The Middle East has a predominantly oil economy. But that’s changing and technology and innovation-driven businesses have taken a strong root in this region, transforming the economic and financial landscape.
The UAE, for example, has emerged as a global business and finance hub, attracting entrepreneurs and capital from many parts of the world. In line with this trend, global hedge funds and venture capital funds have also set up regional offices, particularly in Abu Dhabi and Dubai. With their offices in UAE, these companies tap business opportunities across the Middle East and North Africa, which is geographically very close.
The Middle East advantage
As the UAE has been an early mover in digital assets regulations, it has seen a significant number of companies offering digital asset products and services. In March 2023, Dubai introduced a crypto regulatory framework for digital asset issuers and service providers, enabling them to obtain licences and work in a clear regulatory environment.
It’s estimated that over 500 crypto and web3 companies are having their offices in Abu Dhabi and Dubai. The UAE government supports the country’s transition to a digital economy by providing impetus such as the introduction of Hub71 + Digital Assets which brings over $2bn in government funding targeted at accelerating the growth of web3 startups.
Evolving role of custody firms
Custodians have long been offering safekeeping of assets and managing the paperwork for their clients. Traditional custodians offer their services for physical assets like stocks, bonds, gold, etc. Often, they lack the expertise and technological capabilities to deal with their customer’s digital assets.
It brings into the picture new-age digital asset custodians who have both the technical infrastructure and knowledge to provide custody services and help their clients with value-added services. The digital asset landscape is still evolving, which necessitates everyone in this ecosystem to be open and ready to adapt to changes that may come.
Against this backdrop, institutional investors and family offices must work with regulated digital asset custodians. It ensures their assets are safe and secure while the holders have the ease of access to their assets to carry out transactions as and when they need. Going forward, digital asset custodians offer to manage these transactions.
For example, staking allows the owners to earn from their holdings by participating in a proof-of-stake transaction verification mechanism. Some custodians can perform the entire range of staking operations on behalf of their clients. This elucidates how digital asset custodians can help individuals and institutions with digital asset holdings in not only their safekeeping but also in managing transactions.
Hedge funds and venture capital firms with digital asset portfolios
Hedge funds and venture capital firms are increasingly interacting with digital assets at both the investment receiving and investment making stages. This trend is particularly evident in the Middle East, where:
- Sovereign wealth funds have significantly increased their hedge fund investments: According to DIFC, the highest proportion of sovereign wealth held in hedge funds globally is found in the Middle East. These funds have increased their hedge fund investments by 11 percent to $498bn in 2022, with an average portfolio allocation of 2.2 percent. This indicates a strong appetite for alternative investments, including digital assets.
- Digital assets are seen as a diversification opportunity: A survey by Laser Digital revealed that 93 percent of Middle Eastern institutional investors consider digital assets a valuable tool for diversifying their portfolios, alongside traditional asset classes. This suggests a growing acceptance of digital assets within the investment landscape.
- Web3 startups are attracting VC attention: The Middle East is witnessing a surge in Web3 startups utilising blockchain, AI, and other emerging technologies. As per the same Laser Digital Survey, 94 percent of investors acknowledge the potential of these startups and are actively investing in them, further solidifying the link between VCs and digital assets.
How regulated custodians can help venture funds and VCs
As hedge funds and venture capital firms increasingly hold digital assets, partnering with regulated digital asset custodians offers several critical advantages:
Security expertise
Hacks of blockchain networks and thefts of digital assets are quite rampant and it calls for a robust cybersecurity mechanism. In particular, advanced encryption techniques and cold storage solutions need to be implemented. A multi-signature wallet is also a standard requirement. A traditional custodian may lack the required expertise to navigate this complex cybersecurity landscape.
The job of a digital asset custody firm starts with prioritising the security of digital assets under their custody. It’s the key performance area for them and competition between two digital asset custody firms boils down to who offers a more secured custody solution. So digital asset custodians, hedge funds and venture capital firms can find the best solution to their security concerns for their assets.
Regulatory compliance
Navigating the evolving regulatory landscape surrounding digital assets in the Middle East is crucial for venture funds and VCs. While regulations are becoming clearer in countries like the UAE, the overall landscape in the MENA region is evolving.
For example, the UAE has established several regulatory authorities like the Dubai Financial Services Authority (DFSA), the Virtual Assets Regulatory Authority (VARA), and the Securities and Commodities Authority (SCA), each with specific regulations governing different aspects of digital assets.
Regulated digital asset custodians stay updated on these regulations, ensuring compliance with anti-money laundering (AML), travel rule compliance, source of funds verification, and tax laws in different jurisdictions, freeing VCs and funds to focus on core investment activities.
Technological infrastructure
Hedge funds and VCs benefit from the advanced technological infrastructure offered by digital asset custodians. This infrastructure enables secure interaction with blockchain networks and seamless transaction management. Key management and blockchain analytics are crucial areas where custodians provide cutting-edge solutions, constantly evolving to stay ahead of threats like quantum computing.
At Liminal we pre-screen all user transactions for risks, compliance checks and anomalies. This allows VCs and funds to avoid the complexities of building and maintaining their own infrastructure, freeing them to focus on core investment activities.
Takeaway
The Middle East’s burgeoning digital economy presents an attractive landscape for global hedge funds and VCs seeking investment opportunities. However, navigating the evolving regulatory framework and managing digital assets securely require specialised expertise.
Partnering with a regulated digital asset custodian like Liminal offers a crucial solution, providing advanced security infrastructure, regulatory compliance expertise, and operational efficiency. This allows investors to focus on their core business: Identifying and securing profitable investments in the digital asset space.