Bitcoin was founded on the idea of economic freedom.
While most would agree with that idea, Bitcoin’s (BTC) price dropping below $4,000 has market participants suffering from fear and depression. Vocal critics of Bitcoin as a currency have been loud, and there is no shortage of people piling on, many of those coming from the traditional financial services.
But Bitcoin critics frequently miss that there is a budding financial services industry developing around Bitcoin. It’s a simple premise. Offer fiat loans against Bitcoin and combine with a very creative way to secure the collateral and clients’ cryptoassets.
In Austin, Texas, two soft-spoken gentlemen Joseph Kelly and Dhruv Bansal had the idea to start a lending business for Bitcoin. The entrepreneurs were early Bitcoin (BTC) adopters back in 2013. According to Joe Kelly, he and his partner bought Bitcoin with money they could afford to lose. That allowed them to hold Bitcoin (BTC) even though it rose from $200 in 2013 up to $1,200 in 2014 and then back down to $100.
Kelly tells the story in a such a clear-headed simple way that he made it sound easy to hold on through the Mt. Gox debacle. Just hearing the story was a breath of fresh air given the negative hyperbole of today’s marketplace.
Using Bitcoin along with the proceeds from the sale of their tech startup, they wanted to start a new business.
“We went through a lot of ideas, but we really kept coming back to Bitcoin,” Kelly said. “We knew it would be hard. Through 2014, 2015, and 2016, Bitcoin (BTC) was a red-headed stepchild. Investors kept telling us, ‘it’s about blockchain, not Bitcoin (BTC).’”
It is fascinating that the FUD from 2014, 2015, and 2016 sounds just like the FUD in 2018.
At the heart of Unchained’s business strategy was actually data analytics and impressive chart work.
In a prior startup, both Kelly and his partner were self-described “data guys.” They ran analysis on the Bitcoin blockchain and made a startling discovery. In 2016, 60 percent of all Bitcoin (BTC) had not been moved in a year or more. According to Kelly, Bitcoin had a market cap at the time of roughly $10 billion when the calculation was done in 2016. That meant that there was roughly $4 billion to $6 billion in invested capital that was just sitting idle.
The graph used to paint this picture is shown below.
“We thought that was a shame,” said Kelly. “We thought that it was capital that could be put to work. (We) just needed a way to connect to the traditional financial system.”
Kelly goes on to describe how banks would not allow Bitcoin (BTC) to be included in a calculation of someone’s total assets. In the minds of traditional financial players in 2016, Bitcoin was worth zero. This left a market of crypto holders who were underserved by the traditional financial system.
It created a logical place for Unchained to step in and create a Bitcoin (BTC) lending business in 2017. And by 2017, with the major ramp underway, you would have thought it would be easy to create such a business, right?
Well, maybe not.
It seems their simple model was too simple. Unchained used Bitcoin (BTC) as collateral for a traditional loan. Ironically, in 2017, their idea wasn’t sexy enough. “In ‘17… it was all the tokens, not (about) Bitcoin or a real business to speak of,” said Kelly. “So investors didn’t want to talk to you unless you had a token.”
Kelly and Bansal had to start the business by lending their own money. Naturally, as Bitcoin (BTC) went parabolic in November of 2017, Unchained was able to get access to lending capital and start a full-fledged lending business. Kudos to Kelly and Bansai for having the courage to step out there and start a business with their own money.
To date, Unchained has done $10 million in loans and worked with roughly 100 clients. The average loan size is $120,000. The max loan size is 50 percent of the posted collateral.
One big question is how the collateral is held. Who has the keys? For someone who is crypto savvy, giving up private keys to a lending institution requires a big leap of faith.
After getting told they weren’t cool in enough in mid-2017, it now appears Unchained is ahead of the cool curve with a unique solution to custody.
The Multi-Institution Custody Model
In November of 2018, Unchained released multi-institution custody model. According to Kelly, this model allows for three key holders. Clients maintain a key. Unchained has a key, and a third party agent, Citadel SPV, holds the third key.
“So, now you have three parties with three keys, and you need two keys to unlock the collateral,” said Kelly. “So now…(clients understand) that we can’t just run off with the collateral … or they can work with third party to recover the collateral in the event Unchained goes bankrupt.”
Kelly implied that this model will give clients peace of mind while creating a differentiated solution for Unchained.
Unchained’s blog does have a catchy graphic that brings the solution to light.
The Insurance Question
As you may know, custody is a big buzzword when it comes to institutional involvement in crypto. You might think that anybody holding substantial amounts of crypto would want private sector insurance, perhaps mimicking FDIC insurance for fiat deposits.
Mr. Kelly really shined light the matter. According to him, the typical charge for such insurance is 1% of assets per year, which could be a prohibitive cost,
“You don’t always have enough clarity on the insurance policies and when and how they’ll pay out.” he said. “You haven’t seen these policies come through and pay. Nobody has talked about how we got hacked, and thank goodness we had insurance and (it) paid right up kind of thing. It’s untested.”
Mr. Kelly seemed to think that the insurance concept was really just “marketing, and making people feel good.” He added that Unchained would “rather invest in a real kind of protocol, native and real cryptographic security.”
The Human Touch in the Crypto
One interesting thing about Unchained is their approach to client peace of mind doesn’t just come through technology and strategy. I also comes from human beings providing service in traditional financial service.
While Unchained does have a technological interface allowing clients to borrow against collateral without speak to a person, many of Unchained’s customers like speaking with a live person. “You’re calling a number to talk to someone…because it’s crypto,” said Mr. Kelly. “They like that human touch.”
Mr. Kelly also hints that his customer relations department has had difficult client conversations because of the bear market. Margin calls are occurring and people need counsel as Bitcoin’s (BTC) price continues to decline.
Kelly thinks Unchained will weather the bear market, even down to Bitcoin (BTC) at $2,500.
“We would survive it,” he said. “Definitely. There’d be a lot of client’s getting margin calls, and we’d be dependent on those people coming through (with additional collateral) if they don’t want to get liquidated. Our loan book would survive.”
Returning to the subject of Bitcoin (BTC) going to $2,500, the price decline in crypto is so far not impacting firm morale.
“As it relates to the kind of people we’ve hired, nobody is depressed about the (Bitcoin) price,” Kelly said. “It’s a bummer from the point of view of watching our clients get a margin call … a bummer from the point of view of watching our loan book shrink because there’s clients that sell off loans … and we don’t see much in origination volume when we’re in a slump like this. But, that’s the crypto market overall.
“None of us are here because Bitcoin’s (BTC) price went up. So, if it goes down, it’s not a factor of people’s calculation or whether they’re excited to come to work that day or not.”
It’s refreshing to know that people like Mr. Kelly have watched crypto go through this boom-bust cycle before. It looks like he and his partners have built a firm that can continue on and keep price movements in perspective.
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