How crypto's lending market can overcome its confidence crisis
The episode covers the return of institutions and regulatory actions in the market, the importance of market structure and risk management, counterparty failures and regulatory oversight, market immaturity and future developments, liquidity, banking, and risk management, as well as the challenges of deal making.
Regulation and Compliance
Regulatory actions against existing players in the crypto industry have led traditional finance firms to see an opportunity in crypto. Compliance-first approaches and focus on decentralized technology can help companies avoid regulatory actions.
Separation of Trading and Custody
Separating trading from custody is crucial for investor safety in the crypto ecosystem. It also aligns with regulators' views on the matter.
Risk Management and Market Structure
The lack of well-understood risk models in the crypto market hinders the development of reasonable prime brokerage. Better risk management and market structure are needed to restore trust and liquidity.
Transparency and Regulation
Transparency with balance sheets and financials may be necessary for smaller firms in the crypto industry. Regulation should strike a balance between oversight and allowing innovation.
Liquidity and Banking
Crypto industry and post-trade settlement require 100% liquidity. Encouraging more banks to participate in banking digital asset companies can help improve liquidity. The ultimate goal is to achieve better liquidity by moving crypto off the banking system.
- The Market and Regulatory Actions
- Market Structure and Risk Management
- Counterparty Failures and Regulatory Oversight
- Market Immaturity and Future Developments
- Liquidity, Banking, and Risk Management
- Deal Making Challenges
The Market and Regulatory Actions
00:05 - 07:48
- The market is experiencing a sense of deja vu with the return of institutions and regulatory actions.
- The US approach to regulating digital assets is necessary but complicated due to its position as the global leader in trusted markets.
- There is coordination happening that leads to traditional finance firms seeing an opportunity in crypto after regulatory actions against existing players.
- Dico has not faced any regulatory actions and attributes it to their compliance-first approach and focus on decentralized technology.
- Dico's product line includes a decentralized wallet platform and qualified custody services, which are becoming increasingly important for investor safety.
Market Structure and Risk Management
07:21 - 14:58
- BitGo is primarily known for its qualified custody services, but it also provides software and hardware solutions.
- The separation of trading from custody is important for the safety of investors in the crypto ecosystem.
- BitGo finds alignment with regulators like Mr. Gensler on this issue.
- The existing crypto market structure cannot support reasonable prime brokerage due to the lack of well-understood risk models.
- A settlement layer is necessary to build a reliable risk model for prime brokerage.
- Lending markets in the crypto ecosystem have dried up due to uncertainty about risks.
- FTX's collapse highlighted the need for better risk management in the industry.
- BitGo did not have exposure to FTX because it was not heavily involved in trading on that platform.
Counterparty Failures and Regulatory Oversight
14:28 - 21:30
- Counterparty failures in the market cause participants to retreat and rethink their approach.
- The insolvency of companies in the crypto industry raises questions about how regulators can help.
- Crypto's unique characteristics can result in obfuscated crises despite its supposed transparency.
- Different types of failures in the industry include frauds and risk exposures.
- With better market structure, assets and liabilities can be tokenized for public exposure.
- Regulators struggle to completely stop fraud, but their job is to put guard rails in place.
- Early participants in digital assets were small companies with limited tolerance for mistakes.
- Large centralized banks have more resilience to failure compared to small startups.
- Public companies have public financials, while private companies lack transparency when they face trouble.
- Transparency with balance sheets and financials may be necessary for smaller firms in the crypto industry.
- Regulation should not stifle innovation but find a balance between oversight and allowing new players into the market.
Market Immaturity and Future Developments
21:07 - 28:19
- The crisis was less about the nature of the asset class or the assets themselves, but more about the level of immaturity of market participants
- Market structure needs to change to restore liquidity and trust in the system
- New definitions are needed for tokens that have overlap with security and utility
- The S1 listing process should be eliminated to allow for quicker creation of financial products
- Separation between trading and custody is important to build transparency
- Oversight on broker dealers is necessary to prevent manipulation
- Technology like smart contracts can provide effective oversight and transparency
- The lending market will come back when there are stable risk ways to provide services
- BitGo's future may involve providing collateral management and risk monitoring rather than lending components
- Settlement systems like Silvergate were limited due to concentration risk and regulatory issues with banks participating in crypto industry
Liquidity, Banking, and Risk Management
27:52 - 34:40
- Crypto industry and post trade settlement require 100% liquidity
- Banks are not 100% reserve, but custodian banks like trust companies are
- Silvergate faced a concentration risk problem and lost revenue, leading to its closure
- Regulators could help by encouraging more banks to participate in banking digital asset companies
- BitGo's Go network offers both Fiat and crypto post-trade settlement with distributed banking relationships
- The ultimate goal is to get crypto off the banking system for better liquidity
- BitGo specializes in 100% cold storage and qualified custody throughout the lifecycle of assets
- Galaxy couldn't get through SEC process due to regulatory delays, while prime trust ran out of money for acquisition
Deal Making Challenges
34:12 - 34:52
- The problems are pretty severe.
- The timing of the deal is late.
- There was only a letter of intent, not a full signed deal.
- Due diligence revealed that the deal doesn't make sense.
- Dealmaking is a thorny process.