The new law regulating crypto asset trading over distributed ledger technology (DLT) in Switzerland has resulted in an increasing level of security for investors without hindering technological innovation.
“Blockchain and DLT are the technologies of the future, without a doubt [and] progressive regulation is therefore fundamentally beneficial for Switzerland as a financial and business location,” Philipp Weber, senior investment consultant at c-alm, told IPE.
An adequate regulatory environment can improve legal certainty and protects market participants. “In the case of the Swiss DLT regulation, for example, the legal security for investors is protected with regards to insolvency law regulating the segregation of crypto-based assets in the case of bankruptcy,” he added.
The Federal Act on the Adaptation of Federal Law to Developments in Distributed Electronic Register Technology (DLT Act) entered into force on 1 August, following parliament approval and the review by the government, amending existing laws.
The law regulates the segregation of crypto-based assets in the event of bankruptcy, and the segregation of data. Moreover, the “Fintech license” has been slightly extended to avoid that, after changing the insolvency law, certain “bank-like” business models for the collective custody of crypto-based assets are not subject to supervision, according to a document of the federal department of finance (FDF) explaining the amendments to the laws.
According to Bernadette Leuzinger, chief executive officer of Crypto Finance Asset Management, which runs the first crypto fund approved by the financial supervisory authority FINMA, Swiss regulators have an overall understanding of the topic of crypto assets.
“[They] started early on to follow the developments in the market and address the topics which are relevant from a regulatory point of view,” she told IPE.
The CEO added that the DLT Act has had for example a double function of further strengthening regulatory clarity on certain aspects of crypto assets and technologies, maintaining at the same time a “neutral approach towards technology, which also supports technological innovation.”
The recently approved rules introduce a licence for DLT trading facilities, a financial market infrastructure for trading in DLT-based securities that can also offer custody, accounting and settlement services.
Only derivatives designed as DLT securities without fair value and leverage components are permitted for trading.
These are products that are still based on a certain underlying asset, according to the FDF document, which added that in particular so-called “asset-backed tokens” should be permitted as derivatives for trading on DLT facilities.
Crypto funds are, in principle, not treated differently from a regulatory standpoint than other funds. However the fact that the underlying is not a traditional asset some aspects of the management may need special attention.
“For example risk management or the custody of the actual assets need stronger and more refined processes and the parties involved need to have the relevant experience to handle the specific aspects of the underlying crypto assets,” Leuzinger said.
Crypto assets require a “different way of thinking” in terms of counterparties, execution or safekeeping of the assets, to name just a few, Leuzinger said, adding that this is still a challenge especially for institutional investors.
Existing trackers and certificates for crypto assets in the market do not eliminate counterparty or issuer risks. “By providing a product under the Swiss regulatory framework, these issues can be resolved,” the CEO said.
Crypto assets for pension funds
Institutional investors in Switzerland have been exploring the possibility to invest in digital assets for quite some time.
“Institutional investors are seeking exposure to this asset class but they want to do so in a way that satisfies their needs and requirements,” Leuzinger said, adding that the crypto fund that Crypto Finance runs offers institutional investors a traditional structure under regulatory supervision, which gives them reassurance to invest in a new asset class.
Crypto Finance has received commitments from institutional investors, including pension funds, and it is in talks with further investors, she added.
Weber doubts of the benefits of crypto currencies in terms of asset liability management (ALM), as long as Swiss pension funds pay out their pension benefits in Swiss francs.
“In terms of ALM, foreign currency risks should only be taken into account if they are expected to be adequately compensated or are expected to give sufficiently high savings in hedging costs,” he said.
Since crypto assets and in particular crypto currencies generally do not generate returns, the intrinsic value of an investment cannot be determined based on a conventional fundamental analysis.
“In my opinion, investing in crypto currencies contradicts the investment view of most pension funds [and] in my perception the interest of Swiss pension funds for investments in crypto currencies has so far been subdued,” Weber added.
Investing in crypto currencies, Weber argued, can however be justified in many cases by three factors: a predictable but not yet priced increase in demand that will lead to an expected increase in the price of crypto currencies; protection from the risk of inflation; and diversifying the portfolio, protecting it in times of crisis.
“Based on the experience of the bull market for commodities prior to the last financial crisis, I think that these three justifications for investing in crypto currencies should be taken with a pich of salt,” he said.