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Voyager showed the danger of indirect crypto exposure

Posted on Jul 15, 2022 by Max Sherwood
Voyager showed the danger of indirect crypto exposure

Voyager was a classic “crypto approximation” stock

In January 2022, a retiree asks his portfolio manager about getting crypto exposure, and is told:

“We cannot buy any crypto ETFs in the US at the moment … but there are a couple options that would give you exposure to the crypto world with the funds held in your brokerage account. We have a small position in Voyager Digital (VYGVF), a Canadian centralized crypto exchange. It’s not a direct investment in crypto but does give some exposure to that world…”

Six months later and Voyager is bankrupt, a result of their decision to give a $650m uncollateralized loan to the now-dead hedge fund Three Arrows Capital (3AC), which dug its own grave when it invested in Terra’s “too good to be true” Anchor protocol. It reminds of one of the final scenes from The Big Short, where two characters roam Lehman’s abandoned trading floor:

“This isn’t how I pictured it.”
“What did you think we’d find?”
“I don’t know, grownups.”

Voyager’s shareholders will (ideally) make users whole

In May, Voyager reported $5.8b of customer assets from 1.2m funded accounts. They had 318 staff, and had just hired a new CFO. Now, as described by Reuters, “if no buyer emerges, Voyager would give its customers all existing Voyager tokens, 100% of the company’s equity shares, any proceeds from a $650 million dispute with 3AC, and a to-be-determined partial repayment of the specific cryptocurrency held in their accounts.” Bloomberg writer Matt Levine speculates that customers may get 72 cents on the dollar. So if you were a Voyager user, you‘ll get most of your money back. If you were a shareholder, you’re left with peanuts.

Ever seen a stock go down 90% in one month?

This is how it’s supposed to work — investors stomach the most risk. Take BlockFi, a crypto lender that similarly made a $1b loan to doomed 3AC, but has continued to function largely thanks to a hasty takeover offer by FTX. That leaves BlockFi investors not much better off than Voyager investors, but at least investors in the public markets didn’t getting burned.

Crypto stocks underperform actual crypto
Even publicly traded crypto companies that aren’t on the edge of survival have seen their equity underperform the price of Bitcoin. Crypto funds, crypto exchanges, crypto miners, all underperform. Is the stock of these companies really a good way to get exposure to crypto?

In fairness, many stock investors feel they’ve run out of options, limited in their choices by the SEC’s continued refusal to approve a spot Bitcoin ETF. Sure, the BITO futures ETF is a big improvement over Grayscale’s product, but the reality is that crypto companies and ETFs are underperforming, and stock investors are exposed to too much risk. Companies like Voyager make bad loans with customer deposits and go bust, and cash-rich businesses like MicroStrategy turn into glorified hedge funds by buying Bitcoin with debt.

Bitwise Crypto Industry Innovators ETF (BITQ) has steadily underperformed BTC since inception

The irony is that the original appeal of Bitcoin was the ability to digitally own and transfer your own wealth for the first time in human history. But holding crypto on exchanges or on centralized lending platforms is clearly riskier than owning crypto directly.

Your crypto in a neo brokerage account isn’t yours

By lending to 3AC to invest in Anchor, Voyager’s customers were indirectly participating in one of the most “degenerate” trades in DeFi, without knowing it. But that’s not to say that Voyager acted illegally. The Reuters article makes it clear that “[Voyager’s] customers did not own the specific crypto assets in their accounts … its customers hold unsecured claims for the value of those assets.“ Look closely and you’ll see that this is the norm. Modern neo-brokers can’t ensure customers’ ownership over their assets.

Revolut spells out very clearly that their partner custodian “Paxos Trust Company, LLC — will legally own any cryptocurrency you buy from Revolut App.” On other brokerage platforms, the exact situation is less clear. Scalable Capital allows users to invest in Exchange Traded Products (ETPs) from the company CoinShares, which are backed by crypto but can be used in the event of CoinShares’ insolvency. TradeRepublic makes it clear that crypto assets are held with a custodian, but the user never has the ability to transfer them out of the custodian, only buy or sell. Because customer transactions are not settled in real time, they explain that “Trade Republic will display the Customer’s crypto assets within the Application. This inventory is not necessarily congruent with the crypto assets held in custody for the Customer by the Crypto Custodian.”

There’s no replacement for direct ownership of crypto

Chances are, a crypto account balance shown by a 3rd party platform like an exchange, broker, or custodian, is not a blockchain balance but rather a claim on a balance sheet. When holding crypto in a wallet to which you own the keys, however, the balance shown represents the actual value stored on the blockchain, which is the number of tokens at that address. This can be easily confirmed by entering your blockchain address into a block explorer.

Token balances in crypto apps like Ultimate correspond to assets held at that blockchain address, which can be easily confirmed with block explorers like Etherscan and Solscan

Thankfully, owning your own crypto (“self-custody”, as it’s called) is easier and safer than ever before. With our app Ultimate, users are shown their private seed phrase when they create their wallet, and are given the option to back it up to Apple’s iCloud in encrypted form. This vastly reduces the likelihood of losing ones access to the seed phrase.

It’s time to take matters (and your money) into your own hands. Own crypto, not crypto companies. Own crypto, not crypto trusts or ETFs. Own your keys, own your coins.

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