Massive interest in interest
High interest rates means high risk
Proof of Reserves
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This article was first published on Decrypt.co
Genesis Global Trading, one of the largest crypto lenders and institutions, announced November 16 that they would “temporarily suspend redemptions and new loan originations in the lending business,” This, despite reporting a $20.7 billion in notional value in derivatives trading last year in Q4 and a recent $140 million equity infusion from Digital Currency Group. A company announcement attributed their decision to “abnormal withdrawal requests which have exceeded our current liquidity.” What can this latest news teach us about crypto lending as a whole?
In 2021, one of the hottest trends in crypto was lending out crypto to earn interest. In a similar fashion to earning interest in your bank’s savings account, Anchor Protocol differentiated themselves by offering a lucrative 20% interest rate on their algorithmic stablecoin TerraUSD (UST) that was tied to the US dollar.
Once UST lost its peg to the US dollar, Anchor Protocol sank many retail investors’ life savings along with their project. Both Anchor and Genesis can teach important lessons on crypto lending.
Retail investors that plan on earning interest on their crypto should be aware that these interest rates are not risk-free. The risk of default can be much higher than the interest rates promised on lending platforms. Since your crypto is not stored in cold storage and is loaned out instead, there is no guarantee you can recall your crypto if things go south. This risk is magnified with extreme market conditions or in a contagion event like the FTX and 3 Arrows Capital collapse.
The term “Proof of Reserves” has recently garnered popularity in the crypto space. Proof of reserves is thought of to be a stopgap that brings public transparency to institutional crypto reserves. With public wallet address ownership and third party auditors that can authenticate a centralized platform’s holdings, this approach is a potential long-term solution for crypto companies to avoid situations like that of Genesis and FTX.