Mar 21, 2023

Stephan Lutz, BitMEX acting CEO and Group Chief Financial Officer, shares his thoughts on the U.S. banking crisis and the impact on crypto exchanges as some companies look to go offshore due to tightening regulatory scrutiny.

Video transcript

Our first guest happens to be from an exchange uh and has a little bit about dealing with us regulators. Let's talk to Stefan Lutz. He's the acting CEO and group Chief Financial Officer at Crypto Exchange. Bit, Stefan, thank you for joining us. So we're just looking at the news of the day. What, what are your thoughts on these bank collapses and their impact on crypto exchanges right now? Yeah. Well, for me, it pretty much shows that something is going on, right? I mean, we have seen stuff coming out of the news already in the last month, we had speculations and now we see that the quantitative tightening of the last couple of months, which was basically a very sudden pivot led to some problems here. So we are basically back into quantitative easing. Um and even a flat rate hike of 25 basis points of bits would be overcompensated by the backstop facilities we see and this is what you see in the crypto prices, especially Bitcoin and Ether. So the news right now, if you're really a crypto exchange, being focused on a derivatives B security and then staying in the crypto space so not being tied to. So if you're really a crypto exchange that A focuses on derivatives B is safe and segregates client assets and C has limited to no connections to the fiat world is really striving. That's what we see. We see actually rising volumes and AVS we see a risen market share over the last 2 to 3 months with Bit Macs because the current market situation is actually what Bit Mac originally built for by our founders, if you remember Mount Gox. Uh and the second one is uh we are following that pretty well. And since the end of last year, we think we have been through the daily at the rally of death. So to say, and we see positive signs in the market and we are able to reaping those benefits and we are very grateful about that, that the ecosystem and the community trusts us as a real crypto exchange that is focused on crypto. Mhm. What do you think will happen to exchanges that are depending on, on, on and off ramps in the US banking system? Will, is there going to be pressure on crypto companies to go us to go offshore? And is that something that has been working on? Well as you might know from our past, we don't serve us customers and the US market at all. So this is the result of what bit Ma went through and the founders of Bit Mac went through. So we learned our lesson. I believe that um crypto exchanges, especially in the US will need to look at how they approach things. It will be quite a bumpy ride for the next couple of months and they will need to frankly decide on which side they're on. Are they more going towards classical trad fire banking business or are they staying in the realm of crypto and being really focused on crypto? Which frankly we did and we follow suit. So as said, we, we haven't been in the US for a long time right now. So we have a very strict policy there and we are not bound basically to the US banking market which for now is, is a good thing for us. How does, how did the rising interest rates affect leverage on bit? I mean, it's, it's one would assume that it gets more costly to borrow funds to, to do leverage. Do you see that affecting volatility in crypto uh over the next few months, maybe not currently and, and perhaps you, you're not seeing uh remarkable change in leverage, but do you think that that will have a long term effect and dampen volatility? I don't think so. And this is due to the fact how leverage works in the crypto space, leverage in the crypto space, at least if you're on the exchanges doesn't work like in the traditional financial world where leverage really is leverage. So leverage just means how much accelerated is the usage or the gain of your right. So, and if you run out of collateral, you will be liquidated, which means your risk is limited and the risk of your counterpart is limited too. So there is, if you run a proper as we think we do and we have proven to do so. So it's the third crypto winter and Max is still here and we know we are battle tested, we know how it works. Um And how to not lose the coins. Um So it basically means you cannot lose more as you have put into the exchange and your count and your counter party basically will always be sure that they can win, right? So there is nothing that you run into a problem like in classical banking and trading where you can have because of leverage like for 12 24 hours, a huge um overdraft facility that then is not covered. This actually shouldn't be possible in any sound crypto exchange. So this is one. So I don't think that the current situation that we had or that we will have will have a real impact on leverage because it's more leverage on crypto exchanges is more driven by the risk appetite of the investor. What we see is that because of the events of the last year, some funds have been diminished, right by investors. So they are cautiously looking at the market and you have kind of a flight to quality back to Bitcoin Ethereum and let's say four or five other Bitcoins in the market, that's what we see. So we see a lot of caution around old coins and that might not go away for the next couple of weeks or months. But in the quality segment, we definitely see that interest has risen again and, uh, as well. I mean, the, uh, getting back to sort of like, uh, the issue of banking, how safe do you feel are your, are your funds with the banks that you use? What kind of banks do you use? And uh what are you ensuring, uh, that, you know, obviously this is so far a US based crisis, but we've seen it in Switzerland as well, uh that there are some questions with, with some of the banks there. Um, and, and again, getting back to the question of uh, interest rates, what we found, at least in the US is that many of these banks have not quite figured out how duration works. Uh And because of that, we're seeing these crises, what, what are you doing to ensure that your customers can get access to funds, um, in, in case of a, uh, you know, the crisis spreading and, and, and how safe are they and how, how secure are they based on what you know, of, of the institutions that you use? Ok. Um, well, in terms of security or safety of the funds of our users. Bit ma was built to make sure that actually client funds and house funds are segregated. So our system works in a way that if there was the co mingling in the accounts, it would stop working. That's number one. So this is nothing that I mean can be tested unless you look into our systems. But this is what we can make sure that the people have what we then on top do to prove that is we have been one of the first exchanges who introduced proof of reserves. We actually did it already in 2021 and it didn't receive great interest and we got it back. We have proof of reserves, proof of liabilities multiple times a week, right? So it's really there and we can prove that the funds are there and they can be withdrawn basically after risk check with us. So they are there all the time. So it's not a fractional reserve banking type of business model. It's fully um backed by reserves. I I that, but my question isn't so much as because we had us DC have proof of reserves basically. And yet they still because they banked with Silicon Valley Bank, there were questions as to whether or not they could get those reserves out uh to redeem their customers and you know, the funds could be there. But if you can't access it because the bank is folding. Uh it, it of course, is a problem what are you doing in on, on your end or you know, how much due diligence and how much, uh how much contact have you had with your banks? Uh to make sure that they uh can actually supply the cash when you need it. Well, that's pretty easy because we don't have any connections to classical banks for custody of our crypto funds. All the crypto funds are in our own cold wallet, in our own cold wallet, crypto custody solution. So we haven't had any exposure to Silver gate signature Silicon Valley banks or the likes. So that means we are fully independent of that system and that adds increased um security and safety for our clients. All right, and bit mixes that with the report. And I guess that goes to a section of that report which is building transparency and trust. Uh Tell us a bit about your crypto outlook. You have fundamentals versus sentiment, three scenarios to watch out for in 2023. Maybe you can outline for us what those scenarios are and you know which of them you see most likely happening. Yes, for sure. Just some words before we compiled this, this report well over a couple of weeks and months. So this is not something that we came up with yesterday. And the funny thing is everything you see in the report happens right now, which we didn't expect friendly. So we came up with three scenarios we thought in 2023 we will have one of three more or less mutually exclusive scenarios. Scenario number one, we go back to quantitative easing um more money supply which drives inflation, which then drives crypto prices to the extent that you use your crypto or Bitcoin, in particular as an inflation hedge. So, and that we see right now, it just happened over the last two weeks. The second one, we saw caution continues, meaning that people stay aside, they rather wait and see before going back significantly into crypto. And we have basically a sidewards movement still. I think part of that is true because for many of let's say the second half old coins, right? So the second half of old coins is really in that scenario still. And then the question of whether crypto just became safer as a class refers to the fact that we, we saw the likelihood that some jurisdictions will figure out how they will deal with crypto regulation and therefore provide certainty for investors how to deal with it. We see that in some areas of the world. So you see Southeast Asia, you see Hong Kong evolving, you see the Middle East with Dubai basically making their mark. You see even in the European Union with the enactment of the markets and crypto assets regulation MCA that they at least go forward and provide a basis to operate, right? So, so funnily, all of those now work at the same time. We have increased risk, appetite of investors because of the quantity of easing for quality crypto assets. We see still caution for the old coins and as well, we see some movement in the regulatory space to provide bigger clarity or or greater clarity. A for operators as well as for investors which will increase the um the transparency as well as the trust in crypto players. So, so I, you know, II I have to ask you when it comes to this recent rally that we've seen in crypto. Uh Is it so much as a, a flight to quality as you would say, or a flight to safety or is it the fact that the fed may not raise rates as high as expected? You know, as we said earlier, they're expecting 25 basis point increase uh in the, in the next uh 25 26 hours. I don't remember how many hours we have left. Uh But by tomorrow we'll know whether or not the fed raises rates, the market anticipates 25 basis points a while ago, not so long ago, actually, 50 basis points was almost the consensus. Uh Just because we saw these inflation numbers, has the market taking on more of a risk appetite or I, and, and that explains the rise in crypto or is it uh an exit out of stable coins, for instance, uh What exactly are we seeing in, in terms of why we're seeing this current rally. I I'm talking about the very short term, my strong believers that it's all of what you said, you see, first of all, which is the most visible one, a reduction of, of the expectation of further rate hikes. So we have, we have the rate, the rate hike will be lesser than expected. Plus and this is the big thing. It's the quantitative easing in the background by the backstop facilities for us banks, which is overcompensating even if you would have a 50 basis point rate hike from my point of view. That is number one, right? And then then you see as well the movement from stable coins into, into, into Bitcoin, which for me is if you are a crypto um um guy, that's a flight to quality because Bitcoin is there to stay. And as we have seen in stable coins, they are necessary. We need them in a way to make the the markets work. But at the same time, they have more risk than just the market price risk or the pack risk, right? You have the pack risk, but then then you have the risk. Where are the funds? Are they accessible as you have said earlier? So you have all of, of what you said and it's amalgamating into that recent rally. We have seen that was significant over the last couple of days or let's say two weeks, just one last question before we wrap up. I just want to ask about bit co-founder, Arthur Hayes, he's proposed the NA A dollar, which is a stable coin backed by Bitcoin and Bitcoin derivatives, which would theoretically be deeply liquid and attracted to traders and provide stability if accepted and used by investors in crypto exchanges. What are your thoughts on, on that? Arthur's idea is a natural one if you think about it. Um So you need to have at the current state of the crypto market, a unit of account that's not fluctuating heavily with the market just to make your accounting more easy, right? And, and make sure that you can switch between venues so that you have kind of some well stuff that oils the machine. At the same time, at the same time, the issue of stable coins is a regulatory risk and then the accessibility of the coverage funds, right, which has nothing to do with the functioning of what they have been invented for. So, and then coming up with the idea of that Nakamoto dollar, which is basically a stable unit of account down to the US dollar in terms of exposure. But without having the risks of the current stable coin system is an innovative one that we believe if it's followed. And there will be people who take up the idea because it needs to be a decentralized idea in a way to make it to make it credible, then it will really be or can be a game changer in the whole crypto industry. All right, Stefan, thank you so much for joining us. That was bit acting. C Stefan Lutz.

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