Blockchain technology is here to stay. Innovative companies using this technology for their applications will open up new markets, help shape the ecosystem, and be among the big winners of tomorrow.
By Sandro Bruehlmann, Portfolio Manager at Tavis Digital GmbH
We have already seen this when we compare it with the development of the Internet, the "Googles" and "Facebooks" of this world. The question arises whether and how one can profit from this development as an investor.
The hunt for the unicorn: Venture Capital as an attractive asset class
The last two decades have shown that young, innovative start-ups can grow into large companies worth billions. Technology giants play a dominant role here. Successful and rapidly growing companies usually have the status of "unicorns", a company with a market valuation of at least USD 1 billion.
Unicorns, mystical beings that seem unrealistic and yet exist, at least in financial jargon. The attributes ascribed to them are not entirely absurd. After all, the chances are infinitesimally small that the average private investor will invest in exactly the "right" company, at exactly the "right" time and under exactly the "right" conditions, or even gain access to it. But hyper-growth and the associated return opportunities are precisely the goals of every Venture Capital investor or fund manager. The fact that (professional) investments in start-ups can be highly profitable, is demonstrated by the example of Accel, whose early investment in Facebook of USD 12 million generated a return of USD 6 billion, corresponding to a "Cash-on-Cash multiple" of 500x (!) (the CoC is the amount the VC fund receives as proceeds when it exits the investment, divided by the amount it initially invested in the company and, unlike the IRR, does not depend on when the exit occurred). This is certainly an extreme example. Nevertheless, it is symbolic of the high return expectations in the Venture Capital industry. Statistics show that the Venture Capital asset class has historically generated the highest returns over various time windows (based on the performance of the "top quartile").
Table: Historical outsized returns Venture Capital (in %, top-quartile)
Source: Cambridge Associates Global Venture Capital, Global Private Equity, and Global Real Estate Benchmarks Return Report, 31 December 2015 The private equity asset class exclude Venture Capital. 5-, 10-, 15-, 20- and 25-year returns, representative of the average pooled IRR for vintage years up to 2014. Historical data is no guarantee of future returns and high returns carry high risk.
In addition to attractive returns, investments in Venture Capital are also ideally suited for diversifying the investment portfolio due to their low to moderate correlation with other asset classes. Although VC returns are also subject to certain cycles, a lack of daily market valuation and the long-term investment horizon can lead to a rather lower correlation. Of course, it also holds true for Venture Capital investments that the return is strongly dependent on the risk taken and the Venture Capital industry represents an asset class that is subject to high risks.
The Blockchain (r)evolution: An emerging technology away from hype and speculation
New technologies such as Artificial Intelligence, Machine Learning, and especially Blockchain Technology will change the world in the coming decades and give digitalization a tailwind. Accordingly, it can be assumed that the next unicorns and blue-chip companies will emerge from the blockchain ecosystem. In 2008, the first so-called "white paper" on a decentralized, digital currency was presented. The result of this application is probably the best-known cryptocurrency, Bitcoin, which does not require any confidence-inspiring government guarantee. This application has been working flawlessly for 12 years and is considered the best "proof of concept" for the blockchain technology.
But not all Blockchain is the same as Bitcoin. This new technology offers much more extensive application possibilities. A separate Blockchain-driven industry has evolved, in which innovative, technology-driven companies develop applications and thus, build infrastructure. In many respects, it is not yet possible to foresee how great the influence of Blockchain technology will become and how it will affect our daily lives. What is certain, however, is that the potential is immense and that companies all over the world are intensively involved with Blockchain technology. This is also exemplified by the latest empirical studies by Deloitte, according to which over 50% of the companies surveyed regard Blockchain technology as an indispensable strategic top 5 priority (Deloitte's Global Blockchain Survey, as of 16 June 2020).
Figure 1: Blockchain technology and its relevance for companies
Source: Deloitte's Global Blockchain Survey, June 16, 2020, data based on interviews with 1,488 senior executives in 14 countries about their assumptions about the use of blockchain technology in their respective companies.
Companies already demonstrating the greatest potential are mainly in the financial sector, building an alternative and highly efficient financial infrastructure with new, simplified, and secure applications. It is not surprising then, that these very companies are already on Venture Capital firms’ radars.
"The Blockchain industry has developed rapidly in recent years. Companies that are building this ecosystem are showing tremendous growth rates. I see clear parallels to the advent of the Internet, and I am convinced that Blockchain companies have the potential to become the next blue-chip generation."
Dr. Bernhard Vogeli, Managing Partner at Tavis Digital
"Use Blockchain in order to invest in Blockchain" - How investors gain access to these attractive markets
Experience has shown us that the most attractive access to technology-driven companies is Venture Capital, as this allows investments to be made in emerging companies at a very early stage. Access to highly specialized Venture Capital funds was previously reserved for a small, exclusive group of investors, as the minimum investment amounts required are around USD 5 million. Besides, the lack of a secondary market and a lock-up period of 10 to 12 years severely restricted tradability, thus making such Venture Capital investments very illiquid.
Blockchain technology provides a solution to these problems: the illiquid funds are tokenized. Venture Capital fund managers, particularly those who invest in blockchain companies, are already taking advantage of the benefits of blockchain technology by digitizing their funds, i.e. tokenizing them and making them available to investors via tokens. These tokenized fund shares can be divided into almost any number of pieces, are tradable and can be implemented and distributed very cost-efficiently. The market is still young and liquidity is still limited, but tokenization is already solving a few important problems of the Venture Capital world and makes it available to new investors.
Venture Capital managers who focus on Blockchain technology companies and who have already implemented tokenization of their funds are among the leading experts and players in this new sector. These fund managers have a proven ability to access the best Blockchain technology companies and investments at an early stage, as they are strongly integrated into this ecosystem. These players often have many years of experience in the VC sector. However, it is important to separate the wheat from the chaff, as the right selection of the best managers and top-quartile products is of paramount importance to benefit from this yield potential. In addition, there are certain investment restrictions on the part of major investors, some of whom are prohibited from investing directly in new funds or so-called "emerging managers", i.e. upcoming, innovative fund managers. According to Cambridge Associates, it was precisely such fund managers that generated over 40%-70% of the total returns for this asset class in the ten years from 2004 to 2014. When these findings are combined into a dedicated investment strategy, a professionally managed Fund-of-Funds focusing on leading tokenized Blockchain VC funds promises the highest expected returns.
Figure 2: Investment in tokenized VC funds via security
Source: Tavis Digital, June 2020. Investment in "Fund-of-tokenized VC Funds" security is via traditional bank subscription using a Swiss ISIN. Investors do not need to handle tokens and have exposure to a diversified portfolio of fast-growing tech companies. By investing exclusively in tokenized funds, a certain liquidity can be offered to investors. An investment in a security is not a risk-free investment and depends, among other things, on the underlying portfolio - a complete loss of value is possible.
Fund-of-Funds managers generally have long-standing contacts with the leading players and a deep understanding of the sector and technology. They pool capital and make targeted investments in what they view to be the best VC funds. Investors benefit from professional fund analysis and manager selection, as well as from established risk management processes including monitoring and reporting.
A well-implemented Fund-of-Funds concept in the Blockchain VC funds area leads to a well-diversified portfolio of globally leading, tokenized Venture Capital funds, and thus exposure to dozens of Blockchain technology companies with potential.
In this early phase of sector development, it is important that the investment products used and their structures are light, i.e. economical and agile. By using an AMC (Actively Managed Certificate) with a Swiss ISIN instead of a traditional fund structure, minimum investments and costs can be kept low, which benefits the investor, who receives a product of institutional quality including a regulated setup. History repeats itself as we all know. If you want to seize your chance to invest in the Facebooks and Googles of tomorrow, you should look for Blockchain technology companies today. The Fund-of-Funds approach with investments in tokenized Blockchain VC funds may seem a particularly attractive way to do this.
Tavis Digital is an innovative Swiss asset management company that focuses entirely on the portfolio management of digital assets. As a spin-off of Tavis Capital AG, a finma-regulated asset manager with over CHF 1 billion AuM from institutional investors, Tavis Digital positions itself as a pioneer in the asset management industry. Tavis Digital has a pipeline of highly attractive, scalable investment products in the area of digital assets, ranging from real estate to blockchain/crypto assets. Packaged in common securities, these digital assets can be made available to traditional investors in a short time. Through institutional investment processes and professional portfolio and risk management, we offer investors the greatest possible security and quality in accessing digital assets. We can also provide investors with the liquidity that digital marketplaces and an efficient digital secondary market provide.