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Lending Briefing: As crypto lenders fall like dominoes, what’s next for the industry?

  • Crypto lending has taken a turn for the worse since the FTX debacle.
  • In this briefing we take a look back at what Genesis and BlockFi told us about their plans earlier this year, what went wrong and what is in store for crypto lending in the future.

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Lending Briefing: As crypto lenders fall like dominoes, what’s next for the industry?

Earlier this year, crypto lending and alternative asset lending was on a roll, with many new retail and institutional investors joining the ranks attracted by the growth and yields observed in the sector.

In fact, when Tearsheet spoke to BlockFi and Genesis in July, both companies seemed to be secure in their overarching lending infrastructure, as well as confident about consumer demand. BlockFi stated “People are very excited about how they can get into the market, but also how we can help them and provide liquidity both through our traditional means in the retail side, but also looking for ways that we can provide liquidity for our institutional partners.”

However, things have not gone as planned and the events of the last six months have severely impacted both companies, as well as the larger crypto lending space. 

After being exposed to Terra’s collapse earlier in the year, BlockFi received a $400 million credit line from FTX. This provided a lifeline for the company at the time, but made it  vulnerable to FTX’s collapse later in the year, which led to BlockFi filing for chapter 11 bankruptcy on Nov 2nd.

Similarly impacted by FTX, Genesis announced that it needs an emergency funding of $500 million for “cash on hand”  in order to pay its customers but is not considering filing for bankruptcy imminently.

The possible impact of this is hard to overstate. For example, in 2021 Genesis issued $131 billion worth of loans and set up $116.5 billion in trades. All of this business came off of years of building trust in the crypto lending space, which is not evaporating on the heels of the FTX debacle.

So where did crypto lending take a turn or the worse? According to sources within the industry, the problem seems to have emerged not from crypto lending business model but from the fact that these companies were ‘acting like a bank’, says Dhruv Patel, CEO and co-founder of Arch, a crypto lending platform.

“They were taking customer assets from Customer A and lending them out to Customer B versus taking a spread on the debt that they would raise from external parties. You can't do that unless you have a banking license” said Himanshu Sahay, co-founder and CTO of Arch.

These practices have taken on a toll on consumer trust, and popular crypto currencies like Bitcoin, Ethereum and Solana, have been trending down in response.

Both Sahay and Patel think that sinking levels of trust can be combated by offering business models that allow consumers to confirm their assets are where the company says they are. To ensure this Arch works on a Proof of Reserve model, which is crypto-speak for putting in place an auditing practice for cryptocurrency companies that “provides an unbiased report of the companies’ assets in reserve”.

However, the collapse of centralized exchanges like FTX has pushed Centralized Finance into the corner, and brought the Defi model out into the spotlight, with many claiming the model could go mainstream if it worked out a few chinks. 

Source: Coin Telegraph

However, firms like Arch that are planning to deal with assets both on and off-chain, Defi isn’t really the route to go. “For Cefi, what we see is the ability to tinker with the underwriting and accept a wider range of collateral. For us, the advantage on our side is the ability to cross collateralize various different alternative assets. So crypto is one of them. But there are other assets that are also off-chain, think of cross collateralizing your crypto with your stock portfolio” said Patel.

Hence, nearly all fintech that wants to holistically cater to lending to all consumer assets will continue to be averse to Defi until every off-chain asset has an on-chain representation. This may put further roadblocks into Defi’s journey to mainstream success.

On the other hand, with companies teetering over the edge in the past few months, a noticeable gap has emerged in the market. “Crypto asset pricing has fallen, and this holds true across assets. People are more hesitant to sell at these all-time low prices. Hence, the demand for liquidity is also higher than it has been, which has kept up enough demand for loans.” said Patel.

For now, the wheel of crypto lending is pushing itself, helped along with newcomers, struggling leaders, and long-time hodlers alike. Will it be enough to repair consumer trust in cryptolending in the US? Even if it does, what will these developments mean for foreign investors that have lost money in the FTX debacle, and how has this damaged trust internationally?

Currently an Ad-Hoc Committee is representing Non-US Customers of to establish and protect non-US customers’ interests. Erin Broderick, attorney at Eversheds Sutherland who is representing this ad hoc committee adds that “Chapter 11 debtors are typically required to file full financial disclosures shortly after the bankruptcy filing.  Here, almost a month into the cases, parties in interests still have no real visibility as to the value of the estates, the composition of seemingly conflicting creditor groups, or the magnitude of liabilities at the FTX Trading Ltd. silo other than the customer claims.”

These problems will continue to jostle consumer trust in the coming months. Moreover, given the fallout from FTX, there is potential for this issue to adversely affect scaling up and growing past North America for fintechs in the space. Hence, driving away concerns of co-mingling of funds or inappropriate usage of customer funds is going to be the first of many difficult steps companies in the space will have to take to regain trust. 

As the investigations continue and details come to light, investors and lenders alike must brace for stronger economic headwinds - winter is coming. 

What we’re reading 

Genesis Creditor Groups' Loans Amount to $1.8B and Counting: Sources

In addition to the previously reported group of Gemini customers owed $900 million, there are two other groups of Genesis creditors being represented by lawyers, CoinDesk has learned.

Curve closes USD 1 bln deal with Credit Suisse

Through the deal, Curve will be able to expand its lending operation, Curve Flex, across the UK, the EU, and the US.

Walmart plans to offer BNPL loans through its fintech venture

The ambitious fintech venture backed by Walmart is planning to launch buy now, pay later loans as soon as next year, three people familiar with the matter said. That could put the world’s largest retailer in competition with fintech lenders like Affirm and Klarna, as well as Apple, another consumer giant set to launch its own installment loans.

Fintech Loans Leave a Trail of Pain in Western Kenya

In some parts of Kenya, it is no longer plausible to send cash into individuals’ mobile wallets without first confirming their debt status because you run the risk of bungling the transactions through docked funds.

US Senators Warren, Marshall Introduce Digital Assets Anti-Money Laundering Bill

If it becomes law, the Digital Asset Anti-Money Laundering Act will bring know-your-customer (KYC) rules to crypto participants such as wallet providers and miners and prohibit financial institutions from transacting with digital asset mixers, which are tools designed to obscure the origin of funds.

Chart of the week 

Source: S&P Global

S&P Global expects credit costs to normalize in 2023, with manageable losses despite the macroeconomic pressures like higher rates and inflation. 

Credit deterioration should be more pronounced in 2023 as operating and borrowing costs rise for companies and consumers in the midst of slow economic growth. 

This means banks will have to build their reserves, creating a headwind to earnings. S&P Global estimated provisions to rise to 20.5% of net revenues next year, compared to 10.9% in 2022 and an average of 14.5% recorded from 2013 to 2019.

What we're writing

Uncovering the implications of FTX for crypto custody with Anchorage Digital’s Diogo Monica

Wading through the sensational revelations surrounding FTX, Tearsheet reached out to crypto custody expert Diogo Monica of Anchorage Digital for commentary on the issue.

Embedding financial services in SMB verticals: 5 questions with GlossGenius CEO Danielle Cohen-Shohet

GlossGenius brought fintech to the beauty and wellness industry, embedding financial services like real-time payments, deposits, loans and business management tools all in one app.

The financial state and widening inclusion gap of the LGBTQ+ community

The number of Americans identifying as LGBTQ+ grew to 7.1% of the total population at the beginning of 2022, or double the rate reported in 2012 – making them the fastest-growing minority group in the United States.

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