CONTRIBUTORS
Sandy Kaul
Head of Innovation
Franklin Templeton
Robert Crossley
Head of Industry Advisory Services
Franklin Templeton
Alegria Apikelis
Senior Analyst
Franklin Templeton
Janice Deringer
Senior Analyst
Franklin Templeton
Samuel Huddart
Senior Analyst
Franklin Templeton
This is the sixth article in our Future of Investing series, drawing insights from our annual industry-wide survey, The Future of Investing. 1 The Overview summarizing the top 10 key findings can be found here along with a series of articles, each exploring a key finding in more depth.
Preview
Cryptographically protected wallets commingle assets in a common container, creating new investment options and opportunities
We rarely stop to think about it, but today’s investor “portfolio” is a reporting and analytical construct. It refers to the collection of assets spread across different investment accounts that belong to the investor. The “portfolio” gathers together the assets held in these accounts virtually as illustrated in Exhibit 1.
Exhibit 1: Portfolios Composed of Multiple Accounts
Source: Franklin Templeton Industry Advisory Services. For illustrative purposes only.
The design of the financial market infrastructure has forced each organization to maintain multiple sets of accounts for each investor serviced. Each firm processes individual transactions on a bilateral basis, moving payments and securities between distinct client accounts. Clients owning the same stock at two different brokerage houses would see two distinct listings and could not aggregate their exposure.
Fund ownership requires two ledgers: the ledger recording the fund’s holdings of securities, and the shareholder ledger that shows how much of the fund’s interests each shareholder owns. This makes it impossible to commingle fund assets. Even if an investor were to own two equity mutual funds with the exact same strategy and investment universe, their ownership would be recorded on two separate shareholder ledgers and each fund’s holdings would be administered in separate brokerage accounts.
Owning an exchange-traded fund (ETF) eliminates one set of bookkeeping. Investor interests in these offerings are recorded only on a shareholder ledger until a shareholder redeems their ETF “in-kind” in the primary market. The growing use of separately managed accounts (SMAs) represents the opposite approach. Whereas with an ETF the holding is only of a fund (with no individual security holdings), SMA account owners only hold securities and there is no fund structure, and thus no shareholder ledger to administer.
Private funds add further complexity and even more accounts. Most of these offerings are recorded via a roster of limited partnership (LP) interests maintained bilaterally with each distribution partner. An investor may choose to increase their LP interests in a fund over time, but if the second allocation were done via a different bank or advisory firm, the fund would need to maintain and administer two LP records for the investor—one with each organization. Co-investments create yet another set of accounts between each alternatives manager and investor that sits on the side of the fund’s investment in that asset.
Using cryptographically protected wallets to hold digital or tokenized assets represent a very different value proposition from the loose affiliation of accounts underlying today’s portfolios. In these wallets, assets may be stored alongside all other holdings. At present, these assets mainly include cryptocurrency coins, fungible tokens that represent participation interests in various protocols and decentralized apps, and non-fungible tokens (NFT) representing unique assets, typically digital assets. However, these wallets could potentially hold a variety of other assets as well.
For more information or to request a presentation on the 2024/25 Future of Investing findings, please contact your Franklin Templeton representative or reach us directly at [email protected]
Endnotes
- On an annual basis, Franklin Templeton’s Industry Advisory Services team conducts off-the-record, unscripted interviews of leaders across the financial services industry. This year, we were fortunate enough to hear from 85 leading thinkers controlling over US$50.1 trillion of assets under management across the financial services industry about their views on the future of investing between March and September of 2024. Input came from a broad cross-section of the industry—asset owners, private banks, wealth managers, consultants, investment managers, crypto firms, academics, industry leaders and fintech firms. Conversations took place formally as part of free-ranging, qualitative, off-the-record, survey interviews, and informally during one-on-one sessions where the implications and plans for each organization are discussed and explored. Each of these inputs added to an emerging picture of an industry that is changing rapidly and across multiple dimensions. Interviews were conducted globally with about two-thirds of discussions held with leaders of firms based in the United States, and the other third spread between Europe and Asia.
WHAT ARE THE RISKS?
All investments involve risks, including possible loss of principal.
Companies in the technology sector have historically been volatile due to the rapid pace of product change and development within the sector. Artificial Intelligence is subject to various risks, including, potentially rapid product obsolescence, theft, loss, or destruction of cryptographic keys, the possibility that digital asset technologies may never be fully implemented, cybersecurity risk, conflicting intellectual property claims, and inconsistent and changing regulations.
Blockchain and cryptocurrency investments are subject to various risks, including inability to develop digital asset applications or to capitalize on those applications, theft, loss, or destruction of cryptographic keys, the possibility that digital asset technologies may never be fully implemented, cybersecurity risk, conflicting intellectual property claims, and inconsistent and changing regulations. Speculative trading in bitcoins and other forms of cryptocurrencies, many of which have exhibited extreme price volatility, carries significant risk; an investor can lose the entire amount of their investment. Blockchain technology is a new and relatively untested technology and may never be implemented to a scale that provides identifiable benefits. If a cryptocurrency is deemed a security, it may be deemed to violate federal securities laws. There may be a limited or no secondary market for cryptocurrencies.
Digital assets are subject to risks relating to immature and rapidly developing technology, security vulnerabilities of this technology (such as theft, loss, or destruction of cryptographic keys), conflicting intellectual property claims, credit risk of digital asset exchanges, regulatory uncertainty, high volatility in their value/price, unclear acceptance by users and global marketplaces, and manipulation or fraud. Portfolio managers, service providers to the portfolios and other market participants increasingly depend on complex information technology and communications systems to conduct business functions. These systems are subject to a number of different threats or risks that could adversely affect the portfolio and their investors, despite the efforts of the portfolio managers and service providers to adopt technologies, processes and practices intended to mitigate these risks and protect the security of their computer systems, software, networks and other technology assets, as well as the confidentiality, integrity and availability of information belonging to the portfolios and their investors.
ETFs trade like stocks, fluctuate in market value and may trade above or below the ETF’s net asset value. Brokerage commissions and ETF expenses will reduce returns. ETF shares may be bought or sold throughout the day at their market price on the exchange on which they are listed. However, there can be no guarantee that an active trading market for ETF shares will be developed or maintained or that their listing will continue or remain unchanged. While the shares of ETFs are tradable on secondary markets, they may not readily trade in all market conditions and may trade at significant discounts in periods of market stress.
Non-fungible token (NFT) involve several risks that potential buyers and investors should consider, including market volatility, lack of regulation, and liquidity issues. In addition to these risks there are legal risks with respect to ownership, including that owning an NFT does not necessarily grant copyright to the underlying artwork, and that NFTs serve as digital representations with no physical counterpart.
Any companies and/or case studies referenced herein are used solely for illustrative purposes; any investment may or may not be currently held by any portfolio advised by Franklin Templeton. The information provided is not a recommendation or individual investment advice for any particular security, strategy, or investment product and is not an indication of the trading intent of any Franklin Templeton managed portfolio.