The Breakdown - Are Real-World Assets (RWA) the Next Big Crypto Narrative?

Episode Date: April 8, 2023

On this edition of the “Weekly Recap,” NLW looks at some followup stories from the shutdown of Signature Bank last month, as well as the emerging trend of real-world asset tokenization.  Enjoying this content?   SUBSCRIBE to the Podcast Apple:  https://podcasts.apple.com/podcast/id1438693620?at=1000lSDb Spotify: https://open.spotify.com/show/538vuul1PuorUDwgkC8JWF?si=ddSvD-HST2e_E7wgxcjtfQ Google: https://podcasts.google.com/feed/aHR0cHM6Ly9ubHdjcnlwdG8ubGlic3luLmNvbS9yc3M=   Join the discussion: https://discord.gg/VrKRrfKCz8   Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW   “The Breakdown” is written, produced and narrated by Nathaniel Whittemore aka NLW, with editing by Michele Musso and research by Scott Hill. Jared Schwartz is our executive producer and our theme music is “Countdown” by Neon Beach. Music behind our sponsor today is “Foothill Blvd” by Sam Barsh.Join the discussion at discord.gg/VrKRrfKCz8.  

In the wake of one of the most tumultuous years in crypto history, the conversations happening at Consensus 2020 have never been more timely and important. This April, CoinDess is bringing together all sides of the crypto, blockchain, and Web3 community to find solutions to crypto's thornyest challenges and finally deliver on the technology's transformative potential. Join developers, investors, founders, brands, policymakers, and more in Austin, Texas, April 26th to 28th for Consensus 2020. Listeners of the breakdown can take 15% off registration with Code Breakdown. Register now at Consensus.coindex.com and join CoinDesk at Consensus 2023. Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the

Big Picture Power Shifts remaking our world. The breakdown is produced and distributed by CoinDest. What's going on, guys? It is Saturday, April 8th. And that means it's time for the weekly recap. A quick note before we dive in, there are two ways to listen to The Breakdown. You can hear us on the Coin Desk Podcast Network feed, which comes out every afternoon and features other great coin desk shows. Or you can listen on the breakdown only feed, which comes out a few hours later in the evening. Wherever you're listening, if you were enjoying the show, I would so appreciate it if you would take the time to leave a rating or review. It makes a big difference. All right, friends, happy Saturday. The show was off yesterday for the Good Friday slash Easter holiday,

but it will be on tomorrow, so you'll get an LRS as normal. Now, this was a very weird week, I have to say. It felt very liminal, very in between. Now, the good thing about that is that we had a lot more of a chance to cover macro than we've had for the last few weeks. We get to dive into OPEC's production cuts, and whether that's more about geopolitics and the growing tension between the U.S. and Saudi Arabia, or whether it has to do with just the OPEC countries seeing economic trouble on the horizon and getting out ahead of it. We also debated whether commercial real estate is the next source of potential banking crisis. And then, of course, from crypto's perspective, we got to discuss the consequential introduction of though we should just ban it argument in that foreign affairs piece.

Now, today we're going to cover a couple stories that we've missed, including some updates on signature, as well as a theme which is coming up more and more, which is real-world tokenization. Let's start with that additional color around the shutdown of Signature Bank. Last week, Barney Frank, a board member at Signature Bank and one of the sponsors of the famous Dodd-Frank Act, sat down for a tell-all interview with Barron's, which delved into the detail. of the final days for the bank. Frank explained that the Friday before the receivership, he was informed that the bank was, quote, bleeding deposits with around $12 billion leaving that day. On Saturday morning, bank management was in crisis mode, with Frank working the phones to talk

to high-ranking Democrat lawmakers and Fed officials. Frank told Barons that he called Fed Chairman Jay Powell and Vice Chairman for supervision Michael Barr as to whether emergency loans would be made available to the bank under Section 133 of the Federal Reserve Act. Frank explained, quote, I told Powell, we're facing a bank run. We don't think were the only ones. It's a classic case of a liquidity generated by some exogenous reason not related to the operation of the bank. Is that 13-3 facility available? I think what Powell told me was, well, I'm not sure we hadn't thought about the facility yet. Certainly we're going to make the discount window fully available. Frank added that Powell told him Michael Barr is going to be taking

the lead. Executives had also gone to the federal home loan bank for a loan and were told, quote, while there are so many runs on, we don't have enough money to do at all. By Sunday, a signature was able to access the liquidity required via the discount window using agency MBS and treasuries as collateral. Initially a concern as the bank held little acceptable collateral on its balance sheet. However, then on Sunday, the FDIC informed management that they would be putting the bank into receivership. Frank said that after they got that stabilizing liquidity, quote, we were then surprised when they called up and said, we're coming over and shutting you down. When asked to comment on why he thought the bank was closed, Frank said,

no question because of our prominent identification with crypto. I can't think of any other possibility, Like Sherlock Holmes says when you've eliminated every other possibility, what's left must be the one. The Barron's article reiterated this point. If signature was in the regulatory crosshairs they wrote, because of its crypto business, and if there was a criminal probe and it then experienced a bank run, let's just say you can begin to see why regulators might not go out of their way to save it. Now, additionally, Frank disclosed he was due to leave the bank's board in April because of his advanced age, and when asked if he had any regrets about his time at signature, Frank replied that he had none other than he regrets the misimpression that he lobbied to raise the threshold

for Fed's stress testing under the Dodd-Frank Act to exempt signature. He explained that the move was a compromise with Republicans who were pushing for a more significant rollback of regulations. So here's the non-conspiratorial version of this. And as you can probably tell, I'm very into explaining how Operation Chokepoint 2.0 does not have to be mustache-twerly meetings under the cover of darkness for it to have the desired effect. So lots of banks were in turmoil at that time.

First Republic Bank was another one, Pac-West. But it was signature that was put into receivership. Why was that the bank that wasn't allowed to attempt to use these Fed facilities on Monday? We've got Frank here saying that the FHLB and the Fed were aware that there was a pretty generalized bank run going on. And they did in fact open up emergency liquidity that weekend. So even if one doesn't think that signature was singled out and targeted because of their crypto affiliation, it's not hard to imagine that that crypto affiliation made regulators

feel less incentivized to save it, let's say, than some of the others. Still, the NYDFS continues to loudly claim that crypto had nothing to do with it. According to New York Department of Financial Services Superintendent Adrian Harris, the theory that signature bank was shut down as part of Operation Chokepoint 2.0 is, quote, ludicrous. At a blockchain compliance conference on Wednesday, Harris said, quote, the idea that taking possession of signature was about crypto or that this is Operation Chokepoint 2.0 is really ludicrous.

I mean, I have no other way to say it. What we saw was a new-fashioned bank run. When you have a high percentage of uninsured deposits and you don't have liquidity management protocols in place, you end up in a place where you cannot open on Monday in a safe and sound manner. Harris also pushed back on the idea more broadly that the industry was being debanked. If you look at our rules, she said, if you look at our guidance, they necessitate our virtual asset companies have a strong banking partnership with well-regulated banks. So the idea we don't want those banks to exist just doesn't make any logical sense.

Harris is, of course, referring to the controversial New York State Bit license, which has been criticized for being overly restrictive and nearly impossible to attain approval for, a critique which Harris obviously disagrees with. When you have rules on the book, she said, when they are transparently, when it's in black and white and everyone knows what they are, that is the best way. And frankly, it's the fastest way to grow a robust and responsible ecosystem that can integrate with traditional financial services systems that can serve customers and make our markets more efficient. Industry figures are, largely not buying this explanation. One of the loudest alarms

has of course been raised by Castle Island VC, Nick Carter, who was on the show just a week or two ago, who has written several comprehensive articles explaining what he views as evidence of a broader coordinated crackdown on the industry. This week on his podcast on the brink, he hosted David Thompson of law firm Cooper and Kirk. The firm litigated against regulators surrounding the first iteration of Operation Choke Point, which debanked politically disfavored industries from payday lenders to gun stores. In his appearance, Thompson explained that he had discussed the issue with bank staff, who claimed that they were being pressured by regulators to ensure that the concentration of crypto customers was kept below certain thresholds. This would prevent any single bank obtaining

a critical mass of crypto clients, as we saw its Silvergate and signature. In addition, bank employees explained that risk weightings and prudential limits were being increased if banks take on any crypto clients, ensuring that banking a small number of firms was an unprofitable prospect. As the theory goes, no one is telling banks that they can't deal with crypto customers. Instead, regulators are just making it too painful and too costly to do so. A anecdotal evidence piles up. Luke Groman said, A local bank I have used for years told me they are no longer allowing Bitcoin transactions,

on rem from my account there to an exchange, and no longer doing business with anyone that accepts Bitcoin. as payment. Banks says it's voluntary, not regulator-mandated. Now, when it comes to the Cooper and Kirk critique and analysis of Operation Chokepoint 2.0, a big point comes from investor Adam Cochran. Adam writes, Cooper and Kirk pushing back against Operation Chokepoint is great, validates the stance that it's both real and an unconstitutional attack. But fighting federal regulators on their own turf takes time. The industry will have to endure pain before it can get through this. Speaking of Signature, new reporting from Bloomberg has revealed additional details of signature

bank's crypto business, including allegations that the bank facilitated access to U.S. banking infrastructure for Tether. The article claims that Tether instructed clients to pay for stable coins by sending dollars to its Bahamas-based banking partner Capital Union Bank via Signature's Signate Payments Network, essentially that Capital Union Bank held a pass-through account on behalf of Tether. Reporting from the Wall Street Journal last month stated that Tether and Sister Exchange, Bitfinex had attempted to establish a direct banking relationship with signature in 2018, but had two accounts closed and a further application rejected. Now, Bloomberg goes to lengths to point out that Tether has never been sanctioned and that doing business with the firm wouldn't be illegal using the analysis of former SEC and Treasury Department official Amma Ungadi.

Engadi, however, notes that the bank would be expected to have regulatory expectations to know who it was doing business with. Quote, they may well have known and decided this is less risky than opening up an account for Tether directly. In 2021, Tether and Bidfinex reached a settlement with New York Attorney General Letitia James over allegations that they hid the loss of commingled client and corporate funds, as well as lied about reserves. Tether and Bitfinex denied any wrongdoing. However, as part of the agreement, the companies were required to stop doing any trading activities with a connection to New York, where signature bank was situated. Tether said in the statement that, quote, banks used by Tether always had access to several banking channels and counterparties, adding that the company's risk management, quote, enabled us to identify particular risks and weaknesses that others had missed,

ensuring our entities wouldn't be affected by either direct or indirect exposure to signature. Now, Crypto-Tuitor's response to all of this was basically exactly what you would expect. The people who hate Tether said it was yet another smoking gun, and everyone else kind of just shrugged. All right, now let's shift gears entirely to another theme that is definitely picking up in the narrative space of this market. And that, of course, is the idea of real-world asset tokenization. Now, this is not a new idea. It's been something that's talked about for years in crypto. And what's more, it's also something that's been happening in practice for a little while. JP Morgan exited the first live trade of tokenized versions of the yen in Singapore dollar back in

November. Following month, Asset Manager Wisdom Tree unveiled nine digital funds which act as a wrapper for various bond and equity holdings. Over in Europe, several banks have been actively experimenting with the issuance and trading of tokenized RWAs on permission blockchains for the past year, primarily dealing in tokenized bonds. A recent report from S&P Global showed that issuers have distributed around 1.5 million in digital bonds during 2022, up from only nominal small pilot programs the prior year. Danielle Barbarossa, executive director of the HyperLedger Foundation, said, If you think about traditional corporate bond issuance, there's a lot of paperwork in tracking. You'd have to have a bond certificate.

When you tokenize these assets, you can increase the usability of the assets because you can support automation with smart contracts platforms and put important information on these assets, where in the past, maybe you had to go with a third party or middleman. In February, engineering giant Siemens issued 63 million in digital bonds on the Polygon network. The firm said that the technology was used to reduce paperwork and open, quote, new markets to new customers of those bonds. Another use case for tokenized RWA's is allowing for more streamlined fractional ownership.

Fractional stock came to prominence when it was offered by Robin Hood and numerous other exchanges in 2019, but these systems require a lot of behind-the-scenes settlement friction. tokenization of fractional shares could speed up this process and allow for a more transparent custodial arrangement for the underlying asset. Eliezerdinga, the Director of Research at Crypto Investment ProductFirm21.co, compared the existing RWA infrastructure to dial up internet, suggesting that tokenized RWA's could provide an enhanced user experience. There are definitely folks in the crypto space that are really excited about this. The Defy Edge on March 30th tweeted,

One Cryptosec is estimated to reach 16 trillion by 2030, real world assets. This will be the catalyst for mainstream crypto adoption. Now, whether or not you think that's true, there are certainly more and more stories popping up in the news around similar themes. For example, the German Ministry of Finance is moving forward with plans to digitize and streamline capital markets by introducing the Financing the Future Act. The legislation features a range of reforms which will make it easier for startups to access capital markets, with the aim of making Germany a more attractive location for building new companies.

The most exciting reform for the crypto industry is the legalization of digitized stock. Under the legislation, companies will be given the option to issue shares as electronic securities registered on a blockchain. The legislation is technology neutral so doesn't propose a private blockchain network for the country or lock companies into any particular digital ledger infrastructure. Instead, it simply acknowledges that the technology to issue tokenized stock exists and gives the green light for companies to experiment with digital share issuance. Tokenized bond issuance and some tokenized funds are already legal in Germany, so adding stock issuance will be another big step forward in creating a fully digital capital market.

Tibido Farr, the co-CEO at Fairman said, If you had told me that Germany would be years ahead of the U.S. in terms of crypto regulation years ago, I wouldn't have believed you. Programmer Richard Sedevi said, Germany being open-minded and regulating the proper traditional ways is honestly a breath of fresh air, especially after observing regulation by enforcement in the U.S. Now it's clear that the dynamics of the industry are changing, and that all of this regulatory scrutiny and regulatory lack of clarity in the U.S. is part of the shift. Tomorrow I'm going to discuss Circle and the move from U.S.DC. to U.S.D.

And part of my argument is that the shift is not a vote against Circle. It's a vote against the U.S. Anyways, potentially along those lines, a story that I noted, was that decentralized exchanges saw a large jump in trading volume in March, and it seems that maybe that had to do with U.S. regulators taking aim at their centralized counterparts. Volume on Dex's grew to $133 billion for the month, which was the third straight month of growth and the highest monthly volume since May, according to data from DeFi Lama. Of course, it was a very busy time for centralized crypto challenges vis-à-vis regulators.

In February, Cracken settled with the SEC relating to their staking product. While last month, Coinbase was informed of forthcoming enforcement action from the SEC, and Binance was sued by the CFTC for willful evasion of U.S. law. This ongoing regulatory scrutiny appears to have encouraged more traders to move to decentralized alternatives. One interesting quirk of last month's bank crisis occurred during the deep hegging of U.S.D.C. when a portion of the Sablecoin's reserves spent a harrowing weekend in limbo due to the collapse of Silicon Valley Bank. During that weekend, Coinbase temporarily halted conversion of U.S.D.C. and liquidity across exchanges failed to meet demand. According to research platform, Kiko, this lack of liquidity

and centralized exchanges prompted a quote unprecedented number of traders onto Dex's to trade the USDC to tether pair. More than 7 billion in trading volume was recorded just on the Saturday of that weekend. Now according to research from the block, Uniswap was a major beneficiary of this shift in trader preference. The dominant Ethereum decks recorded a larger monthly volume than Coinbase for the second month in a row, hitting 71.6 billion in total volume, which is 45% higher than Coinbase. So friends, that is the view from this week. Like I said, it feels like an in-between and it feels like we probably have some not-so-pleasant stories to come. But I don't want to jinx it. Who knows? For now, I hope you are having a great holiday weekend.

Until tomorrow, be safe and take care of each other. Peace.