Instead of filing papers for an initial public offering with a securities regulator and then selling shares, blockchain companies are raising money selling digital tokens. That’s what Filecoin did in early August when it raised $252 million in just over half an hour.
Using the technology that underpins bitcoin, these providers of indelible digital ledgers are finding different ways to come to market. By raising funds directly from public markets to develop technologies and pay for storage, issuers of initial coin offerings – not IPOs but ICOs – can bypass private equity funds and investment banks. As such, they could radically disrupt capital markets.
That said, they are also sidestepping market regulators and threaten the power of central banks globally. So it’s hardly surprising the metaphorical empire is striking back.
In September, the People’s Bank of China issued a strongly worded statement against sales of digital tokens, declaring such activity illegal and ordering a shutdown. This Chinese crackdown followed July’s statement by the US Securities and Exchange Commission that some ICOs were subject to federal securities laws after all and an August warning to investors that some were potential scams.
That sparked heated debate but hasn’t stopped money pouring into such platforms. Celebrities from socialite Paris Hilton to boxer Floyd Mayweather are pumping money into new fundraising channels. In all, 202 ICOs have raised at least $3 billion so far this year, consultancy Coinschedule.com said.
The benefits of blockchain technology are becoming increasingly clear. By enabling data to be stored and shared, with every change audited and recorded in a super-secure way that maintains its integrity, the potential applications go well beyond capital markets. For example, it could be used to facilitate social security payments, as has been mooted in China, or used to ensure democratic elections.
Supporters see ICOs as making financial markets more democratic by providing capital for projects that might otherwise be shunned by venture capitalists and investment banks. Presumably it should also cut costs and maybe shrink some investment banker bonuses.
But recent scandals also raise big questions about the levels of investor protection, disclosure, and corporate governance afforded by ICOs.
Take one of the year’s largest ICOs: Tezos. It is now embroiled in a bitter feud over control after raising $232 million from the sale of digital tokens. Specifically there is a schism between husband and wife founders, Arthur and Kathleen Breitman, and the Swiss foundation that’s supposed to help Tezos build a new software platform.
Former banker Arthur Breitman and Kathleen, a former associate at hedge fund Bridgewater, created Tezos over three years ago.
The infighting threatens to derail the birth of this new virtual currency, the Tez.
Critics say many ICOs use a regulatory grey area, leaving investors vulnerable. Under the terms of the Tezos ICO, for example, there is no guarantee participants will ever get a single Tez. They must also accept the risk the project may be abandoned.
To be sure, the money poured into Tezos is partly due to general mania for virtual currencies and open-ledger blockchain companies. But sales of the digitial tokens have in turn helped push the value of bitcoin and other virtual currencies to record highs, as speculators look to trade coins for swift gains.
The value of Bitcoin is up more than 800% this year.
Are we witnessing a cryptocurrency bubble? Well, if it looks like a duck, swims like a duck, and quacks like a duck, it probably is a duck – so the saying goes. Wall Street heavyweights like JP Morgan chief executive Jamie Dimon and Oaktree Capital’s Howard Marks pulled no punches, calling bitcoin a “fraud” and “pyramid scheme”, respectively.
And yet, reports suggest Goldman Sachs might be flirting with the idea of trading in cryptocurrencies.
Whether that is true remains to be seen but what is clearer is virtual currencies and blockchain technology are driving faster innovation and forcing complacent bankers to face new realities. They show that tomorrow’s capital markets could look very different to today’s.