How has asset management adapted to the crypto world?
Decentralized autonomous organizations (DAOs) are novel entity structures in which members share a common goal and collectively act in the entity’s best interests. Decisions are made via consensus, which contrasts with a traditional organization where decisions are passed down from a central authority.
In asset management, think of a DAO as the crypto equivalent of an investment club. An investment club that utilizes blockchain to create a fair, transparent, and collaborative investment system.
To understand how this system is created, a group of investors first pools their assets to fund the DAO’s treasury by exchanging cryptocurrency for a native governance token. These tokens denote membership to the organization and enable each member to participate in its management.
Through consensus, token holders create the rules that stipulate how the DAO will be run. Since we are talking about asset management here, rules relate to advisor certification, fund allocation, and, perhaps most importantly, profit distribution. Each rule is coded into multiple smart contracts that make the DAO’s financial transaction record public and immutable.
Note that smart contracts self-execute, which means rules are executed automatically. If a rule needs to be altered, members must vote before it can be changed. Once treasury funds and governance rules have been established, the DAO can invest in crypto assets that meet the criteria set out in its smart contracts.
How has asset management adapted to the crypto world?
DAOs and the principle-agent problem
DAOs solve a major grievance inherent to traditional asset management. This is known as the principle-agent problem, which occurs when there are conflicting interests or information asymmetry between an asset manager and their client.
The causes of this problem are varied, but the interconnectedness of the financial services industry is one key driver. Myriad relationships exist between banks, custodians, brokers, and exchanges that are difficult to monitor and often involve risk transfer.
In other cases, a lack of transparency results when the client understands less about the machinations of asset management than the manager. Both these drivers cause the client to blindly trust that the individual or company managing their assets will do so in a way that benefits them.
DAOs solve this problem because there is no manager-owner relationship. Since membership to the DAO depends on the ownership of governance tokens, each member embodies the roles of both asset manager and owner.
Collective token ownership ensures that each community member is incentivized to act in the DAO’s best interests. Since these interests are detailed in smart contracts, there is zero possibility that any one member could initiate the principle-agent problem.
New titles for financial advisors
Under the traditional asset management model, certified financial planners (CPAs) and chartered financial analysts (CFAs) are governed by institutions that award qualifications and dictate how they can be used.
Conversely, decentralized organizations incorporate new designations that better reflect their unique management structure. Created in 2020, the Certified Digital Asset Advisor (CDAA) is a designation awarded to financial professionals who have completed training in digital assets, cryptocurrency, blockchain, and DeFi.
Like traditional financial advisors, CDAAs must understand how these assets work as well as their inherent risks and how they fit into a client’s overall investment strategy. After their training is complete, each individual receives an on-chain, NFT-based CDAA Certification Token that proves their credentials.
In 2021, the CDAA certification process was transferred to the decentralized organization PlannerDAO to promote fiduciary financial planning to a worldwide audience. The DAO is now home to more than 1,000 finance professionals who are democratizing the industry with various educative and planning tools. To do this, they default to the most transparent, permissionless, and decentralized solutions possible.
With no central authority defining the rules of engagement, the PlannerDAO community determines which elements of cryptocurrency and technology are relevant to its advisors. CDAA creator Steve Larson also has plans to make the community accessible to external professionals who will provide training to advisors.
The Financial Planning Association (FPA), for example, could serve as a trainer to CDAA-certified members. But in keeping with the DAO philosophy, it would be up to community members themselves to determine which topics and requirements were relevant.
In addition to the NFT Certification Token, advisors are also compensated for their services with another token whose value is likely to increase over time. Unlike standard financial advisors who sell a product or service to make money, those with CDAA certification are simply compensated for serving their community.
To that end, advisors are equipped with various tools, checklists, and templates to help manage client assets. The collaborative aspect of the DAO community also fosters transparent discussion and solutions that are free of subjective bias or potential conflicts of interest.
Passive investing for crypto and metaverse indices
Passive asset management has been a mainstay of the investment industry for decades, with many favoring the long-term strategy to safely and effectively build wealth. While passive asset management tends to be associated with equities, it has become more common in bonds, commodities, hedge funds, and now, crypto assets.
Index Coop, a DAO with more than $400 million in AUM, has plans to become one of the largest asset management platforms in the world within five years. The entity offers six different investment options which track various decentralized assets. It also offers investment in the Metaverse Index, a basket of 15 tokens that captures value from virtual environment trends in business, sport, and entertainment.
In announcing a new round of strategic investment funding, head of business development Simon Judd noted that Index Coop members were “deep believers in the power of passive asset management and hope to bring safe and effective crypto investing to millions of families.”
Fair and equitable access
As we touched on earlier, the principle-agent problem causes information asymmetry between an asset manager and their client.
In some instances, this prohibits retail investors and smaller investment companies from even entering a market. When they do have the means or capacity to enter a market, they cannot compete with seasoned investors who have access to better information, more investment channels, or a vast network of industry contacts.
DAOs use technology to distribute the balance of power from the few to the many. Decisions concerning fund allocation are more efficient because of the collective intelligence and “crowd wisdom” of multiple advisors concentrated in one place. They also allow more people to understand and invest in crypto and related projects, which increases the popularity, adoption, and subsequent value of Web 3.0 assets in general.
Crucially, DAOs are designed to operate on a global level which results in a larger and more lucrative playing field where one investor does not have to lose for another to win. As Bybit CEO Ben Zhou noted, “If we want to turn our business from billions to trillions, we cannot exist in a company-form, but a ‘social phenomena’ form”.
DAOs for asset management are very much an emerging trend and do not necessarily signal the end for traditional financial advisors and other intermediaries. However, it is conceivable that decentralized organizations will usher in a new wave of financial advisors.
These advisors will possess industry-relevant certification and operate in communities with more decision-making power around financial education, training, governance, and profit distribution.
With less of a need to rely on asset managers — whose advice tends to be relatively generic and in many cases more opaque — DAO advisors are empowered to provide honest and tailored financial advice to clients which furthers both personal and community-based investment goals.