We can argue that many decentralised finance (DeFi) protocols are no longer experimental. The underlying infrastructure clearly works, and recent regulatory developments are now making participation suitable for institutions. Tokenised real-world assets (RWA) offer familiar product structures, and permissioned lending pools are now available. But none of this has led to any meaningful capital flows.
Institutional investors, including pensions, endowments, sovereign wealth funds, and insurance firms, are not moving because the legal enforceability of crypto assets and smart contracts is still unclear. Their mandates do not allow exposure to unresolved legal or regulatory risk.
Even though the available DeFi yields may be attractive, the risk-adjusted returns are not compelling enough to make DeFi a core allocation. Nearly all inflows come from asset managers, hedge funds, or crypto-native companies with a much higher risk tolerance.
This is important because the narrative around “Institutional DeFi” is now divorced from market reality. The industry continues to push technical progress and regulatory advancements, however, actual allocations remain negligible, if not entirely absent.
Over the years, inflation, macro uncertainty and geopolitical tensions have certainly created an environment where institutional investors are now looking for alternative yield sources.
But until either fiduciary standards change or legal certainty reaches a baseline that satisfies the institutional herd, DeFi will remain a “sideline” sector of interest, not a legitimate investment case. Institutional capital is simply staying away.
Why should we care?
The disconnect matters because it exposes the reality behind the institutional DeFi narrative. For several years, industry commentary has suggested that the primary barrier to institutional adoption was a lack of suitable infrastructure. This is no longer accurate.
Protocols work, and they work well. There are also permissioned lending pools, KYC frameworks, real-world asset tokenisation, and blockchain integrations with established custodians and banks. However, no large institutional decision maker will allocate to crypto until the legal and regulatory risks are, in their eyes, fully resolved.
For those tracking the trend, the growing presence of traditional firms and new “institutional grade” products are certainly positive signs, but most activity still centres around crypto ETFs (mostly Bitcoin). Direct participation in crypto remains limited to a handful of public companies adding Bitcoin to their balance sheets or isolated examples of state-level adoption (also primarily Bitcoin) – not DeFi per se.
Tokenised RWAs – institutional in form but not in flow
The source of capital behind tokenised RWAs is a relatively good way to measure TradFi activity. The market for tokenised RWAs now exceeds USD 23bn, but that figure is misleading if used to suggest an increase in institutional capital flows.
The fact that familiar traditional fixed income structures are now being issued and settled on public blockchains does indicate a level of progress. It shows that parts of the traditional capital markets infrastructure are beginning to move on-chain, even if the capital behind it is not yet institutional.
This is because most of the capital comes from crypto native firms, stablecoin issuers, and hedge funds, not from large institutional allocators.
Tokenised money market funds, such as BlackRock’s BUIDL, are regulated at the fund level and follow the same structure as their traditional counterparts. The key difference is that ownership is recorded on-chain, and this introduces legal and operational questions that do not exist in traditional markets – i.e., how on-chain claims and token representations would be treated in the event of a dispute or insolvency.
Institutional investors, who are typically among the largest participants in traditional MMFs, are therefore not allocating to these products.
Tokenised private credit – yield without institutional buyers
Platforms such as Tradable, Maple Finance and Centrifuge have scaled in volume and complexity in the tokenised private credit subsector, with features such as senior and junior tranches, modular deal structures, and improved reporting now available. Yields also tend to exceed those in public markets (around 9-12 percent), but the associated risks are also higher.
The problem here is that due diligence and legal structures are inconsistent. And there is also no real secondary market where institutions can move meaningful amounts of capital. So unfortunately for institutional investors, a solid infrastructure and attractive yields are still not enough to justify the risk.
Even though these platforms are “institutional grade”, and Tradable does have some backing from established private credit managers such as Victory Park Capital, the majority of capital comes almost entirely from within the crypto ecosystem.
Suffice to say, tokenised private credit is growing far more quickly than other tokenisation subsectors, with a handful of active platforms and a clear increase in active loan volumes. The market size now stands at USD 17.5 billion and increased another 32 percent so far this year.
Curated vaults and permissioned pools – institutionally-driven but retail heavy
The introduction of KYC-gated vaults and permissioned lending pools is often presented as a major institutional breakthrough. These structures do actually address some important compliance needs, but have unfortunately not attracted any meaningful flows.
Platforms such as Morpho and Euler’s v2 have built infrastructure that could work for institutional investors, but their usage (while strong) is entirely dominated by crypto-native users.
Aave’s Arc, which is a permissioned lending product specifically designed for regulated institutions, holds a negligible USD 50k in total value locked – which is evidence that permissioned architecture alone does not resolve the legal questions that matter most.
Legal uncertainty around the enforceability of smart contracts, token ownership, and of course, the limited size of these pools, means they are simply not ready for real institutional capital.
Bitcoin yield products – a new opportunity?
Meanwhile, yield on Bitcoin holdings is a very interesting avenue for institutions. Products from Coinbase, Maple Finance and other platforms now offer large holders the opportunity to earn yield on their positions. They can earn interest by lending their Bitcoin or using it as collateral for on-chain loans, provided these activities are supported by regulated custodians and clear risk controls. This may also be perceived as a less risky and complex option than interacting directly with native DeFi protocols.
Most institutional investors are still getting comfortable with crypto as an investable asset class, so the ability to generate yield with Bitcoin (arguably the most credible) seems like a logical extension for those already considering an allocation for treasury or safe haven purposes.
If these opportunities become available, allocating to Bitcoin yield products feels like a suitable entry point.
Outlook
Institutional DeFi is still defined more by narrative than allocation. Even in markets where rules are clearer, that clarity has not translated into institutional flows.
Large allocators are still waiting for proof that enforceability and operational reliability hold up in practice. Their bar is much higher than that of asset managers or hedge funds, and there is no rush to move quickly.
But with all the regulatory developments moving in the right direction, these questions may soon be resolved, and the protocols positioning themselves for this market stand to benefit disproportionately.
Only then will institutional capital begin to move – and move at scale.
ENDS
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