Worst Case; I'll get my Bitcoin Back

“Worst Case, I’ll Get My Bitcoin Back”

The Grayscale trade was the first taste of “Bitcoin arbitrage” and one of the many powder kegs of the 2022 crypto credit bubble. The trade looked like an easy lunch; borrow Bitcoin, lock it into the Grayscale trust, mint new shares and post those as collateral, wait six months, and sell them to retail at a fat premium to NAV. A trader could conceivably get unlimited leverage if their lender marked the value of the shares at the underlying value of the bitcoin representing those shares, rather than the value the security was trading at on public markets.At one point, Grayscale shares traded at a premium of 100% to the value of the Bitcoin in the trust those shares represented. This was driven by everyday Joes looking to get exposure to Bitcoin via their brokerage account. They thought they were just buying a Bitcoin Trust, they didn’t know they were buying overpriced shares in Bitcoin terms. 

Traders leveraged this asymmetry to borrow one Bitcoin, create shares worth two, sell, repay the loan, and pocket the spread. The trade made a lot of sense.

But what people missed was the hidden assumption sitting underneath that trade was the belief that, “worst case, I’ll get my Bitcoin back and lenders will be ok” Even some of the most experienced and sophisticated traders in the industry like CMS Holdings were caught off-guard.

Recently, we started to hear those same lines again around PIPEs for Bitcoin Treasury companies where early investors had the opportunity to convert to stock and sell. The idea was simple: since these instruments were “backed by Bitcoin,” the downside was limited. You might lose the premium, but your collateral, your Bitcoin, was seemingly safe.

Paper Bitcoin vs. Real Bitcoin

When you buy or subscribe to equity in a trust or a convertible, you’re not holding Bitcoin. You’re holding paper that references Bitcoin and those two things behave very differently once liquidity dries up.

If you subscribed at $100,000/BTC and the shares later traded 30% below NAV, you weren’t sitting on “1× Bitcoin.” You were sitting on 0.7× exposure to Bitcoin, because you couldn’t redeem those shares for real Bitcoin. You could only sell an equity the market didn’t want, and that a lot of other traders were also trying to sell in parallel. 

The Real “Worst Case”

The true worst case in these Bitcoin-NAV trades wasn’t about losing dollars, it was about losing Bitcoin. Today, Treasury companies are encumbering their bitcoin with lenders which introduces both credit risk of lenders like Antalpha to equity holders, but also leveraged price risk. Equity holders could easily end up holding something that “tracks” a diminishing amount of Bitcoin over the next couple years. Don’t let your Bitcoin be victimized again. Buy the physical asset.