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Andrew Singer
Oct 08, 2021


CRYPTO AND PENSION FUNDS: LIKE OIL AND WATER, OR MAYBE NOT?

Pension funds, the most cautious of institutional investors, are now giving the
booming crypto and blockchain sector a closer look.

2843 Total views
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Analysis
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There are good reasons why pension funds should not invest in the crypto and
blockchain space. The industry is too new, too volatile, and stultifyingly
technical. Moreover, the rules and regulations to govern the sector have yet to
be settled. 

But the fixed-income financial instruments that pension funds typically favor —
like long-term government bonds — are scarcely paying anything these days, so
the traditional caretakers of employees’ retirement funds have a dilemma: Where
to find investment yield in a world where inflation is looming?

It may not be entirely surprising, then, that pension funds — the most cautious
of institutional investors — are now giving the booming crypto/blockchain sector
a closer look.

“Family offices led the charge into crypto funds several years ago, but we’ve
seen increasing interest from pensions, and there are many pensions that now
have exposure to crypto,” Stephen McKeon, a finance professor at the University
of Oregon and a partner at Collab+Currency, told Cointelegraph.

“We’ve seen increased interest from pensions” in the past year, added Christine
Sandler, head of sales, marketing and research at Fidelity Digital Assets — part
of an uptick among all institutional segments — “which we believe reflects the
growing sophistication and institutionalization of the digital assets ecosystem,
combined with a strong macro narrative driven by response to the pandemic.”

Pension funds tend to be “more conservative, risk-averse investors relative to
other segments,” according to Sandler, and they mostly favor investments that
have exhibited long-term growth and low volatility, which might arguably make
them leery of the crypto/blockchain space.


AN EARLY ADOPTER

One of the first United States-based pension funds to invest in blockchain firms
was the Fairfax County Police Officers Retirement System, based in Fairfax,
Virginia. It tested the waters back in 2018 with an 0.5% allocation in a fund
that was investing in blockchain-related enterprises, Katherine Molnar, the
fund’s chief investment officer, told Cointelegraph at the recent SALT
conference in New York City.

The fund raised its allocation to 1% in 2019, and in spring 2021, it added two
new blockchain-related investment funds. The current target allocation is 2%,
but because crypto and crypto-based companies have been rising in value, 7% of
overall fund assets are now crypto-related — again, mostly “pick-and-shovel”
type enterprises that support the industry — like crypto exchanges and
custodians.

The pension fund can’t rebalance because it is invested in venture capital
funds, Molnar explained, but in mid-September, Fairfax signaled its intent to
invest $50 million with Parataxis Capital, a crypto hedge fund that invests in
digital tokens and cryptocurrency derivatives. “It’s not a directional bet, but
it’s not totally illiquid either,” she told Cointelegraph.

The fact that the police officers’ pension fund has invested until recently in
crypto-related companies as opposed to cryptocurrencies — Coinbase rather than,
say, Bitcoin (BTC) — isn’t uncommon, either. U.S. institutional investors
surveyed by Fidelity Digital indicated a greater propensity for digital asset
investment products rather than direct ownership of cryptocurrencies, Sandler
told Cointelegraph, adding:

> “From our study, we also know that pension funds and defined benefit plans,
> like many other institutional investor segments surveyed, favor active
> management of an investment product containing digital assets.”

More pension funds may now travel this road. “We’ve started to see participation
not just from the hedge fund segment, which we’ve long seen participation from,
but now it’s recently from other institutions, pensions and endowments,” Michael
Sonnenshein, CEO of Grayscale Investments — the largest manager of digital
assets — told Bloomberg earlier this year, adding he anticipated that pension
funds and endowments would drive much of his investment firm’s future growth.

Even pension-fund giants like the California Public Employees Retirement System
(CalPERS) have dipped a toe in the crypto/blockchain sea. CalPERS invested in
Bitcoin mining firm Riot Blockchain LLC some years back and has since raised the
stake to about 113,000 shares — worth about $3 million in early October — though
that is minuscule compared with CalPERS’ $133.3 billion in equity assets under
management, as of its 13F filing in August.


HOW MUCH IS ENOUGH?

What sort of crypto allocation is appropriate for a pension fund today? Jim
Kyung-Soo Liew, associate professor at Johns Hopkins University’s Carey Business
School, co-authored one of the earliest academic papers on crypto and pension
funds back in 2017. That paper found that a 1.3% Bitcoin allocation would be
“optimal” to fully reap the cryptocurrency’s diversification benefit.

What is appropriate today? “Going forward, an institutional investor should be
looking at a 10%–20% allocation,” Liew told Cointelegraph, and he expects large
pension funds to be investing as much as one-fifth of their total assets in the
crypto/blockchain space within the next three to five years.



“We’ll see more institutional investors,” Liew said, adding, “Their horizons are
long.” Today’s $2 trillion in cryptocurrency market capitalization could swell
to $20 trillion in the next three to five years, he added, assuming a favorable
regulatory environment.

Asked if this doesn’t fly in the face of pension funds’ traditional
conservatism, Liew answered, “Pension funds have boards; they have investment
committees,” and yes, “they’re often accused of being overly conservative and
wanting to understand things 100% before acting.”

From an education standpoint, it will take some time and effort to bring them
along, but chief investment officers are quite intelligent as a group, and they
will be able to grasp the concepts, Liew said. One problem, he allowed, “They’re
not rewarded for risk-taking.”


OBSTACLES REMAIN

There may be other impediments. “One challenge is that pensions tend to require
large tickets,” McKeon told Cointelegraph, “so the space had to mature a bit to
accept that amount of capital. As funds continue to scale up, we expect to see
more participation by pensions.” Volatility remains a concern, said Sandler,
pointing to data:

> “‘2021 Institutional Investor Digital Assets Study’ found that 73% of U.S.
> pension funds, defined benefit plans, and endowments and foundations surveyed
> cited volatility as the top barrier to adoption.”

U.S. pension funds and defined benefit plans still hold a fairly negative view
of digital assets, according to the survey, “but I think we’ll continue to see
that negative perception decrease as the market continues to mature and these
investors get more comfortable with the technology, infrastructure and channels
for exposure and have a more fully developed investment thesis about these
assets,” she added.

As such, pension funds, like other institutional investors, are striving to find
investment opportunities. As The New York Times noted, “U.S. Treasuries have
been the bonds of choice for safe retirement income. But they could deliver no
real return for the next decade.”

Related: The long game: Institutional interest in crypto is just getting started

Meanwhile, on the positive side, pension funds have long horizons, and they can
withstand short-term volatility. Another plus, “Crypto talent is spread
uniformly around the world, and we can source that talent,” Liew added.

Fiduciary constraints won’t disappear, of course. Many pension funds represent
municipalities, and they are holding many people’s late-life financial
well-being in their hands. That’s a lot of responsibility. But you “can’t get a
ton of reward if you don’t take on some risk,” Liew said.

A while back, the president of Molnar’s board said, “I understand the need to do
this” — the police officers’ pension fund, like most institutional investors,
was struggling to grow its money in a continuing low-interest-rate environment —
but some officers “are off the reservation,” he claimed. With the fund’s recent
7.25% rate of returns on its crypto investments, it’s probably safe to assume
that some of those officers are back on the reservation now.

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