in today's context, any number of problems (regulation being the foremost) could easily lead to volatility.

Furthermore, beyond Coinbase, the universe of investable crypto companies is relatively small. While there are a handful of mining companies and brokers for investors to choose from, each of these relatively young companies comes with its own set of risks. 

But what if there was a way to invest in the longterm success of the crypto industry while also removing any of the potential risk?

To better explore this question and the potential solution, let’s first take a look at another comparable industry: hard asset mining.

Hard Asset Mining and the Royalty Model 

Hard Asset mining is one of the worst business models in the world – a sentiment shared by some of the greatest fund managers.

That’s because before drilling or production even starts, you have to pay huge sums of money to build out the infrastructure necessary to operate a mine and hopefully hit pay dirt.

However, there is one sector of mining stocks that completely avoids most of these pitfalls and detrimental headwinds. These stocks have a history of outperforming most commodity producers, regardless of size, even in the steepest bear and bull markets. They're called royalty companies.

The key to royalty companies is that they do not operate mines. They don’t put their boots on the ground, they don’t have thousands of employees… and most importantly, they are not riddled with sky-high or unexpected expenses that all miners face. 

Instead, royalty companies simply collect a percentage of every single commodity that is pulled out of the ground.

Bringing the Royalty Model to Crypto

Like our hard asset model above, investing in today's nascent crypto industry is relatively risky. While it's possible to get lucky and have an asset go 100x overnight, in the aggregate, choosing a winner is a lot like playing the lottery. 

This is an unrealistic strategy for the average investor looking to reduce risk. At the same time, missing out on the potential game-changing technology that is the blockchain is also highly risky for long-term portfolio returns. 

Long-term investors don't want to play the lottery; they want to be The House. 

Therefore, rather than attempting to choose the eventual winners from the small universe of crypto-native companies, it may be a better solution to choose established companies that can grow synergistically with the industry without any downside risk – much like a royalty company. 

Horizon Kinetics, provider of the Blockchain & Development ETF (BCDF), believes the best way to do this is by investing primarily in globally regulated exchanges. That is, exchanges that have been around far longer than crypto has.

Their premise is that existing, regulated securities exchanges will be the largest beneficiaries of the introduction of blockchain technology.

Why? Because these companies have a longstanding relationship with regulators.

Furthermore, the immense amount of capital already traded through these exchanges means that even a small improvement through the use of blockchain could result in immense savings.

Case in point: The Depository Trust and Clearing Corporation (DTCC), which processed $2.5 quadrillion worth of securities in 2022. Yes, you read that right, quadrillion. 

In December of last year, DTCC purchased Securrency to apply its blockchain-based tokenization technology to provide blockchain based trading.

Why? It all comes down to costs when you are transacting trillions of dollars a day worth of securities; even a .01% improvement in efficiency and costs results in a considerable amount of money.

DTCC isn't alone. Over the last year, dozens of established and regulated exchanges have been moving to tokenize assets. 

One could argue that crypto-first exchanges could begin tokenizing traditional assets and equities, as Kraken is doing. While they would be correct, the problem is the base at which they are starting. Remember our example above… quadrillions.

The existing globally-regulated exchanges also introduce a level of risk aversion. 

As Horizon Kinetics explains, these companies are already established, high-quality businesses with high amounts of cash flow. 

These companies aren't reliant on the growth of blockchain and crypto. Like royalty companies, these exchanges will participate in the technology's upside without any downsides. Heads, they win; tails, they win more.

By comparison, if for whatever reason the crypto industry runs into major headwinds or, god forbid fails, singular bets on crypto-first companies are doomed.

A Blockchain Adjacent Investment For the Risk Averse

The easiest and most direct way to participate in this line of thinking is to invest in Horizon Kinetics’ Blockchain Development ETF (BCDF). 

While most of the fund is currently invested in globally regulated exchanges, it also invests in asset managers, banks, cryptocurrency miners, and security companies. 

Will the ETF explode 1,000% overnight? Almost certainly not. But as explained above, it is a great way for those who are a little more risk averse to participate in the crypto economy in a backdoor investment.

More hands on investors could simply take a look at BCDFs top holdings to make their own investment decision.

As of May 20, 2024, the fund's top holdings are the following: