Pension funds shake off crypto worries with backing for dealer Hidden Highway

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Conventional traders equivalent to pension funds are offering the financing to a dealer that’s serving to hedge funds take larger bets on unstable cryptocurrency property.

Retirement plans together with that of US defence contractor Lockheed Martin are among the many backers of crypto prime dealer Hidden Highway, in keeping with individuals with data of the matter, offering the financing that in conventional markets sometimes comes from banks.

London-based Hidden Highway, which final yr raised a $50mn fairness funding from Ken Griffin’s Citadel Securities and change Coinbase amongst others, has emerged as an important participant in bridging the hole between conventional traders and digital property. The group additionally serves as a possible lifeline for the crypto market, which is dealing with a deep squeeze on leverage and dwindling buying and selling exercise after a collection of scandals, together with the collapse of change FTX.

Prime brokerage is a standard manner for merchants in mature markets equivalent to shares to get leverage, as a manner of juicing their bets. Conventional prime brokers sometimes sit inside Wall Avenue banks and use the lenders’ huge stability sheets to increase credit score to hedge funds, household places of work and high-speed merchants.

If a hedge fund borrowing cash from the prime dealer suffers massive losses on its investments, then the prime dealer or its traders may be left footing the invoice.

“It’s a very dangerous funding to make,” stated Andrew Urquhart, professor of finance and monetary know-how at Henley Enterprise College, including: “If my pension fund stated we’re going to get into crypto, I’d be very apprehensive about that.”

Cyrus Pocha, companion at Freshfields, stated elevating finance from outdoors traders is just not a typical set-up. A chief dealer working on this manner could imply “they don’t have a proprietary curiosity within the compensation”, he added.

Hidden Highway declined to remark.

Crypto markets have confronted a bruising yr following the collapse of change FTX and a collection of US enforcement actions towards Coinbase and Binance. Spot crypto buying and selling volumes have greater than halved — dropping to $515bn in July, in contrast with $1.2tn in the identical interval a yr in the past, in keeping with CCdata.

The transfer by Lockheed Martin’s plan and others marks the most recent enterprise into crypto by pension funds, lots of that are in search of methods to enhance their very own returns. Lockheed Martin declined to remark.

Nevertheless, a quantity have been burnt, highlighting the dangers of digital property markets. Canada’s $190bn Ontario Lecturers’ Pension Plan and $300bn CDPQ misplaced their investments in crypto change FTX and lender Celsius, respectively.

An individual aware of Hidden Highway’s pondering stated the corporate sees itself extra just like a non-public fairness or funding agency that raises outdoors capital to fund actions, reasonably than like a financial institution prime dealer.

Based in 2018 by Marc Asch, who labored beforehand at Steven Cohen’s hedge funds SAC Capital and Point72, the corporate is known as after the Massachusetts road the place he grew up. Hidden Highway started as a international change prime brokerage earlier than increasing into digital property.

Giant market makers together with Circulation Merchants and Virtu Monetary already use Hidden Highway, which has secured regulatory licences from nations together with the UK, Netherlands and Singapore. Its crypto companies will not be supplied to US traders.

Hidden Highway additionally doesn’t commerce any property itself, easing worries about potential conflicts of curiosity in having one firm act concurrently as an change, dealer and dealer. Venues together with Coinbase and Gemini provide prime broking — elevating these issues.

Prime brokerage is an inherently dangerous enterprise, even for the largest banks. Credit score Suisse took a $5.5bn loss on its stability sheet after the collapse of household workplace Archegos — a gap that contributed to the financial institution’s eventual demise.

“It’s a really powerful enterprise,” stated Harry Jho, founding father of legislation agency Harry Jho LLC, which specialises in prime brokerage, including that “in the event you’re offering full financing, you’ve to have the ability to assess the credit score danger”.

One investor who met Hidden Highway described it as “prime broking on steroids” and stated there have been dangers of counting on another person’s capital.

Some executives additionally fear about Hidden Highway’s dimension. Its stability sheet is within the lots of of tens of millions reasonably than billions of {dollars} that banks sometimes have, in keeping with individuals aware of the matter. Whereas Hidden Highway can be on the hook for any losses, some worry its stability sheet wouldn’t face up to a big market occasion, and the traders offering capital could must stump up extra at quick discover.

“I’ve to take a look at it from an arm’s size distance to be comfy. They’re intermediating credit score with a fairly thinly capitalised stability sheet,” stated the pinnacle of 1 crypto change, including: “To be taken severely they should have a major diploma extra stability sheet behind them.”

To guard itself Hidden Highway fees an “change danger unfold” to guard towards the potential failure of a venue. Clients who paid this and traded on FTX by way of Hidden Highway have been made entire when the change collapsed, individuals with data of the matter stated. Clients say its due diligence is stringent. “They put us by way of the wringer,” stated the pinnacle of 1 market maker.

However the crypto trade has discovered the arduous manner that prime broking generally is a precarious service. Within the final yr Digital Foreign money Group’s Tradeblock closed whereas the lending unit of Genesis, one other prime dealer, filed for chapter.

“It’s fully empty, the entire [crypto] prime brokerage, institutional broking house is broad open,” stated Gautam Chhugani, senior analyst of worldwide digital property at Bernstein.

Nevertheless, he stated the volatility of bitcoin and different tokens makes it a very powerful asset to handle. Others “have tried the prime broking fashions in numerous methods and a few blew up”.