Could DCG be the catalyst for maximum pain in the cryptocurrency markets?

Haru Invest

After the recent collapse of FTX, the fallout has spread to Genesis, which was already bailed out by parent company Digital Currency Group (DCG) earlier this year following the bankruptcy of Three Arrows Capital.

There are growing concerns that the contagion could spread to Greyscale Bitcoin Trust and Digital Currency Group, but are these fears valid?

Genesis and digital currency group

According to Nathaniel Whittemore, speaking on the CoinDesk podcast, The Breakdown, DCG is a $1.2 billion creditor of Three Arrows Capital. For the sake of transparency, CoinDesk is owned by DCG.

Genesis recently announced that it would suspend withdrawals for its Genesis Earn program. In addition, reports began circulating that the company may be $1 billion in debt. According to an article in the Wall Street Journal, the company asked for a $1 billion loan following the collapse of FTX, but no deal has been reached.

Adam Cochran, partner at venture capital firm Cinneamhain Ventures, Broken DCG’s activities to assess whether a potential $1 billion hole in its balance sheet could cause further problems in the cryptocurrency markets.

Specifically, DCG-owned companies may be at risk of further contagion with their portfolio, including crypto custodians, BitGo, web3 browser, Brave, USDC issuer, Circle, crypto news organization, CoinDesk, and many other core crypto projects which form the beating heart of the industry.

If DCG continues to struggle, the impact on the entire industry could be catastrophic. Andrew Parish, co-founder of ArchPublic, said on Nov. 20 that there had been “zero takers” for Genesis’s funding application, including rejections from major cryptocurrency-focused VC firms.

Parish has published a update a few hours later stating that B2C2 “may” be open to a “very small” investment to cover part of Genesis’ loan book.

A collapse of Genesis could have a much greater impact on the entire cryptocurrency industry than FTX. Genesis is a key part of the institutional infrastructure currently in place in the cryptocurrency industry. The company was the first OTC Bitcoin trading desk created in 2013. In 2020, then-CEO Michael Moro said Genesis was on track to become “on par with the world’s leading financial institutions.”

Digital currency group assets

Cochran outlined the baseline of DCG’s “empire,” arriving at a figure of approximately $38 billion in assets under management as of 2021.

In addition, Cochran has estimated the following approximate breakdown of DCG holdings across his portfolio based on certain assumptions from his previous investments.

goods dcg
Source: Adam Cochran

Confusion between genesis and grayscale

It is important to note that as of October 2022, Genesis was no longer a participant in the Greyscale Bitcoin Trust, but will “continue to act as a liquidity provider for Grayscale”.

However, on November 16, Greyscale Spaced out he further distanced himself from Genesis as he announced that his assets were now held at Coinbase and that Genesis “is not a counterparty or service provider to any grayscale product.”

The statement, however, contradicts a previous statement on Oct. 3, when Grayscale CEO Michael Sonnenshein told CoinDesk that Genesis was his “sole liquidity provider” and he saw no need to diversify.

“Today, Genesis remains our sole liquidity provider and we’ve had nothing but a positive relationship with them since 2013, so I see no need to expand.”

Sonnenshein expanded by commenting that “Genesis will still handle the purchase of the cryptocurrencies underpinning the Grayscale trusts.” There have been no further announcements on Greyscale’s official news channel regarding Genesis’ removal from this position.

Greyscale defines its need for “liquidity providers” as a way to ensure “investments are satisfied.”

“Working with a liquidity provider like Genesis allows us to tap into various asset markets or digital protocols to ensure investments are made in a timely manner. “

The small print of Greyscale’s website includes a notice stating that its products are distributed by Greyscale Securities and that “prior to October 3, 2022, the products were distributed by Genesis Global Trading, Inc.”

However, confusingly, a statement released by Greyscale on November 18th reinforced Greyscale’s lack of exposure to Genesis some 56 days later.

“No other entity, including DCG, Genesis or any other Grayscale affiliate, has any control over the digital assets underlying Grayscale products.”

Given that less than two months earlier, Genesis was confirmed as a liquidity provider tasked with “purchasing the cryptocurrencies underlying the Grayscale trusts,” it is difficult to ascertain the exact exposure to Genesis and DCG at this time.

Genesis appears to have taken a bullish view on the future of Bitcoin price discovery as of late, as the company’s strategists failed to establish Bitcoin’s high. In November 2021, a Genesis strategist said that the small drop in the price of Bitcoin from $69,000 to $55,000 was simply a “natural breath”. Since the statement, Bitcoin has dropped another 70% to trade below $17,000.

Currently, the Greyscale Bitcoin Trust is trading at a 43% discount to its net asset value (NAV), meaning the Bitcoins held under the trust are currently valued at around $9,300.

The collapse of DCG assets

Cochran then assessed the potential real value of each part of DCG’s portfolio by examining the liquidity available within each investment. Cochran made several assumptions in establishing ratings for each item, so any numbers should be considered hypothetical using publicly available information and his own professional insights.

However, Cochran concluded that to raise $1 billion, DCG would likely need to sell stocks, ventures, liquid cryptocurrencies or one of its flagship brands.

Former Goldman Sachs trader Patrick Feeney backed up the claim that Greyscale and, later, DCG are in trouble. Feney affirmations avoiding the collapse of FTX by assessing the body language of Sam Bankman-Fried and escaping “MtGox, BTC-e, Cryptsy, Cryptopia”.

Feeney said DCG and Greyscale are in a “difficult position” with a lack of liquidity and “outsize lending issues.”

Cochran concluded that DCG may need to rely on someone “overpaying” for a portion of its GBTC or Genesis holdings to avoid further problems.

Arthur Hayes contributed to the discussion of sharing a Medium article by DataFinnovation. The summary of the article stated that

“It appears DCG and 3AC were engaged in some sort of scheme to extract value from the GBTC award.”

The article analyzed publicly available data to claim that Genesis, DCG, Greyscale and 3AC have created a circular infrastructure to borrow and lend BTC to create GBTC stock and “squeeze money out of the GBTC premium.”

Grayscale of genesis 3ac
Source: DataFinnovation

Given that both Greyscale and Genesis are registered with the SEC, DataFinnovation said that “it won’t be difficult for regulators to figure this out.” While some of what is discussed in the analysis above could be considered speculation, DataFinnovation makes a point. With invested parties subject to apparent regulatory oversight, the truth is likely to come out. The question is, what impact will it have on the global cryptocurrency markets?

The bear market blues

Cryptocurrency bear markets are notoriously difficult. For example, in 2018, the industry’s global market capitalization fell from $828 billion in January 2018 to a low of just $100 billion by September 2018. The decline marked an 87% drop in market capitalization total.

On November 9, 2021, the total market capitalization of the cryptocurrency industry reached $2.8 trillion. However, the market cap was down 70% to $831 billion as of press time. Thus, the 2018 bear market low was 17% lower than today. A capitulation equivalent to the 2018 crash would bring the current global market capitalization to just $350 billion.

Should DCG, Greyscale or Genesis face insurmountable financial difficulties, a new catalyst for the market to test the 2018 lows could enter the arena.

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