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21 Nov 2022

Genesis and GBTC

The digital asset brokerage firm Genesis, owned by Digital Currency Group, seeks financing. Genesis suspended withdrawals, in addition to seeking an emergency loan due to certain illiquid assets on Genesis’ balance sheet.
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Source: Skew, Ycharts
The digital asset brokerage firm Genesis, owned by Digital Currency Group, seeks financing. Genesis suspended withdrawals, in addition to seeking an emergency loan due to certain illiquid assets on Genesis’ balance sheet. Bankruptcy has emerged as a potential outcome if the financing efforts fail. Per recent rumors, Genesis has slashed its raise target from $1bn to $500m, indicating that the firm struggle to shore up its lending units’ liquidity profile. Digital Currency Group owns a myriad of companies, with Grayscale being the flagship company holding. Grayscale offers crypto exposure through close-ended funds and holds 3.3% of the circulating BTC supply and 2.5% of the circulating ETH supply. Traders are now fearing that bankruptcy will lead to a dissolution of Grayscale’s crypto funds. Alternatively, the trusts may be acquired by traditional finance behemoths due to the attractive fee structure and size of the fund and the potential opportunity to acquire these trusts at bargain prices. Grayscale’s trusts trade at an all-time high discount to NAV. Due to its close-ended structure, the trust does not trade on par with NAV. Grayscale aims to turn the BTC trust into an ETF in the future. Previously, the trusts traded at a premium to NAV, but since early 2021, the trusts have traded at discounts. GBTC currently trades at an enormous -45% discount to NAV. Based on Grayscale’s 2% annual management fee, the market is currently pricing in that the fund will remain close-ended until 2051.
Why the massive discounts? An “arbitrage” becoming painfully wrong
Up until early 2021, Grayscale’s BTC trust continuously traded at a premium. Three Arrows Capital and other funds exploited this “arbitrage” by buying BTC, allocating to GBTC in-kind, and selling shares once delivered 6 months later, as we explained in 2020.
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Source: Skew, Grayscale
This trade got highly crowded during the 2020 bull run, and 3AC, among others, lent BTC from Genesis, invested in-kind in GBTC, aiming to sell GBTC at a premium after the 6-month lock-up. From January 2020 until March 2021, Grayscale’s trust grew from 260,000 BTC to 655,000 BTC, spiking massively in late 2020. The scope of this “arb” was unsustainably high, leading shares to flood the market far beyond the organic demand to buy GBTC and discounts to widen. The growth was also credit-fueled, leading Genesis, among others, to be caught offside, being the counterparty of loans based on collateral trading further and further away from its underlying asset.
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