This interview focuses on the strange-sounding "virtual" currency of Bitcoin and how a fund is trying to tap investor hunger for alternatives to state, "fiat" currencies in a world of central bank money printing.

Editor's note: While this report comes from Malta, the Mediterranean island, the issues at stake here are global in significance, so this publication is reprinting this item from sister website WealthBriefing as it may be of interest to Asia-based readers.

As pretty much anyone in the wealth management industry knows - or should know - the basic requirement of any client is to preserve wealth. With the “financial repression” of negative interest rates, people have turned to gold, real estate, certain equities and esoteric fields such as fine art to do the job.

All these asset classes have drawbacks, however. Even gold, to take Man’s oldest safe haven asset, is not bullet-proof, as shown when President Franklin D Roosevelt confiscated private gold holdings in the 1930s. With that sort of drastic event in mind, today’s digital economy has come up with “Bitcoin”, a form of electronic, or virtual, money that is, its supporters claim, designed to replicate the scarcity of metal currencies without the tricky physical storage and handling issues. It has made headlines with a number of giddy price gyrations; it has also prompted worries from some commentators and regulators as to whether it could be misused by criminals. Bank of Singapore’s chief economist, Richard Jerram, for example, recently doubted whether Bitcoin will challenge global monetary systems. In May, US police froze the accounts of Mt Gox, the world's largest Bitcoin exchange, after claiming it was operating as an "unlicensed money service business." Bitcoin is controversial.

Last autumn, a Malta-headquartered "next generation brokerage company", Exante, launched the Malta-registered Bitcoin Fund enabling high net worth investors, among others, to hold units in Bitcoins. It is the first fund of its kind in the world. Gatis Eglitis, managing partner of Exante (Malta), told this publication about the fund when WealthBriefing visited his firm’s offices in St Julian’s on the Mediterranean island recently. (The firm has recently held its inaugural awards ceremony in Lisbon, Portugal.)

The decision to launch the fund was made because “we wanted to include Bitcoin in our multi-asset trading platform, but because it was not considered to be a real asset like stocks or futures. Being a regulated entity we had to think about the institutionalisation of it. Thus we came up with an idea to wrap Bitcoin within a hedge fund form and offer them to our customers electronically on Exante's multi-asset platform with one click,” he said.  

Eglitis said the fund was considered as investment in technology and the technology has proven to be robust enough, having been around for three years. “We set up Exante to service our brokerage clients that would like to invest in FX, metals, futures, stocks, forwards, options, bonds, hedge funds and other financial products - all from one electronic online trading platform - from one account. Bitcoin fund was set up more like a project to expand our product offering,” he said.

Clearly, with concerns about central bank quantitative easing – in other words, money printing – the timing of the launch of such a fund is interesting. Despite recent pullbacks, the decade-long ascent of gold, for example, is ample proof of how concerned many investors have been about the eroding value of mainstream fiat currencies. (Since the gold link to the dollar was severed by Richard Nixon in 1971, the US currency has lost more than 80 per cent of its purchasing power.)

“For the last decade wealth preservation when working with HNW individuals has been a really hot topic. This is the reality,” Eglitis continued.

“We are very vulnerable in the world today,” he said, talking about the still-fragile nature of many banks’ balance sheets, high debts, and the worries about mainstream monetary systems. “The slightest problems happen and our security is gone,” Eglitis said. 

What is Bitcoin?

Bitcoin is seen as an inelastic type of money as its quantity cannot be indefinitely increased. According to one description at Wikipedia, Bitcoin “is a digital currency first described in a 2008 paper by pseudonymous developer Satoshi Nakamoto, who called it a peer-to-peer, electronic cash system.”

The creation and exchange of Bitcoin is based on an open-source cryptographic protocol and is not managed by any central authority - the latter fact being something that might frighten politicians (possibly not a bad thing). Each Bitcoin is subdivided down to eight decimal places, forming 100 million smaller units called satoshis. Bitcoin can be transferred through a computer or smartphone without an intermediate financial institution such as a bank. Again, such features, while now part of our electronic lives, have prompted calls by regulators such as in the US to impose oversight.

Using an analogy with the language of the gold market, Bitcoin processing is secured by servers called “Bitcoin miners”. These servers communicate over an internet-based network and confirm transactions by adding them to a ledger which is updated and archived periodically. Each new ledger update creates some newly-minted Bitcoin; a crucial feature is that the number of new Bitcoin units or “Bitcoins” created in each update is halved every four years until the year 2140 when this number will decline to zero. After that time no more Bitcoins will be created - the total number of Bitcoins will have reached a maximum of 21 million Bitcoins. That, at least, is the theory.

Eglitis and colleagues list out other benefits of Bitcoin: it does not need to be protected in big, costly-to-guard vaults; it can be transferred around the world in seconds (unlike physical gold); it does not need verifications to show authenticity, whereas gold has to be tested physically; Bitcoin has eight digits on the right side of the comma, so it can service small payments, whereas one would need gold dust to do so, which is often impractical. Finally, Exante says, all transactions of Bitcoin can be audited online in real time so that all system members know exactly how many coins exist, whereas gold requires participants to use third-party auditors.

The fund

The fund works in the following way: The hedge fund is like an exchange traded fund where one fund unit is equivalent to one Bitcoin - there is no speculation in the fund – and its purpose is to maintain the equilibrium of one unit per one Bitcoin. The fund is exclusively traded on Exante’s multi-asset platform and cannot be bought anywhere else. The reason for the fund is to give institutions and private individuals access to Bitcoin in a financial instrument form.

Interestingly, the fund levies no annual management or performance haircut – unlike most hedge funds. Instead, there is a 0.5 per cent entry and exit fee, and a "safekeeping" fee of 1.75 per cent per year.

So far, there have been no redemptions of Bitcoin assets from the fund, Eglitis said. The fund is a long-only vehicle – there is no shorting involved.

Exante and Malta

The firm is an example of how Malta, once a UK colony and military base and now an independent, European Union member state, is playing host to alternative investment fund vehicles, wealth managers and other financial services firms. Exante was created in 2012. Its main software development office, meanwhile, is in Moscow, and it has offices in Singapore and St Petersburg, Russia. It aims to soon open an office in London.

There is more to Exante than Bitcoin. The main focus of the business is prime brokerage with a strong emphasis on technology. The partners at the firm have a blend of financial, science and technology experience. Eglitis, for example, has worked as an institutional sales trader and later as an institutional business sales manager in Saxo Bank, among other firms. Anatoliy Knyazev is the managing partner of Exante (Malta), qualifying as a mathematician and systems programmer. Among his roles was that of director in Global Hedge Capital Group, participating in projects for the design of systems and applications for tick market data visualisation and its analysis. Another partner is Alexey Kirienko.

Outlook

So how does Eglitis predict the Bitcoin market will develop?

He expects it to get larger; Eglitis also expects that some regulators and other government bodies will try and increase oversight and control, albeit with limited success.

At the heart of the issue, he said, is that Bitcoin challenges many of the assumptions - which he likens to “religions” - that many economists and policymakers have about how the economic world works.

“We have a lot of religions in the world and we have a lot of different economic belief systems out there – Keynesianism, Monetarism, and others. We are hard scientists…we see causes and consequences and work on analysing the facts as they are,” he said.

“We see that current global liquidity management is not working as it has been designed to do. What monetary tools do central banks have when inflation is created by themselves while economies are stagnating?” he said.  

He said the “Austrian” school of economics - with its liberal approach to interest rates and tradition of supporting a monetary system backed by some scarce product - is probably the closest to Exante’s thinking and the case for Bitcoin, he said. (For more on the “Austrian" approach to money and banking, click here.)

Eglitis also answers those who might fear that Bitcoin could be misused by criminals, such as money launderers, or just not gain critical mass. “I am not saying that criminals are not using it, but I would argue that it is probably not the best way of making transactions for criminals, because it would disclose many tracks for investigators when or if wallet identification linked with its owner. Bitcoin holders do enjoy anonymity, until their wallet is linked with them,” he said.

Recent market shifts – there have been some dramatic price gyrations – have so far not deterred Exante’s clients from holding Bitcoins, Eglitis added. In fact, some early turbulence is probably a good test of how robust this nascent currency will be.

For as Eglitis and his business partners would suggest, people scoffed in the early days of the internet when some suggested it would revolutionise business, social and cultural life. They are not scoffing any longer. With all predictions, a good deal of caution is in order, but for the moment at least, Bitcoin is not going away.