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For the past week, we have extensively reported on the contagion that has been sweeping the broader crypto market, highlighting the events that led to the shutdown of Celsius withdrawals and now the bankruptcy of Three Arrows Capital (3AC), a former giant finance space in the hedge.
This article further examines some of the potential knock-on effects of these events.
While the market is recovering from the contagion effects of several bankruptcies, it seems very likely that the dust from the big events has not yet settled.
On June 17, 2022, crypto yield service Finblox announced that it would cap withdrawals to the equivalent of $1,500/month. The platform offered extremely high returns on crypto assets and was a portfolio company of 3AC.
Similarly, Deribit, an industry-leading crypto derivatives and options platform, announced that it suffered losses on “market developments.”
“We can confirm that Three Arrows Capital has been a shareholder of our parent company since February 2020.
“Due to market developments, Deribit has a small number of accounts that have net debt with us that we consider potentially non-performing.
“Even if we don’t repay this debt, we remain financially healthy and operations will not be impacted.
“We can confirm that all client funds are safe and the overall insurance fund remains intact. Any losses will be covered by Deribit.” – Statement posted on Deribit’s Twitter account
Since Three Arrows Capital was an early investor in the platform, given the collateralized nature of derivatives trading platforms, if Deribit suffered losses at the hands of 3AC, it would look like the company would let the company trade on unsecured funds.
With recent developments, rumors have been circulating, with speculation that several crypto lending/borrowing desks have been hit by bankruptcy.
This is a good reminder for readers to learn the importance of self-custody and the ability to hold your own money with no counterparty risk.
While it is uncertain which companies have suffered a balance sheet impairment, there is a strong possibility of losses for all companies in the industry and the dust is likely not to have settled yet.
Shares in crypto custody/lending firm Invest Voyager ($VOYG) are down 33% over the past two days. The company’s most recent quarterly release showed that the company had loaned $320 million to a Singapore-based company (home of 3AC before the move). Whether or not the loan went to 3AC, the stock price plunge is certainly not a vote of market confidence in a US-based public crypto lending platform.
Similarly, BlockFi’s CEO released a statement saying the firm liquidated an overcollateralized margin loan from a customer who had defaulted on its debt obligations, without mentioning the customer’s name or the underlying collateral.
There may be certain counterparties that are safer than others, but the exact risks of most yield providers are opaque at best, and since no crypto-native arbitrage opportunity to generate yield is currently available (GBTC arbitrage, futures premium, etc.), the risk is / The reward for holding your holdings with these platforms has probably never been lower.
Impact on the market
There will likely be more information on the damage done in the coming days/weeks. Balance sheet contagion, while originally a by-product of traditional finance and fractional reserve banking, has hit the bitcoin/crypto market.
This means there are large amounts of dollar denominated commitments against a fixed amount of crypto assets that can be pledged/sold as collateral. This is particularly why the market has tumbled in the weeks following the collapse of UST and now the failure of Celsius and 3AC.
While Bitcoin is already down 70% from its all-time high, the increasingly volatile nature of the legacy financial system of late, coupled with the risk of contagion spreading through the crypto market, signals that more pain is likely to come.