On The Brink with Castle Island - Zac Prince (BlockFi) on the Series D raise and a market update (EP.191)

Episode Date: March 11, 2021

Zac Prince, CEO and Cofounder of BlockFi joins the show once again to discuss BlockFi's newly announced Series D financing and to discuss market dynamics. In this episode:  Announcing the Series D round of financing Growth of revenues and clients on the platform How BlockFi classifies itself in the taxonomy of banking, fintech, and brokerage Market worries around the GBTC discount Why did GBTC flip to being discounted? What the GBTC discount means for BlockFi How do the current GBTC dynamics affect Bitcoin interest rates, if at all? One unexpected way the GBTC discount could disappear The prospects for "busting the trust" How Zac thinks about public messaging and the Twitter environment What fraction of the bitcoin interest rate the GBTC trade represents What's next for BlockFi Prior BlockFi OTB episodes:  Rene Van Kesteren on how BlockFi manages Risk  Zac Prince on growing BlockFi through a pandemic

What's up, everyone? This is on the brink with Castle Island. We're dropping a special midweek episode with BlockFi CEO and co-founder, Zach Prince. We're talking about the series D round of financing announced today, which we participated in. In this quick catch-up with Zach, we talk about their growth, some key metrics, how they sit in the taxonomy of banking versus fintech versus brokerage. And of course, the topic that's on everyone's mind right now, the effect of the GBDC discount on the market, on the lunders, and on the Bitcoin interest rate. We also cover Zach's plans for BlockFi and what you can expect from a product perspective coming up. Let's dive right in.

Brought down by bad mortgage investments, Lehman, which has 25,000 employees, will be liquidated. The federal government loans American International Group, AIG, $85 billion. This is a different kind of market, and the Fed is asleep. The federal government is stepping it to stabilize Fannie Mae and Freddie Mac, the two mortgage giants that have been threatened by the housing crisis. The Bank of England has pumped 75 billion pounds more into Britain's ailing economy with a new round of quantitative easing. You print a couple trillion dollars and all of a sudden people start to worry. So out of this worry, we have something called the Bitcoin.

So, Zach, welcome back to On the Brink. I do feel that every single time we have you on this podcast now, you've raised a huge round of capital. So congratulations on the raise. Welcome back. And thanks for joining a podcast. Yeah, thanks, guys. thanks for having me. I've become a more regular listener to on the brink than I was before. I used to be like a once a month listener. Now I'm every week. There's two things I listen to

every week. I listen to Animal Spirits, which is my mainstream finance podcast show. And then I listen to the recap of everything that happened in the market from you guys. So like I'm going deeper down the rabbit hole with you. I'm not surprised, but I like y'all's takes on stuff, because you just have, both of you have a really smart view on the market that I generally tend to agree with. And so you're my preferred, you know, weekly crypto news roundup podcast these days, too. So I'm pumped to be here. Well, we appreciate you saying that. We did not pay you to say that. But I'm sure having Renee on a couple of weeks ago, that actually boosted our listener our listenership here when we did this deep dive on blockfi and risk management,

which is definitely something that we'll get your take on as well. But maybe before we do, you're announcing a big series D today. So tell us what's going on. Yeah, sure. So we announced that BlockFi closed a Series D round of funding. There's a $350 million round, co-led by Maine Capital Ventures, Partners of DST Global, Tiger Global Pomp Investments, and then we had participation from a number of great investors, Castle Island Ventures, which we're very excited about, but also Susquehanna, Junk Capital,

Hudson River Trading, Bilar Ventures, and a few other folks. If you want to see the full list, it's in the press release. But a really great group of strategic investors, a lot of whom aren't just equity investors in BlockFi. They're folks that we do other things with on our platform. And the round was at a $3 billion valuation, which is a testament to the incredible growth that we've experienced over the last six months since our Series C round of funding.

And we're really excited to use the capital to keep developing new products and adding to the functionalities that are available to our retail and institutional clients on the platform, to focus on further growing outside the U.S. market, especially on the retail side. And lastly, I think we're going to be looking at a few strategic acquisitions and just having a robust capital base that can be utilized for those scenarios is really valuable. So I'm pumped to be at this step. We already we already, you know, stopped celebrating it internally, like a few weeks ago when the round closed.

But it's always nice to get the press out. But inside, we're just, you know, we're just going to keep going. We don't really pause any time we have these big fundraising announcements, which I think is part of why we end up doing them so quickly in between. You are doing them very rapidly in short order here. This is happening against a backdrop. Obviously, the market's doing great, you know, the asset appreciation here. What line item, what business units are doing the best on your ad and kind of what's growing

quickest? They're really all growing. So, you know, we have lending revenues on both the retail and institutional side of our platform. And that's grown, you know, back in the first half of 2020, it was generally like 10 to 20% month over month. Lending revenues over the last six months have been more like 30 to 40% month over the month growth. Trading revenues have grown even faster than that. So our retail trading product that you can access through the mobile app has been growing at like 50% month over month and is now almost half of the monthly revenue comes from our in-app trading product. And

And then the other area where we've experienced tremendous growth is just on the number of clients on our platform. So at the beginning of 2020, we had 10,000 funded accounts. At the end of 2020, we had about 100,000 funded accounts. And today we're over 265,000, you know, funded accounts on the platform with a really high average balance, like the average balance of an account at Blockbyser on $50,000, which is dramatically higher than kind of who we think about. as some of our counterparts, either in the crypto or traditional fintech world.

And part of that is because I think our client base skews a bit more sophisticated, a bit higher net worth, you're investing in alternatives, you're attracted to earning yield, but also because the types of folks that are using BlockFi's platform are primarily people that also own Bitcoin and Bitcoin and other crypto assets have appreciated tremendously. So, you know, someone with a $50,000 account today might have been someone that, you know, had a $15,000 account a few months ago. And they've experienced this appreciation without, you know, depositing anything incremental just from the appreciation in the assets plus the compound interest that they're earning from utilizing our products. Zach, you know, a lot of people think of BlockFi as a lender or, you know, an intermediary for lending purposes. But as you're saying, you actually have some pretty diversified revenue streams here.

And, you know, the brokerage side of the business is growing. You know, how would you describe the firm today? You know, like in the byline for the company, we say financial services for cryptocurrency investors or diversified financial services for crypto market participants. I think if you were looking for a business model in the traditional financial world, we're really kind of a in between a bank and a brokerage. We're obviously regulated like a fintech company, which is a bit different than being regulated as a bank or a brokerage. But we're kind of in between those two things. And the way we think about it is, less kind of driven by what do we, what traditional business model do we want to look like when

we grow up and more about what are we hearing from our clients? What incremental things in terms of functionality or products or features can we add onto our platform to create more value for our clients and stronger relationships with them? And that's where, you know, the prioritization decisions that we make in terms of what we're going to do next really stem from. We think that this hybrid banking and brokerage model, if done right, and if we keep building products for our clients and providing great service to them, you know, kind of the economics will figure themselves out over time. And we feel like it's still really early for BlockFi, but also for this ecosystem.

And so we generally prioritize growth in the client relationship above, you know, day-to-day margin, for example. But our margins have ended up being pretty strong. So, Zach, this is kind of an interesting backdrop, too, with the just traditional quote-unquote players in some of those categories, you mentioned around banks and brokerages not being active. And their clients are all clamoring to get access to these types of assets. And so my perception, at least, is that they're finding ways around their existing intermediaries,

whether they be prime brokerages or, you know, big, lazy asset. management firms that aren't active here, and they're coming to, you know, folks like you and folks like Coinbase to get deployed. So what, what has that been like as a general conversation around some of these big corporates getting involved, big pools of capital that are kind of routing around their existing intermediaries? You've seen that? Yeah, absolutely. I mean, I think probably every BlockFi client in the U.S. also has an account either at a traditional brokerage or a more modern brokerage like a Robin Hood. They also definitely have an account with a bank. And in those places, they can't do the things that they can do on the

BlockFi platform. And that's why they come to us. And I think that over time, you'll just see a convergence of both of these worlds, BlockFi going closer to traditional financial services that you would find from a brokerage or a bank and traditional banks and brokerages coming towards the crypto market. And I think that both trends are great for consumers and great for the crypto market. And they're definitely happening. And one of the things that I'm most excited to see how it plays out is the traditional banks moving into crypto. In the online, in the online, in the online lending market where I was before starting BlockFi, traditional banks coming in was like the biggest fear of every online lending business. Because if you were making, you know, consumer loans or

small business loans and you had some, you know, segment or product or, you know, part of that market that you were operating in and a bank came in and started doing it, it was really, really hard to compete with them. Because when you're talking about dollar denominated lending, banks have a tremendous advantage versus a fintech company in terms of their scale and cost of capital. Well, when it comes to lending Bitcoin or providing financing to folks that own Bitcoin who on the spectrum of liking or disliking banks, they're probably generally pretty far on the disliking bank side of things. Banks don't really necessarily have that embedded advantage. I mean, banks don't have low cost, you know, scalable access to Bitcoin.

And so it's going to be interesting, it's going to be really interesting to see how that plays out, both from a competitive environment perspective and from a, you know, just how do these things, as the banks keep wanting to come into this market, how do these things get treated from a regulatory perspective and what ultimately two, three, four, five years from now are they going to be able to do and not do? Yeah, that's going to be fascinating to see. I mean, one of the one of the things that's been interesting as this run-up, happens is talking to Nick about this this morning and he called it, we're climbing the wall of worry, I think is what he said, Nick, around just the fear, uncertainty and doubt that we're seeing in this market. And a few weeks ago, it was all about tether and, you know, someone is going to release a crazy report on tether and the whole market's going to crumble. You know, after that, we are going through this phase of, you know, Bitcoin is melting down the environment and people are talking about that. The latest thing seems to be the GBT premium has

collapsed and gotten negative and everyone's going to go out of business as a result of this. So I teeed that out maybe as a chance for you to just explain the business model of BlockFi a little bit more on the institutional lending side and in your engagement with GPTC and then maybe you could just dovetail into what that means for BlockFi. Sure. So first off, let's talk about BlockFi's involvement with, gray scale, which spans multiple products. It's not just GBTC. We're also active in ETH, which is their Ethereum Trust and some of their other products. I think the easiest way to think

about what BlockFi does there is that we're kind of a market maker. So we're active in lending and trading these products, both in the market for the shares before they're available to be traded in a brokerage account, which, depending on on the grayscale product is either a six or 12 month window where they're still kind of privately held and not freely tradable or easily tradable. And in the liquid market where you're able to use the traditional securities lending rails and you're able to see, you know, live prices and trade them in a traditional brokerage account. So BlockFi maintains positions in the trust as a market participant and to give ourselves inventory to lend to folks in both the

illiquid and liquid market, and we provide financing to folks who are either using these products to go long or short or to conduct arbitrage based on the premium or discount that may exist in the market from time to time. The history here is that this was one of the first vehicles that a trading firm or a hedge fund that wanted to have market neutral exposure to the asset class and just make money regardless of which way the Bitcoin price went month to month got involved in because it does trade historically at big premiums. Now we're starting to see a little bit of a discount. And BlockFi, you know, helps to educate and finance and provide liquidity for those activities to those institutional clients.

So within the bigger context of BlockFi, everything that we do is always sized and managed relative to all of the risk consideration. So in no scenario would we do any activity with Grayscale or, or another market or strategy or trading opportunity for ourselves or our clients that had a exposure size or a level of volatility and risk that would put blockfy equity holders in a in a position where the risk of being a going concern was, you know, potentially going to cease, and that has to happen before you even get to Block V's clients. And so in no scenario do we ever do things that are sized in a way where either one of those things would be put at risk. So now let's talk about what's actually happening to Grayscale and where all this noise

is coming from. So for the last like five years that Grayscale products have existed, they've pretty much always traded at a premium to NAF. So there would be 100 Bitcoin sitting in this box, in the Grayscale Trust, their shares created backed by the $100, $100 or the Bitcoin. But on the marketplace, they'd actually be trading those shares for $110 or $120. And so you can see where the arbitrage opportunity exists. You all put one Bitcoin in and sell it for $120 when it's actually only worth $100 right now. And that just went away about a week ago. That premium that Grayscale shares have historically traded at turned into a discount.

So first off, why did this happen? Well, we think there's a number of factors driving it. One is that the marketplace of products for folks to get exposure in a traditional brokerage account to a beta Bitcoin position has expanded pretty substantially. You have other trust products now. you have ETFs in Canada, you have an increasing number of ETNs in the European market. So there's more options, and that generally brings premiums and discounts closer together. You get tighter spreads when you've got a healthier marketplace of options for people to utilize

to accomplish an investment objective. Additionally, last week, we started getting into a kind of value over growth storyline in the broader equities markets. tech experience to sell off gray scale, in my opinion, shares are generally more correlated to equities than just spot Bitcoin because it's like it's in the exact same environment as, you know, NASDAQ and Tesla and all these other traditional products. And one of the things that happened as part of that was ARC, which I'm a huge fan of, but is a big, holder of GBT specifically in their ARW fund experienced some outflows. And so they're an active ETF. They hold a position in GBTC. They experience outflows. They're a seller. So we think all these

things kind of came together to create the discount. Interestingly, for folks like BlockFi and a lot of our clients, a discount can be just as interesting of an opportunity as a premium and creates another arbitrage scenario. So it's not something where any of these market participants are in a position where, oh my gosh, if GBTC is at a 5 or a 10% discount, our house is on fire and everything's about to melt down, it's more like, okay, this creates a new opportunity. And it's going to be interesting to see what happens over time. And what will happen over time, I think, is a few things. It's not good for grayscale's interests to have their products trading at a discount. So you'll likely see them start to do things to try and close that gap. They actually

announced what I think will be the first thing, unless you see the products start to trade closer to NAV or at a premium again. The first thing that they're doing, which is digital Currency Group came out and said they're going to buy a quarter billion dollars, you know, up to a quarter billion dollars worth of GBTC. Other things that they could do over time include buying more, converting the trust product into an ETF, without converting the trust product into an ETF, creating a redemption mechanism for folks to take a share and get a,

physical Bitcoin for that share. And I think we'll see potentially all of these things of a discount persist for a while. In the absence of those things and in an environment where you have a big sustained discount in a trust that's backed by a liquid product where there's a clear market, if you could just get the Bitcoin out of the box,

you could sell them for a dollar instead of 90 cents. What happens? Well, in that scenario, people like Carl Icon come in and they start scooping up shares and they start doing shareholder activism and they bust the trust. And so like a lot of the, a lot of these movies we've seen before, not necessarily with the Grayscale Bitcoin Trust, but in financial markets more broadly. And so we'll see how this plays out.

But it's really interesting. So that's a great and really thorough answer. And we're not going to go into the way you manage risk because we did a, a, full like 50 minute podcast with Renee, your chief risk officer on that. And I think you, we went into a remarkable amount of detail. But I'm just curious your view just as a CEO running a fast growing business when you see just the general like Twitter environment around this trade and people that, you know, what you just said over the best few minutes is not something that can really be summarized in 140 characters. And so you have these kind of reactions with

people that probably just don't understand the mechanics of many parts of what you said. And so how do you think about that as someone running a business when you have these, there's people like chirping you from the sidelines because it makes me want to kind of run in and like get in a fight with you. Like what's like how do you think about it? Look, I think there's two parts of it. One part is one part of it is balancing education and transparency with us being a private company and, you know,

how many big fancy finance words you can say in a single sentence before just scaring someone and having them go, this is confusing. I don't get it. Like I'm running away. So that's one part. The other part of it is what do you do when you have mud slinging in various social media or other channels? So on the first one, I would say we generally think of it kind of like a funnel.

And when I say that, what I mean is if you go to BlockFi's homepage or you're just interacting with our product in the app store, we're not going to smack you over the head with how, you know, risk management works and the nuances around what types of market activities someone like BlockFi is doing to produce a yield on Bitcoin that we pass through to you, because you might not want to know. But we also want to make it available to anyone that does want to study this or does have an interest in becoming really, really educated and informed. And so there's areas on our website where you can read long-form articles or watch long-form videos that talk about exactly what we're doing, what markets we're active in, how that works, how we manage the risk.

And we try to come on as many shows as we can where we can have thoughtful conversations about that. So, you know, the Castle Island podcast with Renee is a great example. I've gone on a bunch of podcasts to talk about these types of things. And I think we want to be, you know, as transparent and as educational as we possibly can, so long as it doesn't show too much of our hand as a, you know, private company that is operating in a competitive ecosystem and market environment that would, you know, potentially inhibit our ability to conduct the market activities that we do. So that's how we think about that. On the second part, the mudslinging, we've learned a lot about this.

over the years. And my instinct, I think, is maybe similar to yours, Matt, or at least it used to be. And like, people, you know, attacked us, for example, when we launched the interest account, calling us BitConnect and saying this is the most ridiculous thing ever, and it can't even be possible. And when that first started to happen, I remember getting very kind of like defensive and going on Twitter and trying to engage in these battles. But we pretty quickly learned that that wasn't really helpful to BlockFi or to our clients or, you know, to my reputation or anyone else's reputation within the company. And so now, in general, we ignore it. I mean, look, if there's a rational conversation that someone wants to have or if there are things about BlockFi's business

that folks want to learn, we're happy to do it. But anytime you get mudslinging from like folks who are clearly in a position of just trying to talk smack about you, like the only way that can go for BlockFi is bad. Because you're not going to win the battle. And just by engaging and giving any attention to it, you're helping accomplish the objective of the attacker, which is to get attention either for themselves or for whatever, you know,

illogical or misinformed thing that they're saying about the company. and we sleep great at night knowing that if we weren't doing good things and advancing, you know, our position in the marketplace, no one would be attacking us anyways. So, you know, kind of it is what it is. So, Zach, just returning briefly to the GBC discount. So if you decompose, you know, the interest rate that someone can earn on Bitcoin, I don't know, you know, what the composition is. but I presume that part of it is a function of the financing for firms that were historically doing this arbitrage. Do you expect that that would change now that this opportunity appears not to exist?

Or is it just that the financing would be directed to alternative uses like arbitraging it in the other direction? I think that it depends. So the way you're thinking about it, I think, is the, absolutely correct way to think about it. Arbitrage opportunities like Grayscale are definitely one of the inputs into the total demand that exists in any point in time for borrowing Bitcoin. That total demand and BlockFi's ability to capture the part of that market that we want to capture, which is basically the part that we think presents the best return opportunities without taking on too much risk. We have a very low risk tolerance.

So if that overall demand to borrow Bitcoin declines, then you would expect to see that over time pass through to the rate that a company like BlockFi is able to support paying folks who are participating in the market as lenders by holding assets in the BlockFi interest account. Whether that will happen or not still remains a bit TBD. I would say as of right now, it doesn't seem to have created too much of a dislocation partially partially because of the term nature of some of the subscriptions where this financing was used and partially because of the opportunities that have been created on the other side with a discount getting into the high single digits or really low double digits for moments in time but it absolutely could just to be clear it's definitely not.

not the entirety of the Bitcoin lending market, not even close. Right. And directionally speaking, you're talking about something that, depending on the day, is maybe 5 to 20% of the Bitcoin lending market. That's kind of where I was benchmarking it. So, Zach, that's a really good explanation. Maybe just to close it out, Zach. So what is next here?

So you've raised this capital. What can we expect to see in the months to come on the product side and on the hiring side? And like, where can we send people? Your job board is getting pretty busy. Yeah. So first off, I wish we had more time because I really enjoy talking to all. We could keep going all day. In terms of what you can expect next from BlockFi, our Bitcoin Rewards credit card is rolling out in Q2.

With that as a starting point in terms of our products in the payments market, we're going to be expanding as quickly as we can into debit cards connected to a bank account, peer-to-peer pay. payments being available on our platform. And then also simultaneously adding more on and off ramps and creating more efficiency into the on and off ramps that we already have. So if you're listening and you're wondering when an ACH transfer onto BlockFi is going to become instant, that is happening very, very soon. We'll be building efficiency into similar types of payments in markets outside the U.S. So that's the big focus on the retail side of the platform.

on the institutional side of the platform, we're going to be continuing to expand our trading capabilities. So right now, institutional clients can trade the spot market in an over-the-counter format with Block 5 throughout the course of this year. We'll be building, partnering, and buying things that help us enable our institutional clients to trade not only Spot OTC, but also futures and equities OTC. and making that trading also available via a screen in an API for our institutional clients. We're going to be growing the team a ton.

So please do check out the job board. We're 500 people now. I think we'll be at least double that by the end of this year. And also potentially, if you're in New York and New Jersey and Connecticut area, potentially going back into an office, which I cannot wait for. And if anyone doesn't know where to find me, I think Twitter is probably the best place. My handle is BlockFi Zach. And you can check out BlockFi at BlockFi.com.

I think we're still the only company in crypto with a phone number. So don't hesitate to tweet at us or sign up on the website or download the mobile app or give us a phone call anytime. We love hearing from you. Amazing progress, Zach. Thanks so much for doing this. We'll do it again in a couple months. I'm sure there's going to be a lot to talk about. So thanks for joining.

Thanks for having, guys.