Is Luxembourg’s cryptoasset management sector an evolving landscape, with promising opportunities for institutional investors in Europe? Benjamin David investigates.

The emergence of cryptoassets has stirred the financial landscape, evoking a range of opinions from enthusiasts and sceptics alike. Within this context, Luxembourg, a prominent European country for investors, has positioned itself as a notable jurisdiction for cryptoasset management.

The second edition of the ‘Crypto-Assets Management Survey’, commissioned by the Luxembourg House of Financial Technology (LHoFT) and supported by the Association of the Luxembourg Fund Industry (Alfi), sheds light on Luxembourg’s potential, presenting institutional investors in Europe with an intriguing opportunity to explore this sector.

Unveiling the potential

The survey results reveal that Luxembourg is gaining increasing recognition as a preferred destination for cryptoasset management. In all, 19% of responders see the country as leading in the cryptoassets space, surpassing powerhouses such as the UK (11%) and France (10%).

Interestingly, an overwhelming 82% of respondents in the survey emphasised the importance of Luxembourg’s active involvement in the broader cryptoassets space. This collective sentiment indicates that institutional investors recognise the transformative potential of this asset class. While some enthusiasm has waned, a significant portion of participants (24%) still view cryptoassets as having high investment potential, with 34% considering the potential to be moderate.

"82%: the percentage of survey respondents who emphasised the importance of Luxembourg’s active involvement in the broader cryptoassets space."

According to Nasir Zubairi, CEO of LHoFT, Luxembourg’s establishment of a clear legal and regulatory framework that ensures certainty and investor protection is a significant factor contributing to Luxembourg’s prominence here. He explains that the Luxembourg government and regulatory bodies have taken proactive steps to understand cryptoassets’ unique challenges and opportunities, creating a favourable environment for market participants while exercising caution and prudence.

Luxembourg has also been highlighted in the past few years as nurturing an ecosystem fostering innovation and collaboration. For example, the ‘European Innovation Scoreboard 2022’ summarised Luxembourg as a “Strong Innovator”, with performance at 118.6% of the EU average. Moreover, its performance is above the average of the Strong Innovators as a whole (114.5%). Unsurprisingly, the country has attracted diverse cryptoasset businesses, including exchanges, custodians and fund managers. Zubairi also says that Luxembourg has been successful in bringing together industry players, facilitating dialogue and addressing the evolving needs of the cryptoasset sector.

Challenges as opportunities

The survey also highlights perception challenges facing the broader adoption of cryptoassets in Luxembourg, including concerns related to market infrastructure maturity, volatility and anti-money laundering risks.

Gildas Blanchard, head of industry affairs at Alfi, explains that regulatory clarity is one of the critical tools to address those challenges. Financial innovation is a “chicken-and-egg situation,” he adds, and in the context of virtual asset funds, he says that Alfi is convinced that regulatory certainty is “fertile ground” for product innovation. “The survey highlights some positive evolutions on this topic at the EU and national levels. This is the result of an open dialogue between the industry, including trade bodies, and the regulator. As an illustration, the publication of the FAQs on Virtual Assets by the CSSF brought additional clarity.”

He says the regulatory framework can always be improved, and this is “at the heart of the ongoing dialogue with regulatory bodies”.

For Zubairi, the varying perceptions of investment potential in cryptoassets can be attributed to several factors. Firstly, the inherent volatility of cryptoassets creates uncertainty and apprehension among investors. Price fluctuations and market unpredictability lead to cautious attitudes, especially among the traditional finance sector in Europe, where there is a “razor-sharp focus” on stability and risk management.

“As we identified in the survey, there is still a lack of broad and deep knowledge about cryptoassets in the traditional finance sector, and education is key to developing attitudes and the right strategy.”

He explains that until the regulation on Markets in Crypto-Assets (MiCA) is “fully implemented”, regulatory uncertainty and concerns around investor protection will continue to affect perceptions. “As we identified in the survey, there is still a lack of broad and deep knowledge about cryptoassets in the traditional finance sector, and education is key to developing attitudes and the right strategy.”

However, some of the confusion comes from the frameworks themselves, explains Alfi’s Blanchard, who says that clear and consistent regulatory frameworks are “key” to developing financial innovations.

MiCA, among other legislative initiatives, contributed to reducing interpretation uncertainty and enhanced clarity on the requirements. This additional clarity “facilitates innovation and the development of virtual asset-related operational models”, explains Blanchard. In addition to MiCA, he says that it’s germane to highlight the progress made on the DLT Pilot regime and the Blockchain III law in Luxembourg.

Crucially, there is a collaborative point to highlight involving regulators and industry stakeholders to address market infrastructure maturity, volatility and anti-money laundering challenges and enhance Luxembourg’s position as a cryptoasset management hub, according to Zubairi. “There is already significant dialogue and active collaboration across the private and public sectors through various industry associations such as Alfi and the ABBL (Luxembourg’s banking association) as well as through our work at the LHoFT.”

Discussions focus on four points:
• Enhancing market infrastructure for cryptoassets in asset management by standardising protocols, improving liquidity and fostering participant interoperability.
• Mitigating price volatility through collaborative efforts, developing risk management tools such as cryptoasset derivatives and volatility indexes for risk hedging.
• Maintaining high AML and KYC standards for cryptoasset firms in Luxembourg, ensuring compliance with international regulations and addressing challenges through ongoing dialogue.
• Promoting industry awareness and knowledge through educational initiatives, workshops, seminars and training programmes to enhance Luxembourg’s reputation as a responsible cryptoasset management hub.

Industry experts have also flagged media coverage and public sentiment towards cryptoassets as impacting sentiment towards the sector. Negative narratives – such as security breaches, fraud or market manipulation incidents – impact investor confidence, explains Zubairi. “Obviously, the sector suffered several shocks in the 2022-23 period: foremost, the collapse of FTX. There is still much work to be done, and thus there is an opportunity to build a robust and trustworthy infrastructure that will take the industry forward. It is critical that people in the finance industry address these concerns, work to enhance transparency and educate themselves and investors about the potential benefits and risks associated with cryptoassets.”

Carolane De Palmas, a crypto and financial content expert at ActivTrades, shares a similar viewpoint, highlighting the importance of embracing a sundry-like approach to regulation. “To create a supportive ecosystem that attracts major players and investors, Luxembourg should collaborate with regulators and industry stakeholders by focusing on establishing a clear regulatory framework,” she explains, adding that such a move would develop industry standards and best practices.

She also stresses the importance of promoting education and skills development, fostering market infrastructure development, engaging in international collaboration and encouraging public-private partnerships, “as well as supporting overall crypto adoption in the country”.

“To create a supportive ecosystem that attracts major players and investors, Luxembourg should collaborate with regulators and industry stakeholders by focusing on establishing a clear regulatory framework."

Interestingly, approximately one-third of respondents to the LHoFT survey consider regulations, such as MiCA, a critical factor for the industry’s development of a well-defined regulatory framework that promotes innovation while ensuring investor protection.

Indeed, De Palmas explains that implementing regulatory frameworks is “essential” for the widespread acceptance of cryptoassets. “These regulations bring transparency, security and trust to the industry by setting clear rules and standards for issuers, service providers and trading platforms.”

These regulations ensure fair competition and provide a stable environment for market participants, in her view. “Regulatory frameworks safeguard investors, maintain market integrity and enhance financial stability,” she adds, “and by fostering responsible growth and attracting institutional investors, these regulations play a vital role in the long-term development and maturity of the cryptoasset industry.”

Untapped potential and outlook

The survey findings suggest that a significant proportion of respondents (39%) believe the global cryptoassets market is still in its early stages, presenting untapped potential. Moreover, 33% anticipate an inflection point, signalling broader adoption and maturity.

Zubairi points out that institutional investors must consider several factors to ensure informed decisions about participating in the cryptoasset market, including regulatory compliance, risk assessment, market infrastructure, due diligence and transparency, market research and portfolio diversification.

By evaluating these considerations, institutional investors can align their strategies with their risk appetite and objectives, ostensibly paving the way for a sustainable and successful integration of cryptoassets into their portfolios.

Luxembourg’s proactive approach to regulation, coupled with its growing ecosystem and collaborative efforts, positions it as a prime destination for institutional investors looking to explore the promising opportunities in the cryptoasset management sector in Europe and beyond.

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