The Breakdown - Is DCG in Danger Now, Too?

Starting point is 00:00:00 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 sponsored by nexus.io, circle, and crack it and produced and distributed by CoinDesk. What's going on, guys? It is Friday, November 18th, and today we are once again looking at contagion and fallout, because that is where this industry is right now. Before we get into that, however, if you are enjoying the breakdown, please go subscribe to it, give it a rating, give it a review, or if you want to dive deeper into the conversation, come join us in the Breakers Discord. You can find a link in the show notes or go to bit.ly slash breakdown pod. All right, friends, as I said, we are closing out the week following, as we have

Starting point is 00:00:50 been all week, the recent contagion coming out of FTX. And I want to be clear that some amount of this is speculation, conjecture, and I don't ever want the breakdown to be contributing to rumors or fear or fud, but the reality is that right now, we've lived through too many episodes of where there's smoke, there's fire, to write things off with best case scenario planning. In fact, I think responsibly starting to think through scenarios that give people a chance to imagine how it might impact them and their assets is within reason the only responsible thing to do. So we're going to start with Genesis and DCG, as that is where everyone's heads have been at for the last 24 or 48 hours. Now, to recap quickly, Genesis has

Starting point is 00:01:32 had a rough year. They had a huge amount of exposure to three-euro's capital, some $2.4 billion in loans. Their parent company, DCG, took over those loans and is now a $1.2 billion creditor of 3AC. They had other losses with Babel Finance, their head, Michael Morrow stepped down, and now they've been caught up in FTX as well. Initially, Genesis said they only had $7 million in exposure to FTX, but revised that up to $175 million. They got an injection of $140 million from parent company DCG, who is it should be noted also the parent company of CoinDesk, but it appears that there are still troubles. On Wednesday, Jason Yanowitz from Blockworks wrote this thread explaining what was going on and why it was a big issue. If this really is the end for Genesis, he writes, this could be

Starting point is 00:02:18 more impactful than FTX. FTC hurt liquid funds and consumers? Genesis impacts nearly every company in crypto. Let's dig in. For those who aren't familiar, Genesis started as the first OTC Bitcoin Desk in 2013. They're now Crypto's largest lending desk. Genesis is part of DCG, Barry Silbert's holding company that owns CoinDesk, Foundry, Genesis, Grayscale, and Luno. DCG also runs a huge VC firm. At the height of the market, Genesis was moving size. Check out these Q4-2021 numbers. 50 billion in loan originations. 12.5 billion in active loans. 31 billion in spot volume traded, 21 billion in derivatives traded. Then Three Arrow's capital happened. Genesis was the biggest creditor to 3AC, having lent them a whopping 2.4 billion.

Starting point is 00:03:06 Genesis then filed a $1.2 billion claim against 3AC. DCG, the parent company, stepped in and assumed the $1.2 billion claim, leaving Genesis with no outstanding liabilities tied to 3AC. But then, things continued to unravel. Genesis also had large exposure to Babel Finance, the C5 platform that got hit hard in the June unwind. In August, long-time CEO Michael Morrow resigned. Nearly everyone I know who was at Genesis is no longer there. By Q3, 2022, their numbers had fallen drastically. 8.4 billion in loan originations, 2.8 billion in active loans, 18.7 billion in spot volume traded, 9.6 billion in derivatives traded. Still, everyone felt like they were crypto's safest counterparty. So why is the downfall of Genesis so bad? Dozens of companies like Gemini

Starting point is 00:03:53 use Genesis to help their consumers earn yield. If you're a C-5 platform that offers yield, you probably use Genesis. Using some rough numbers and simplifying the process a bit, here's how it works. You give your crypto to Gemini, Gemini gives your crypto to Genesis, Genesis lends your crypto to a fund, the fund borrows from Genesis X plus 2%, Genesis gives Gemini X plus 1%. Gemini gives you X%. Wala, you now earn yield. But this only works at the counterparties that Genesis lent to can actually repay their borrow. If Genesis can't get their crypto back, they can't give the crypto back to Gemini, or insert any other Crypto-C-Fi platform, which means Gemini can't give you your crypto. Beyond that, nearly every whale I know that

Starting point is 00:04:34 plays in crypto gives money to Genesis. Instead of earning yield on the blockfies and Gemini's of the world, they give direct to Genesis to earn yield. Now those institutions, family offices, and whales can't get their crypto back. And this is why Genesis halting withdrawals is so bad. They sit at the direct center of crypto capital markets. They custody funds. They help institutions earn yield. They are the yield product for CFI platforms. It's not good.

Starting point is 00:04:59 Where do we go from here? Hopefully DCG has the funds to backstop this. I would assume they don't and that they're racing to raise money right now. They raised it $10 billion in November 2021. I'd guess they raised at a valuation roughly 10 to 20% of that now. What's interesting about that thread is it came out a couple days ago, and by yesterday, Thursday, people were starting to get nervous not just about the solvency issues at Genesis, but in fact about parent company DCG as well. On Thursday morning, Ryan Selkis of Masari published a number of

Starting point is 00:05:28 tweets suggesting that, one, there was a $1 billion gap in DCG's liquid liabilities, in other words, there was one billion more owed than they had liquid assets to cover, and two, that he was in possession of what seemed like a legitimate fundraising deck trying to cover that. One of the things that he suggested in those tweets was that another DCG project, Grayscale, file for Reggie, M relief with the SEC. From Blockworks. Regulation M, if granted, allows for a fund to simultaneously create and redeem shares, Grayscale said in a Q&A detailing how such a conversion would play out. The rule, quote, is designed to prevent manipulation by individuals with an interest in the outcome of an offering and prohibits activities in conduct that could artificially influence the market for

Starting point is 00:06:09 an offered security, the financial industry regulatory authority said. Selkis said, quote, The odds of Grayscale winning its case versus the SEC in light of related party transaction actions with Genesis trading, Genesis Capital, and at least two bankrupt counterparties BlockFi and 3AC are now zero. Delays in pursuing a Red Gem program hurt shareholders while enriching DCG and Grayscale. Now, by the afternoon, Selkiss had deleted all these related tweets. Ryan is not in the habit of deleting tweets, so I'm not sure exactly how to interpret it. The best case for the industry would be that his information was wrong, that he

Starting point is 00:06:43 was showed it was wrong and deleted the tweets. I am somewhat skeptical of that as well. Another okay scenario for the industry is that he wasn't wrong but got additional relevant info from the inside that convinced him that the right idea, at least at that time, for either DCG or more likely for the industry as a whole, was to take the tweets down so as not to spook a deal. A third scenario is that he was intimidated into taking them down, but this is Ryan Selkis and that doesn't seem particularly likely to me. Now, what is clear is that some version of fundraising has been happening behind the scenes. The Wall Street Journal published a piece saying that they had seen a confidential fundraising document from last weekend. In that document, Genesis was asking for a $1 billion credit facility. The document offered prospective investors the potential of a controlling ownership share in Genesis,

Starting point is 00:07:28 an ownership stake in one of DCG's subsidiaries, or a minority stake in the holding company. The original pitch was asking for that credit facility before 10 a.m. on Monday of this week. As we now know, when it didn't get it, Genesis had to suspend withdrawals. The document had said there is an ongoing run of deposits driven mainly by retail programs, and partners of Genesis, i.e. Gemini Earn, and institutional clients testing liquidity. Now, a Genesis spokesperson confirmed that the document that the Wall Street Journal saw was real, but said that it was out of date. The spokesperson said, Genesis had been exploring all possible options amidst the liquidity crunch resulting from the

Starting point is 00:08:03 FTX News. After reviewing a number of options, we made the difficult decision to temporarily suspend redemptions and new loan originations in the lending business so that we can identify the best solution and possible outcome for clients. Want to keep more profits when trading? Get the best possible prices and trade with 50% lower fees on Nexo Pro. The new spot and futures trading platform uses aggregated liquidity of over 3,000 order books collected from multiple sources. Utilizing the complete Nexo suite allows you to earn interest and borrow funds as you wait for the next trade setup. Visit pro.nexo.io.

Starting point is 00:08:44 That's P-R-O.N-E-X-O-D-I-O and see. sign up today. This episode is brought to you by Circle, the sole issuer of USDC and a leader in crypto that's held to a higher standard. USDC is a fast, safe, and efficient way to send money around the globe. USDC is always redeemable one-to-one for US dollars and has over $45 billion in circulation as of October 13, 2022. Plus, Circle posts weekly reserve reports and monthly attestations of reserve capital, letting users know that USDA is safe, transparent, and compliant with regulations. Just go to circle.com backslash transparency to see why USDC is a trusted staple coin.

Starting point is 00:09:28 As one of the largest, longest-lasting, and most secure exchanges, Krakken continues to set the industry example for transparency and trust. Twice yearly proof-of-reserves audits verify your assets are backed by real assets. Industry-leading security keeps your funds and information safe, and award-winning client engagement teams are available for support 24-7. Buy crypto instantly with fast, flexible funding options on Cracken. Download the Cracken app on Google Play or the Apple App Store, or visit Cracken.com to join. By Thursday afternoon, speculation continued to ramp up. Jeff John Roberts at Fortune said hearing that DCG may have to sell assets to plug the Genesis hole. Grayscale would be hard to

Starting point is 00:10:16 unload given regulatory headaches, so maybe CoinDesk. The site is riding high right now, but how many immediate companies are doing M&A in this environment. Now, obviously, you guys are listening to a podcast either on Coin Desk itself or that is associated with CoinDesk, and I will tell you right now, I have no information about this, and whether this is anything other than just rampant speculation. But I think it goes to show that people right now are just antsy and nervous and full of reasonable anxiety. They want answers and not just in the form of tweets, but in the form of actual balance sheets and numbers and attestations of proofs of reserves. Invest Answers wrote, dear Michael Shonenshine and the Grayscale team. You could really help the community who are ultra-nerves

Starting point is 00:10:55 given the state of crypto. Can you share proof of GBTC-33.6,000 Bitcoin reserves? Hal Pres at North Rock Digital wrote, there is now credible concern about DCG and not just Genesis. This has potential to be a problem. Be careful. Asis Crypto responded, serious question, what is the worst that can happen? The worst case is what Zero Exissifis outlined. DCG goes bankrupt, Grayscale gets dissolved, 6 billion of Bitcoin cell pressure, 3 billion of ETH cell pressure on top of existing DCG-fueled chaos. Zero X Fubar got in there right after and said, Then Tether starts depegging. Satoshi's wallets wake up and begin dumping coins.

Starting point is 00:11:33 Turns out Pollo was the anon mastermind behind Bitcoin. With his new infusion of fresh BTC, Tether holds its peg. Amy Castor in shambles. All of which is a little inside baseball-y, but also really, really funny. And if nothing else, I appreciate people bringing the gallows humor in what are very scary moments. So of course, you already heard this from How, but really what people are concerned about is that if grayscale liquidates, they've got 3.1 million eth worth about 3.7 billion, and 635,000 Bitcoin worth about 13.3 billion. If they had to unwind the trust, would they have to

Starting point is 00:12:06 sell those underlying assets? It's not exactly clear. Countertrade indicator wrote, I don't think things work this way. GBT and the likes are structured as a trust. If DCG is insolvent and needs to sell their GBT, it's faster and more commercially viable for them to sell the units of the GBT via an over-the-counter trade, then actually liquidating the trust itself, which requires paperwork and legal proceedings to take place before DCG can revive the shares of their BTC from the termination of GBT. Technically speaking, DCG, Grayscale owns the units of the GPTC. You do not own the underlying assets held by the trust. So in my opinion, more likely selling GPDC at deeper discount than actually dissolving the trust. For their part, Grayscale,

Starting point is 00:12:47 yesterday made comment around the Genesis Global Capital situation. They wrote, Today Genesis Global Capital, a subsidiary of Grayscale's affiliate, Genesis Global Trading, announced that it is temporarily suspending redemptions and new loan originations. Genesis Global Capital is not a counterparty or service provider for any Grayscale product. As a result, one, Grayscale products continue to operate business as usual, and recent events have had no impact on product operations. Two, the assets underlying GPDC and all Grayscale products remain safe and secure, held in segregated wallets in deep cold storage by our custodian coinbase. Three, Grayscale does not borrow, lend, re-hypothicate, or otherwise encumber the

Starting point is 00:13:24 products underlying assets, and the custodian of the assets is prohibited from engaging in such activity. Basically, what they're saying is that there is no Alameda in this situation that is out there losing the Bitcoin that underlies the Grayscale Bitcoin trust. It's still obviously a scary moment. Gemini has been hammered this week. In a 24-hour period, 25,000 and Bitcoin were withdrawn from Gemini, which is 13% of the total Bitcoin on the platform. Overall, somewhere between $500,000 and $850 million worth of crypto was withdrawn from Gemini over the last week. What's more, it seems like every institution is likely to be subject to rumors of insolvency. In the middle of the day Thursday, investor Adam Cochran tweeted

Starting point is 00:14:04 that he was hearing rumors that Jump was insolvent, which set off another firestorm. However, in that case, within a couple hours they had put out a statement. They wrote, given the rumors flying around, we want to debunk a few things. Jump crypto is not shutting down. We believe we're one of the most well-capitalized and liquid firms in crypto. We are still actively investing and trading, so if you're looking for funding, please get in touch. Now, I saw someone in a private telegram chat, drop this tweet in and say, tweets asserting that everything is fine haven't aged too well lately.

Starting point is 00:14:36 And ain't that the truth? Now, meanwhile, in the FTX scenario, the whole dust up around the Bahamas and jurisdiction seems to get crazier and crazier. If you'll remember, John Jay Ray's first day declarations yesterday included an accusation that in the time period after Chapter 11 had been filed, the Bahamas authorities who had Sam in custody forced him to send assets from FtX accounts to their custodial accounts. People are now figuring out what the hell that means, and whether the Bahamas was the quote-unquote FTX hacker the whole time. It is a mess out there. And unfortunately, it seems like the fog of war is going to remain for at least a little bit longer. I will do my best to

Starting point is 00:15:16 keep you updated as often as I can, but for now I want to say thanks again to my sponsors, nexus.com, Circle and Cracken. And thanks to you guys for listening. Until tomorrow, be safe and take care of each other. Peace.

The Breakdown - Is DCG in Danger Now, Too?

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