TRADER Q&A: Arca’s Dorman Explains Digital Realm07.02.2019
Digital assets are the latest craze hitting Wall Street.
But what exactly are they? Aren’t they an offshoot of crypto? And how does one trade them and where?
That’s something Jeff Dorman, Partner and Chief Investment Officer at Arca specializes in. Dorman leads his firm’s investment committee and is responsible for portfolio sizing and risk management. A veteran with over 17 years of trading and asset management experience at leading firms including Merrill Lynch and Citadel Securities, has now turned his attention to this infant asset class.
According to Techopedia, a digital asset is any text or media that is formatted into a binary source and includes the right to use it; digital files that do not include this right are not considered digital assets. Digital assets are categorized into images and multimedia, called media assets, and textual content.
Traders Magazine editor John D’Antona Jr. recently caught up Dorman and discussed his firm, how he transferred his expertise to the digital domain and the state of the market.
Traders Magazine: Tell us about your firm and business model.
Jeff Dorman: Arca is a full-service investment management firm building and managing institutional-caliber digital assets products. Our vision is to become the “BlackRock of Digital Assets” that aims to offer a full investment product suite enabling any investor to find the right product(s) to gain exposure to digital assets. Arca is working towards this through two divisions: An Asset Management arm where we invest in crypto as an asset class on behalf of our GP and LPs via a variety of different strategies; and a Product Innovation arm where we leverage blockchain technology as a wrapper to create new investment products (owning debt, equities and/or hard assets via tokens).
All of Arca’s products meet the highest regulatory standards globally set by the SEC and have institutional-caliber operations including but not limited to strict risk management, comprehensive compliance procedures, top service providers, and diligent reporting.
TM: Tell us about yourself.
Dorman: I am the Chief Investment Officer at Arca. Prior to Arca, I was an investment banker at Lehman Brothers, a High Yield/Distressed bond trader at Merrill Lynch, and a trader/Portfolio Manager at a variety of hedge funds including Citadel. I left the traditional asset management world in 2013 to help build a fintech company, Harvest Exchange, which caters to asset managers. It was during this time, working with developers every day, that I found Bitcoin and other digital assets. Crypto is the perfect marriage of asset management and technology, the two things that have pretty much defined my whole career.
TM: How have you taken your experience at leading trading firms and used it in the crypto and digital asset space?
Dorman: Every asset class and sector can be learned, and I’ve traded and invested in them all. It took me 12 months to learn how to analyze companies, two years to learn how to trade, and 20 years and counting to learn how to manage risk. There are no substitutes for experience. While I applaud many of the young crypto fund managers who are trying to build companies and learn on the fly, many of them would be better off having an apprenticeship under senior, experienced risk managers to learn. There are a lot of parallels between traditional markets and crypto. Many assets in this space are illiquid and trade OTC, so I draw on my experience trading assets such as distressed bonds and reorg equities. Event-driven investing in equities and debt is quite similar to that of digital assets, as you can identify hard catalysts and conduct scenario analysis. And we even use traditional valuation and modeling techniques for specific coins and tokens to value our investments.
TM: What is the difference, if any, between crypto and digital assets?
Dorman: The nomenclature in crypto is a bit confusing and inconsistent. We consider digital assets to be any asset that you can buy via a digital representation (coin or token). Crypto is often used interchangeably, but the word “crypto” itself typically describes those digital assets that are meant to be currencies. This is a small subset of the digital asset universe.
TM: What is the state of crypto and digital assets? Can it go higher given the discussions surrounding false trading volume and security?
Dorman: Sure. This is a young, immature market and as such, there will be bad actors. That said, false trading volume isn’t as big of a deal as many make it out to be. The $7 trillion US high yield debt market is riddled with dealers who fake volume in order to drum up business, but investors learn to trust those dealers that are consistent and transparent, and shun those who aren’t. The same will happen in crypto as bad exchanges will lose clients while good exchanges take more market share. Security is a bigger issue, but this is not a problem that investors in this space need to be exposed to. This industry has matured tremendously in the past few years, and there are now plenty of ways to protect yourself against these cyber crimes. Arca employs several of these tactics including the use of air-gapped devices and third-party custodians.
TM: What does the future of digital assets look like?
Dorman: Everyone who has dedicated his/her career to crypto is extremely bullish long-term, and I’m no different. I’m 100% confident that the overall size of the crypto market ($300 billion including equity in blockchain companies) is tiny relative to the future prospects of the technology. I’m uncertain where this growth in value will ultimately accrue. Thus far, the value has largely been captured by service providers (lawyers, exchanges, OTC dealers, software systems), but that is not sustainable. In order for the pick and shovel companies to continue to flourish, the digital asset ecosystem itself must grow. The good news is that better digital assets are on the way, with tighter governance features, more favorable tokenomics, increased asset protection and better investor/user alignment. This new breed of digital assets should achieve sustainable growth.
TM: Discuss your stable coin backed by Treasuries. Who is the target investor for this? Why?
Dorman: While Bitcoin is the leading digital asset today, Bitcoin itself may never be “money.” Instead, a handful of asset-backed tokens that are backed by real, hard, stable assets will become the true medium of exchange, and Bitcoin is likely to become a store of value like gold. The Arca US Treasury Coin solves many of the problems that are not solved by Bitcoin and other stabletokens. First, it is backed by the highest rated and most liquid asset on the planet, AAA-rated US Treasuries. Second, Arca itself is not the counterparty; we are simply the investment manager. The assets themselves sit in a trust, and can be easily audited unlike USD-backed stable-tokens that require trust in the rehypothecation of the banking system. We believe corporate treasury departments, crypto asset managers, other stabletokens and crypto companies will utilize this token as it solves many of their challenges — no need for banks, no need for multiple checking, savings and money market accounts, reduced fees on transfer of assets, 24/7 liquidity, and reduced counterparty risk.
Bertrand was most recently Head of Derivatives and Commodities at Borsa Italiana.
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