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Where the smart money in crypto investing is going next

July 29, 2021, 9:32 AM UTC

It wasn’t long ago that cryptocurrency investing could be (and often was) dismissed as “niche.” In the summer of 2016, the value of all the crypto in the world was barely $10 billion, and in the popular imagination the technology was associated as much with online drug dealing as with venture capital dealmaking. Today it’s a different world: Anyone can buy crypto using a Robinhood account; S&P 500 companies hold digital coins on their balance sheets; and Bitcoin at $30,000, a bullish pipe dream just a year ago, now counts as a serious slump. (The total value of the crypto market, meanwhile, hovered near $1.5 trillion in late July.)

Crypto’s current status reflects more than just the avid trading of tokens themselves. The crypto and blockchain sectors are maturing into complex industries, and that evolution offers investors new inroads, even as trading embeds itself more firmly in the broader financial world. “There’s a mainstream recognition now that crypto is more of an architecture and operating system, and that all kinds of products and services can be built on top of crypto systems,” says Andreessen Horowitz general partner Katie Haun, who coleads the famed venture capital firm’s crypto investing platform. 

For investing pros, such products and services represent the next frontier. VC firms have poured an unprecedented $17 billion into the crypto space for the year through mid-June, and they’re diversifying the kinds of blockchain-related bets they’re making.

Andreessen recently raised $2.2 billion for a new crypto fund—its third and largest so far. Haun cites the market for non-fungible tokens, or NFTs, as one that’s squarely in her focus. NFTs allow creators to turn digital media, ranging from artwork to sports highlights to video game avatars, into collectible, tradable commodities. The firm’s recent NFT bets include leading a $100 million funding round for NFT marketplace OpenSea that valued that company at $1.5 billion, along with an investment in Virtually Human Studio, which operates a virtual game that allows users to buy, sell, and breed NFT “racehorses.”

Crypto-conscious investors view the NFT trend as an opportunity to be early movers in a business that could have an enormous reach—like the fine-art market but more democratic and potentially far larger. “Anyone who missed out on the expansion and growth of Instagram [and similar platforms] 10 years ago is looking at NFTs as a new frontier that they can sink their teeth into,” says Craig Russo, director of innovation at digital-asset investment firm Polyient.

Venture investors are also pouring assets into decentralized finance, or DeFi, a term that covers an ever-expanding market of blockchain-enabled lending, borrowing, investing, and insurance options. (For more, see our cover story.) “It’s going to be as transformative to finance as the Internet was to information more broadly,” says Joey Krug, co–chief investment officer of Pantera Capital, a crypto-focused venture firm. “Every component of the traditional financial system is being replicated.” Pantera recently joined a seed funding round for Risk Harbor, a startup that provides insurance for DeFi projects.

Photograph by Cayce Clifford

VCs also point to an encouraging trend among their institutional clients and limited partners. Unlike the 2018 crypto market downturn, which chased many backers away from the asset class, this spring’s sharp correction in prices hasn’t dented investors’ faith. “I don’t think we’re going to enter a multiyear bear market phase,” says Krug. “There’s just so much capital coming in.” Haun echoes that sentiment, noting that larger investors have shifted away from their view of crypto as “a moonshot experiment.” 

“They’ve seen that the experiment is working,” she adds, “and it’s kind of a given now on the part of these institutions that crypto is not going anywhere.”

While some investors back innovative private firms, others are focusing on public markets, aiming to make crypto more widely accessible. In that effort, many are pinning their hopes on crypto exchange-traded funds, or ETFs. 

Crypto trading in its current form usually involves using specialized exchanges, where investors are often dogged by technical hassles and high transaction fees. Crypto ETF backers want to make Bitcoin (and, eventually, other tokens) available through low-cost funds that trade on stock markets. They would operate much like present-day ETFs backed by commodities like gold and silver, which track the value of the underlying asset either by owning the asset itself or by owning futures contracts tied to it. 

It’s a given now on the part of these institutional investors that crypto is not going anywhere.

Katie Haun, general partner, Andreessen Horowitz

Investment-management firms have filed more than a dozen applications with the Securities and Exchange Commission seeking to launch crypto ETFs. Applicants include Anthony Scaramucci’s hedge fund, SkyBridge Capital, and ARK Invest, the investment firm led by Cathie Wood, one of Wall Street’s most vocal crypto evangelists. So far the SEC has punted, delaying rulings on pending applications—in some cases, for years—and staying mum on any guidance. 

Ashley Ebersole, a former SEC attorney and partner at law firm Bryan Cave Leighton Paisner, believes securities overseers are reluctant to allow ETFs to be based on crypto tokens—decentralized assets that operate in still-murky legal waters. “It’s a very different proposition from a U.S. equity ETF, where all of the bundled assets themselves trade on the New York Stock Exchange,” Ebersole says. “It’s a market without a regulator and without the control that the SEC thinks should be in place.” 

Photograph by Will Crooks

Yet D.C. regulators can now look north for an example of a regulated public-market crypto ETF. This year, Canadian securities regulators approved several such ETFs, including funds tracking Bitcoin and Ether, that now trade publicly on Canada’s stock exchanges. Among the investment firms given the green light is Toronto-based Ninepoint Partners. Alex Tapscott, managing director of Ninepoint’s digital asset group, notes that despite this spring’s slump in prices, Canadian crypto ETFs “have been trading in a perfectly normal, perfectly reasonable way,” tracking underlying assets without showing signs of being used for market manipulation. “That’s something that should give regulators in the U.S. and elsewhere confidence,” Tapscott argues.

For now, investors seeking to own crypto directly through public-market instruments are largely restricted to closed-end crypto funds. These funds typically operate under more restrictive trading rules than ETFs, while charging higher fees (around 2% annually for some, compared with tenths of a percent for most ETFs). They are also generally restricted to a more limited pool of investors (with accredited, high-net-worth investors getting first crack via private placements). This pool includes Grayscale Bitcoin Trust (GBTC), which is run by crypto investment firm Grayscale and has almost $25 billion in assets under management. 

Even Grayscale has been vocal about its intentions to convert GBTC and its other crypto-backed funds into ETFs—in part because that’s an option it believes mainstream retail and institutional investors crave. “There is a cohort of the investing universe that is in fact waiting for a Bitcoin ETF to come to market before they’ll start allocating to the asset class,” says Grayscale CEO Michael Sonnenshein. 

Photograph by Rebecca Greenfield

Absent a U.S. crypto ETF, stock market investors have other ways to gain exposure to crypto and blockchain. Amplify Transformational Data Sharing ETF (ticker: BLOK) is one of several “blockchain ETFs” that track public companies in that space. Amplify, which launched in January 2018, owns a portfolio that includes fintech firms that are experimenting with crypto payments, like PayPal and Square; crypto exchange Coinbase, which went public in April; and lesser-known crypto-mining firms like Marathon Digital Holdings. The fund, which has about $1.1 billion under management, has registered total gains of more than 150% in the three and a half years since its inception.

In a space built on financial innovation, there’s always someone trying to build a better mousetrap. Makara, an offshoot of crypto hedge fund Strix Leviathan, bills itself as the first SEC-registered crypto robo-adviser. Makara’s platform—which rolled out via a soft launch in June—allows investors to pour funds into various diversified baskets of tokens. The minimum investment, at just $50, is designed to welcome a wider range of retail investors into the fold. In practice, those investors wind up buying fractions of coins, the same way that smaller investors in public stock ETFs own fractions of tech-company stocks that cost thousands of dollars per share. “This entire asset class, for its entire history, has been too hard for everyday folks to participate in,” says Makara cofounder and CEO Jesse Proudman. As the industry evolves, that difficulty is bound to diminish. 

Crypto for a bigger crowd

Investors are betting that these trends could make it easier for more investors to put their money into cryptocurrencies and blockchain tech—theoretically making those markets that much bigger.

Bitcoin ETFs

ETFs could let investors bet on Bitcoin and other currencies without the expense and tech hassles of owning the coins directly. Prominent investment firms like Cathie Wood’s ARK Invest are eager to offer them, but the SEC has yet to give its blessing.

NFTs

Non-fungible tokens help turn digital media like sports highlights and video clips into ownable and tradable commodities. Crypto bulls see it as the foundation of a multibillion-dollar collectible market. (For more, see “The Crypto Games: Meet the man who wants to make NFTs fun” from this issue.)

Blockchain stocks

While regulators iron out the kinks in crypto trading, some financial firms have built ETF portfolios around publicly traded finance and tech companies that either focus on or dabble in facilitating crypto transactions, including PayPal, Square, and Coinbase. 

This article appears in the August/September 2021 issue of Fortune with the headline, “Hitting crypto’s next curveball.”

This story is part of Fortune’s special report on this pivotal moment in cryptocurrency—and what comes next. We’ve launched an NFT of our iconic cover; place your bids before noon ET on Aug. 9.