This episode focuses on the macro conditions that have battered all markets, including the crypto market, as well as crypto-specific events, such as the implosion of TerraUSD (UST), the crises in the crypto lending space, and the collapse of 3AC, which have not helped matters. Lorraine gives a short commentary of what this means for retail investors and the crypto lending space.
Episode Highlights
Macro conditions have not spared the crypto markets.
The implosion of UST/LUNA, and crises in the centralized crypto lending space have further shaken investor confidence.
Regulation might be needed to protect crypto lending firms from themselves and to protect investors
Retail investors need to protect themselves as well.
Episode Links:
Celsius:
https://www.coindesk.com/business/2022/06/16/how-crypto-lender-celsius-overheated/
3AC:
https://cointelegraph.com/news/three-arrows-capital-has-failed-to-meet-margin-calls-report
https://www.theblock.co/post/155578/three-arrows-capital-files-for-chapter-15-bankruptcy-in-new-york
Exposure to 3AC
Blockfi: https://blockfi.com/a-message-from-our-founders-july-2022
Voyager: https://www.newswire.ca/news-releases/voyager-digital-provides-market-update-825686912.html
Genesis:https://cointelegraph.com/news/genesis-trading-ceo-confirms-3ac-exposure-parent-company-helps-plug-losses
Blockchain.com: https://www.coindesk.com/business/2022/07/08/crypto-exchange-blockchaincom-faces-250m-hit-on-loans-to-three-arrows-capital/
Hi, welcome to decentralized, a podcast on the crypto space. I will be talking about the infrastructure that runs this space. cryptocurrencies crypto investing the crypto market and the factors that affect it. My name is Lorraine Mutyaba and I am the host of decentralized.
I had wanted to use this episode to start discussing the landscape, but I cannot proceed without addressing the elephant in the room. And that is the state of the crypto market. As I mentioned last week, the crypto market is experiencing a crypto winter. Prices of all crypto assets are down in excess of 70%. There is a lot to unpack here. So, in this episode, I will discuss the factors that have led us here. And then in the episode that follows, I will discuss the lessons that the crises in crypto that have contributed to the state of the space offer us as retail investors and how they can help us better navigate this market. Most markets are down; the macro conditions, the inflation, Russia's invasion of Ukraine, fears of a world war three, supply chain disruptions, an impending global recession have all created uncertainty and shaken investor confidence. In periods of uncertainty, investors usually leave treacherous waters, seeking out safer harbors, whether that's cash or much safer assets. According to Bloomberg in May, stocks lost $12 trillion in market value, as investors dumped risky assets owing to the state of the economy and the geopolitical landscape. They also fled major asset classes due to fears of a looming recession. These conditions have not spared the crypto market, which is considered to be riskier than other markets and could explain in part why we are here.
But if we are to park this marsh macros to the side, what else has brought us here? The answer is crypto specific events that started or that were magnified by the implosion of a stable coin called UST and its sister token Luna. So what is a stable coin? A stable coin is a coin whose value stays more or less the same. It doesn't experience the same volatility that other crypto assets experience. They are several types of stable coins. But I'll focus on just two of those: Fiat backed stable coins and algorithmic stable coins. What do I mean when I say backed? So let's say there is a stable coin that is backed by US dollars at a one to one ratio. That means that every unit for every unit of that stable coin there is an equivalent amount of US dollars in the reserves of the entity that issues that coin. So you can redeem one unit of that stable coin for a US dollar. With algorithmic stable coins by design they are not backed by anything. Instead, a complex a complex algorithm involving a sister token maintains the peg of the stable coin. UST was an algorithmic stable coin, and its sister token was Luna. In April of this year, Luna was worth $116. By May 14, Luna was worth a fraction of a cent What happened? Well, on May 7, USD lats lost its peg to the US dollar. By May 9, it was trading at 35 cents. efforts made by the people charged with re establishing the peg with defending that peg failed catastrophically. They resulted in sales of Bitcoin reserves, as well as the printing of so much Luna, that Lunas price fell as well.
About a month later, a crypto lender called Celsius, froze withdraws. On its platform, a crypto lender is like a crypto bank. Just as you deposit money in accounts held by your bank and earn an interest on those deposits. You can deposit your crypto assets into accounts held by a crypto lender and earn interest on those deposits that interest you and is usually much more appealing and attractive than what traditional banks offer. And just as traditional banks lend money to other people, to farms to companies, etc. And charge an interest. Crypto lenders do the same thing and charge an interest. So Celsius or crypto lender prevented anyone who had deposited any cryptocurrencies on its platform from withdrawing their crypto, what happened. It has emerged that Celsius was playing fast and loose with its deposits with its users money and had very poor risk management strategies and protocols in place. It made bad bets, was involved in bad trades, was the victim of bad luck. After Celsius announced that it had frozen, withdrawals people who had their money on other crypto lending platforms decided to get off those platforms as soon as possible, because they were worried that what had happened to Celsius was going to happen to their crypto lender. So usually, these crypto lenders have some reserves on hand that can allow them to meet the obligations of to meet their obligations to their users. But when you have a stampede of people coming at you saying hey, I want my money, and I want it now, your reserves might not be able to meet all of their requests. And so these lenders started facing a liquidity problem. And others decided to limit withdrawals or to freeze them altogether, citing extreme market conditions.
So about the time that Celsius paused withdrawals on its platform, it was alleged that a crypto hedge fund called three Rs capital or three AC was insolvent. Hedge funds pool money from a certain category of investor and then they invest that pooled those pooled funds in in in different types of securities, different assets so that they can obtain a positive return. Some of the methods that they use the cold, aggressive and maybe unorthodox, but they all involve borrowing money from a broker or from a lender. So why did they do this? Let's say you had 3750 Ugandan shillings which is about $100. And your projections and your analysis showed that if you bought stock B today, stock B is worth $1 today. Tomorrow, you would have doubled your money because stock B would be worth $2 If you buy stock B with you $100 Tomorrow, you'll only have 200. So you would have made a profit of only $100. But if you borrowed an extra 100 from a lender, you would be starting with $200. And that means tomorrow, that 200 will be worth $400, your lender would sell stock B for you, it would remove its loan, and it would give you the rest. So you'd have made a profit of $200. Buying on margin works really well when your projections are accurate, and gives you an opportunity to maximize your gains. But if your projections are wrong, then you could end up losing everything. And you could end up owing your broker money. Buying on margin is dangerous for someone who is not a sophisticated trader, which is unfortunately many of us. So what happened with three AC? Well, three AC borrowed money from several other big lenders in the crypto space. It made a projection that the market conditions were going to improve that the market was going to keep going up. Unfortunately, the market had other plans, and therefore three AC ended up losing a lot of money as well as losing some lenders money and owing lenders money in the process. At the beginning of last week, three AC filed for bankruptcy. Where does that leave its lenders? Well, many of them are already facing liquidity crises. And now they have had to be bailed out some of them. Others were able to absorb some of those losses. And one in particular has had to file for bankruptcy. What is clear is that the centralized crypto lending sector is in crisis. It's in dire straits. The macro conditions and the crypto specific events and implosions have put the market in the state that it's in. What has happened in the centralized lending space is deplorable. It just doesn't make any sense. And it raises questions about regulation to protect crypto firms from themselves, and also make sure that the retail investors that use this, these bombs platforms are protected by but it also raises questions about due diligence on our part, and the kinds of risks we're taking in a market that's already high risk. We might need to protect ourselves from ourselves as well. This is all I have for you this week. Thank you for listening in until next time, take care of yourselves