Enabling the future of digital assets — why we’re excited about Copper

We remain excited by the long-term potential of digital assets to reshape the future of finance. As Copper announces ClearLoop, its off exchange settlement offering, I wanted to highlight some of our thinking in making the decision to back the Copper team.

Founded in 2018 by Dmitry Tokarev, Copper has developed a next-gen integrated trading and custody infrastructure. The business has quickly established itself as the go-to provider of safeguarding and trading infrastructure for institutions invested in digital assets.

We continue to spend time with many Blockchain start-ups as part of our ongoing research in the space — we’re a research-led fund — and what has become clear in capital markets is how fundamental the infrastructure layer is for the ecosystem to further develop and prosper. We believe Copper has what it takes to become a critical part of this infrastructure.

The importance of robust digital infrastructure — our investment thesis is built around five pillars

Copper has an impressive founding team with strong domain knowledge across both finance and technology. Dmitry is passionate about the company culture and has demonstrated an ability to hire top talent. No VC investment makes sense without this critical component.
Institutional investor interest in digital assets is growing. We expect growth to continue as the number of digital assets increases, the regulatory frameworks are further developed and more robust trading infrastructure is built.
The infrastructure layer will accrue value as flows increase. Companies facilitating the flow of transactions will quickly become critical infrastructure in the eyes of large market participants.
Copper offers the market a unique proposition. Copper combines a custody and settlement offering, along with prime brokerage services, to create a unique proposition in the market. This has been further validated by the recent launch of Copper ClearLoop, the first off-exchange settlement product in the market.
First mover advantage creates strong network effects. The ‘walled garden’ ecosystem creates strong network effects for asset managers and other ecosystem participants. Copper ClearLoop further strengthens this position. We believe Copper is uniquely positioned to innovate and offer products that leverage this network effect with a product roadmap aligned to this vision

Blockchain and digital assets are here to stay

Just over 11 years after the launch of bitcoin, blockchain has been firmly established as an enabling technology.

Enterprise adopting is accelerating: A number of the large banks and asset managers have teams deeply involved in the space, with JPM launching its own coin last year and Fidelity launching a dedicated business unit.
Investment in the space is growing: Deloitte’s most recent blockchain survey showing over half of respondents seeing blockchain as critical and one of the top 5 priorities for the organisation.
Demand for blockchain talent is sky rocketing (ask any tech recruiter!)

Digital assets are becoming more widely accepted and the potential business models that can be enabled by the digital exchange of value are progressing fast.

The importance of stablecoins continues to grow: Tether and USDC (USD-backed one by Circle) are becoming more widespread as payment and settlement mechanisms. The 2019 announcement of the Libra project catalysed a renewed interest in digital currencies.
Regulatory clarity is emerging: This is often cited as a major growth catalyst for digital assets. Regulators are working hard to develop friendly environments to enable this growth and we expect to see a material improvement in the regulatory environment. Just in the last six months, we’ve seen a number of important jurisdictions (Germany, Japan, France and Canada) roll out specific legislation to address custody of digital assets.
DeFi offers new potential use cases: Decentralised finance (DeFi) is the movement to open source financial product building by using Ethereum protocols to design composable financial architectures. The creativity enabled and fostered by DeFi is already resulting in an explosion in the number of financial products (e.g. lending, asset management, payments). The space is developing fast with investors backing a range of new businesses — such as Compound backed by a16z and Argent backed by Paradigm and Index.
Digital assets are already viewed as a new alternative asset class: One of the clearest signs that the ecosystem is maturing has been the ‘institutionalisation’ of Bitcoin (Tudor Investment Corp has recently amassed a position and institutional investors represented 88% of all Q1 2020 inflows for Greyscale). Starting mostly as a consumer hobby, Bitcoin is emerging as an asset class. This new wave of adoption requires a move from B2C exchange offerings and self-custody wallets, towards capital market infrastructure and institutional products. A new wave of category leaders will emerge.

The Copper proposition enables access to institutional investors, opening up the asset class to them

Growth in digital asset investment from institutions has been hampered in-part by a sub-optimal market structure that leads to two key issues:

Unacceptable operational/credit risk: Impacts all buy-side firms, especially those looking to attract external funding or become regulated. Crypto-focused funds reluctantly accept these risks due to the attractive return potential. But few LPs are willing to engage, making fundraising difficult. Compliance risks prevent traditional asset managers from participating.
Low capital efficiency: Especially problematic for actively trading asset managers (e.g. high frequency traders) that are required to pre-fund accounts with different exchanges. This results in capital being ‘locked-up’.

While some crypto funds are willing to take this risk, compliance risks prevent many traditional funds from participating.

The Copper platform addresses these issues and is quickly proving to be a critical piece of infrastructure for any buy-side firm that wants to hold or actively trade digital assets. Copper differentiates from other custody offerings by connecting its product directly with trading venues, thereby creating an integrated ‘walled garden’ ecosystem.

Copper ClearLoop moves the industry forward — now live!

As the digital asset market — driven by Bitcoin — has grown with retail investors, Exchanges currently control the end-to-end client relationship by acting as 1) a key source of liquidity, 2) a custody provider, 3) execution, and 4) a clearing & settlement venue. In traditional assets such as equities, each of these functions is highly specialised and usually handled by different providers.

Over time, the digital asset ecosystem will segment to mirror operating models of more traditional assets and a core element of this is off-exchange settlement.

Copper is extremely well positioned to take advantage of this opportunity and further open up the digital asset market for institutional investors. The team has just launched ClearLoop with a number of exchanges, including Deribit, and is advancing fast with numerous others.

This is a huge achievement & the team should be really proud.

ClearLoop enables clients to trade directly from their custody account, without having to move their funds/assets to exchanges. This delivers multiple benefits by reducing credit risk, optimising capital efficiency and over time will have positive network effects.

Best in class technology is necessary but not the only ingredient for success

Success in the category is not about increasing market share within the crypto space but about expanding the ‘pie’ by facilitating the participation of traditional institutions. Best in class technology is just one of the ingredients required. Arguably, a nuanced understanding and experience of the regulatory, operational, and legal frameworks involved in capital markets is just as important. In other words, we believe the digital asset infrastructure needs to be interoperable with some of the existing regulatory and legal structures, as this will facilitate easier adoption by traditional institutions.

Some may see this as giving up on crypto’s promise of providing services with less centralisation and intermediation. But, to us, this is a way to build a solid foundation that will enable a sustainable growth for the crypto ecosystem in the decades to come.

We’re backing an outstanding team with the right ingredients for success

The Copper team has multi-decade experience in capital markets and a deep understanding of the technology and in our opinion, both are required to be successful in this space. When talking to institutional investors — Copper clients and non clients — as part of the deal due diligence, capital markets knowledge was often highlighted as the reason Copper was selected above others. This is clearly apparent when you understand the thinking behind the product.

Dmitry, Copper CEO and founder, has a background in capital markets technology (CTO @ Dolfin) and hedge funds and it was when looking to set-up investment vehicles for Bitcoin that he saw the gap in the market that Copper now fills. Dmitry has built a strong team around him and we continue to be impressed at the rate at which the business can iterate and release new product.

The digital asset market changes quickly

Copper’s future, as with all start-ups, is by no means certain and this investment comes with some obvious risks. The market is nascent and evolving fast, there are a number of well capitalised competitors pursuing a similar strategy and the business model needs to evolve with the product offering and market.

We’re delighted to be part of this journey with our friends at Target Global and LocalGlobe, and look forward to supporting Dmitry and team with their ambitious plans.

Learn more about the Copper proposition here, or join the team on the adventure.

We are a research-led fund with a strong heritage in financial services and over the last couple of years we’ve been looking at blockchain. My colleague Asen, who also worked on this investment, published a full report of the UK blockchain ecosystem and has recently posted his latest market insights along with a map of 230 start-ups in the space.