14 small electric chairs and the future of markets

Andy Warhol’s 14 Small Electric Chairs, a 1980 screen print that stands two metres high, may offer a glimpse into how markets might function in the future. Last year, a share of it was auctioned and converted into digital tokens, offering the buyers of those shares the chance to trade them in a secondary market. 

This form of fractional ownership using blockchain technology is still in its infancy. But it has the potential to provide solutions to a market trend that warrants some attention: the growth of private markets. 

Since the 2008 financial crisis, capital markets have gradually moved to favour the private investor over the public one. In 2018, around $2.4 trillion was raised privately in the US, which was roughly $300 billion more than was raised in public markets¹. 

Meanwhile, the number of US public companies, in which anyone can buy a share, has been steadily shrinking. In the early-80s the US had around 5,700 stocks with readily-available price data. That number has fallen to about 4,400² in 2018, despite US GDP increasing seven-fold³ over the same period. 

Investors are piling in, attracted by illiquidity premia in a world of flat or declining risk-free rates of return. The Fidelity Research Institute surveyed 900 clients around the world and found between 30 and 40 per cent of the larger institutions intend to increase their allocations to private equity - a tide so large that it alone could change the dynamics of the market. 

While some savers will have access to private opportunities through the "slow capital" of defined-benefit pension schemes, those who are at the beginning of their career in defined-contribution pensions, or who don’t have access to a large fund with the right heft and expertise, are excluded. 

Democratising the private market 

Such exclusion is undesirable in the long term. Where the majority of people feel disconnected from the value-adding function of a system such as financial capitalism, there is an increased risk to that system’s licence to operate. 

Private assets are less liquid and less easily divisible than stocks and bonds, but this is where technological innovation may provide a solution.

Distributed ledger technology, the backbone of the blockchain, can be harnessed to record fractional asset ownership. This opens up the opportunity to trade bits of previously private assets over a peer-to-peer network, transferring ownership in an instant to a wider range of investors. 

Eventually, as the technology becomes more sophisticated, it could help democratise parts of the market, bringing ownership of private assets to a broader section of investors, as well as reducing trading costs and increasing liquidity. 

But not everyone wants to buy a share in a Warhol. At Fidelity, we’re increasingly interested in exploring how tokenisation can deliver exposure to real estate assets. The technique has the potential to provide products that address liquidity concerns for investors in traditional property fund structures, as well as lowering the entry bar for an asset class where the standard lot size is often prohibitive for wholesale and even experienced retail clients. 

While the technology is developing at pace, establishing a trusted secondary market takes time. The public market for company shares - The Stock Exchange - has had centuries to evolve, cultivating the qualities of legal certainty and speed of execution. To recreate these in a scalable, tokenised environment within a short timeframe presents an obvious challenge. 

Last year, a share of it was auctioned and converted into digital tokens, offering the buyers of those shares the chance to trade them in a secondary market.

Meanwhile, we would also have to consider how the concept of voting rights, for a long time embedded in public markets, could be adapted to these new frontiers of ownership. Innovations that start in the private sphere often migrate to the public one. Bank of England Governor Mark Carney floated the idea in August of creating a global digital currency to reduce the financial system’s dependence on the US dollar. Perhaps one day, institutions will buy and sell bits of companies in the form of tokens rather than in shares. This opens up interesting questions about whether exchanges, which have been at the heart of our financial architecture since the early 17th century, will be needed in a system of bilateral transactions between ledger-backed wallets or whether other platforms for the trading of secondary tokens will evolve. 

Survival of the market 

We are living in an era in which fundamental questions are being asked of the structures that distribute power around the globe. And, if current market trends hold their course, it won’t be long until we’ll see similar questions being asked of the systems that distribute financial capital. 

Andy Warhol’s piece considers the end of life. Similarly, if our capital markets are to survive as a system well into the next century, they must reflect the interests of the majority of people or risk their very licence to operate. While private markets have many benefits, such as encouraging a long-term approach to investment, there is a societal cost to shifting huge swathes of financial value creation to them away from the public markets. 

Of the potential answers, distributed ledger technology is one of the most promising. It’s time to take stock of the structure of the private market, so more people can have a share in it. 

(1) The Fuel Powering Corporate America: $2.4 Trillion in Private Fundraising, Wall Street Journal & Dealogic www.wsj.com/articles/stock-and-bondmarkets- dethroned-private-fundraising-is-now-dominant-1522683249. 
(2) World Bank data.worldbank.org/indicator/CM.MKT.LDOM. NO?locations=US.
(3) World Bank data.worldbank.org/indicator/ NY.GDP.MKTP.CD?end=2018&locations=US&start=1980 

Anne RICHARDS CEO- Fidelity International Anne joined Fidelity International as CEO in December 2018 from M&G Investments where she was CEO and a director of its parent company Prudential plc. She has worked in the asset management industry since 1992. Anne has almost three decades of experience as an analyst, portfolio manager and CIO and is a strong proponent of ESG investing. Her career path spans many blue chip global names in the financial sector including Alliance Capital, JP Morgan, Merrill Lynch Investment Managers and Aberdeen Asset Management. Anne is a Chartered Engineer and began her career as a research fellow at CERN, the European Organisation for Nuclear Research. She is a former chair of the UK Financial Conduct Authority’s Practitioner Panel and is also a member of the US-based Board of Leaders of 2020 Women on Boards, which works to increase the proportion of women on corporate boards. Anne was publicly recognised in the UK for her services to the voluntary sector and to the Financial Services industry by being appointed a Commander of the Royal Victorian Order (CVO) in 2014 and a Commander of the Order of the British Empire (CBE) in 2015. Anne holds an MBA from INSEAD and a BSc (Hons) from the University of Edinburgh as well as an honorary degree from Heriot-Watt University.