Money 2.0 Stuff: Everybody wants equity

Abra

Abra is a mobile-based cryptocurrency investment platform but based on this SEC ruling...it’s really more of a market making firm? 

Abra offers its users a nice interface through which to gain exposure to a variety of cryptocurrencies and foreign currencies. In February 2019 they started offering a way to trade US equities and ETFs. 

On the backend, Abra routes its order flow to Plutus Tech, a private Philippine-based company partially-owned by Abra, which then enters into contract-for-difference swaps with users. If the price of the cryptocurrency, FX, ETF etc. appreciates Plutus Tech pays the difference and vice versa. Of course, Plutus Tech is also hedged on the other side of each swap and earns its margins through a spread.

Overall it’s quite a nice, honest business? Abra provides a fresh user experience and synthetic exposure to a variety of cryptocurrencies, stocks, ETFs, and so on. Abra’s business model is risk-minimized and fair, compensation for convenience. In a lot of ways this looks pretty analogous to Robinhood except we’re dealing with derivatives of exotic assets as opposed to exotic derivatives and also Abra interalizes all its order flow. 

And yet:

The Securities and Exchange Commission (SEC) and the Commodity Futures Trading Commission (CFTC) jointly announced Monday that they had settled charges with Abra, a crypto investment app maker. 

In the case of the SEC, the agency accused Abra of "offering and selling security-based swaps to retail investors without registration and for failing to transact those swaps on a registered national exchange." The CFTC charged Abra "for entering into illegal off-exchange swaps in digital assets and foreign currency with U.S. and overseas customers and registration violations."

"By entering into these contracts via their app, respondents violated Section 2(e) of the CEA, which makes it unlawful for any person, other than an eligible contract participant, to enter into a swap unless the swap is entered into on, or subject to the rules of, a board of trade designated as a contract market. Additionally, in soliciting and accepting orders for these contracts, the respondents illegally operated as an unregistered futures commission merchant," the CFTC continued.

The SEC alleged that Abra "marketed its app to retail investors, yet Abra took no steps to determine whether users who downloaded the app were 'eligible contract participants' as defined by the securities laws." Abra is said to have discontinued this offering following discussions with the SEC, but it continued that May while "attempting to limit the offers and sales to non-U.S. people." 

"Although Abra moved certain operations outside the U.S., the order finds that its employees in California designed and marketed the swap contracts, and screened and approved users who would be allowed to buy the contracts. The order further finds that Abra's U.S.-based employees effected thousands of stock and ETF purchases in the U.S. to hedge the contracts."

In both instances, the firm reached a settlement and will pay a combined $300,000 in penalties ($150,000 to each agency), according to court documents. 

Abra settled the charges while neither confirming nor denying them, according to court documents.

OK, so maybe Abra did some illegal things, including: 

• Entering into swaps without a contract market license
• Soliciting orders as an unregistered futures commission merchant
• Soliciting orders to retail investors without determining whether they were eligible contract participants 
• Continuing to offer synthetic US equity exposure to non-US customers despite prior conversations with SEC
• Employing US-based staff and using US-based brokers to hedge swap contracts

By and large it appears they’ll walk away unscathed: a $300k fine is the cost of doing (unregulated, derivatives-related) business and, as a bonus, they didn’t even have to confirm the charges. 

One does wonder, though, why Abra didn’t consider being a bit more of a normal company, acquiring a broker dealer license, doing due diligence of customers, and not margining everything in Bitcoin. They could do all the other things that they were good at — providing a nice mobile app, making money off customer trading activity — but also do it in a way that is compliant with financial regulators. There appears to be a culture in the cryptocurrency industry where the expectation is that you have to be a bit unconventional and risky to make a lot of money and maybe Abra bought into that culture and maybe sometimes it is a bit true but it doesn’t have to be. 

What this means for the Open Finance industry, which is kind of trying to do what Abra did but in a way which is protected from SEC/CFTC-led lawsuits, is anyone’s guess. Certain projects may appear to be supporting swaps without designation as a contract market (DCM). Others may be seen to be soliciting orders via referral programs. Naturally there is an abundant absence of KYC. 

It’s interesting to see the ways in which regulatory action actively shapes the cryptocurrency industry. For now it appears that the best way to keep authorities at bay is to quantifiably “decentralize” via governance token distribution. That said, I fear that we will look back on this full-hearted embrace of formal on-chain governance as a bit of an unforced-error, merely patching one leak while opening several more. 

BZRX

Between the years of 2017 and 2020 prospective cryptocurrency investors would ask, almost rhetorically, sullenly, “how does this token accrue value?” Now it would appear we have a decent answer: protocols will reserve some portion of platform cash flows and distribute them pro rata to token holders. This seems pretty reasonable and is roughly how conventional businesses accrue value, lots of caveats, but sure. 

I think you can tell a fair amount about the current state of the crypto market cycle by the absence of the natural, harder following question, “how does this protocol actually expect to generate and grow these cash flows?” 

Take BZRX (v3), which earlier today IPOd (Initial Protocol Offering) via Uniswap, as a case study. Within the ‘claim to cash flow’ category of tokens, there remains some degree of nuance as to design. Some lending/margin trading protocols will charge origination fees or trading fees. Others will take some portion of interest accrued. Others still will supercharge returns through an inflation schedule or reward token holders through third party protocol liquidity provision. Having presumably failed to stack v1 and v2 appropriately, BZRX v3 has thrown caution to the wind and incorporated literally all the value drivers: fee sharing, Balancer fees, BAL rewards, insurance fund.

And why not? In theory, I guess, together they should make BZRX the most valuable asset in the world? In reality, also, at the time of writing, it is quite valuable: trading at $0.20 per, BZRX has a fully diluted market cap of just over $200m.

Meanwhile, BzX, the underlying money market protocol, currently has about $80,000 in outstanding debt (Compound’s outstanding debt currently sits at around $990m). Assets supplied ostensibly totals around $3.3m, although about $2.7m of that is effectively missing forever, oops, a bi-product of February’s high-profile exploits, plural. I have yet to run the NIM calculations but I think we’re looking at a “three comma club” multiple. 

Maybe this was to be expected. Cryptocurrency markets have been so devoid of fundamental value for so long that the slightest hint of equity-like properties is enough to send speculators into a frenzy. Who can blame them: considering recent events (Hertz, Tesla, Nikola, Lemonade), I too would want my crypto-asset to closely resemble equity. 

Perhaps one day the market will reflect the notion that a sound token model is not enough to compensate for an inherently deficient product, that the capacity to capture some portion of a platform’s cash flows is less relevant when there are no cash flows. But don’t bet on it — you’ll probably get margin called.

Chris Larsen

You may remember Chris Larsen as the guy that was, for a brief moment, the fifth richest man in the world with a net worth of $59bn. As the co-founder of Ripple, most of that wealth came in the form of paper XRP gains and it shortly, inevitably disappeared. 

But I guess he still has some money lying around because this is the kind of thing only a creepy rich dude would ever consider a sensible idea: 

Chris Larsen, a co-founder and former CEO of distributed ledger startup Ripple, is reportedly paying for the installation of hundreds of security cameras across San Francisco.

The New York Times profiled Larsen's efforts, framing them as a way to deter property crime in the city. The outlet said that Larsen is "paying for a private network of high-definition security cameras around the city. Zoom in and you can see the finest details: the sticker on a cellphone, the make of a backpack, the color of someone's eyes."

As of now, 135 blocks in San Francisco are part of the camera network, according to the Times. 

Though the initiative has driven privacy fears, Larsen contended that his efforts would ultimately fuel more action at the community level. 

 Nothing quite speaks to the values of cryptocurrencies than recording unknowing private citizens on ultra-HD cameras as they walk around their own neighborhoods, sure.