Browse almost any list of companies with the worst reputations, and undoubtedly big banks and institutional investment firms will be present. This is because oftentimes, these large entities have piles of cash they can leverage to gain power and control over the target investment.
Unfortunately for the cryptocurrency community, these institutions are setting their sights on Bitcoin, Ethereum, and a whole host of other coins. While some are waiting for Bitcoin futures to begin trading on the CME, others are using their capital to target ICOs.
Pump and dump
The pump and dump scam originated in traditional financial markets, and recent ICO history is a reminder that the same schemes work just as well in cryptocurrency markets too – just look at UBQ, Chill Coin, Magi Coin, and Indorse.
One of the main reasons ICO coins are dumped is because of so-called whale investors. These investors, some of whom are institutions with advanced trading bots, simply bid up the price of a coin by purchasing large amounts of the offering. Once the offering catches some momentum, the traders dump their stakes, causing the price to drop while still profiting on the short term run up.
Another strategy these institutions use is purchasing large amounts of coin during pre-sales, often at a discounted price. There is some risk to this, because there is no guarantee the ICO will be a success or that coins will hold positive future value. But if the ICO is successful and the coins hit the secondary market, the institutions will sell their discount coins and profit off of the different between the pre-sale coin price and the secondary market price.
Domination by the few
Scam and fraud concerns aside, there are still red flags with institutional investors getting involved in ICOs in legal ways. Take Pantera Capital, for example. They were one of the first to launch funds with a sole focus on cryptocurrencies. With $100 million raised for an ICO hedge fund, Pantera has much more weight to throw around than the average cryptocurrency investor. It is possible for the fund, if it so chooses, to completely dominate several ICOs, leaving the little guys in the dust.
Additionally, with such a large amount of capital going into one ICO, questions are posed regarding coin distribution. If a blockchain platform distributes an enormous amount of its coins to one party, that party could theoretically control the platform’s marketplace.
Thus, whale investors have a centralizing effect on decentralized currency offerings. When large players with large sums of money enter the scene, the atmosphere completely changes. The reality is that large institutional investors, if they choose, can buy up huge stakes in cryptocurrencies and ICOs. In an ironic twist, cryptocurrency ICOs could become another victim of traditional finance heavyweights.
Cryptocurrency enthusiasts, especially those that enjoy the decentralization digital currency provides, ought to be wary of the appeal of Bitcoin for traditional financial markets. Once major players like Goldman Sachs and JPMorgan Chase are involved, federal regulators will only work that much harder to get their hands on cryptocurrencies and ICOs.
Is there a way for blockchain startups and the cryptocurrency community to prevent what seems like a looming takeover? There just might be, if the community bands together and takes the necessary steps.
First, blockchain startups need to continue to ensure that their coins don’t qualify as securities. This will avoid de facto SEC regulation, and will likely discourage big banks from purchasing the coins. This is because an extremely regulated industry like financial services doesn’t need any more attention from federal regulators. If banks and firms were to venture into trading unregulated items like cryptocurrencies, it would only encourage federal oversight.
Second, startups need to enact protocols that prevent big money investors from crowding out token sales. This can be done by limiting the number of tokens purchased per user per ICO phase, or by setting time limit intervals on ICO issue purchases.
Third, the cryptocurrency community needs to band together to come up with innovative blockchain developments. Many blockchains already have block size limits to discourage rapid coin purchases and slow down the mining process. As blockchain technology grows and expands, developers need to devise new ways to keep blockchains from being controlled by centralized entities.
Though it isn’t a foolproof plan, the blockchain community can go a long way in making sure decentralization is protected.