Cryptolending: be a borrower and a lender on the blockchain

. 4 min read

We recently looked at ways your cryptocurrency assets might potentially generate passive income. But what if you want to use your investments in cryptocurrency to generate income more actively for you – without having to trade it away?

After all, most of us are in this for the long-term HODL – we don’t want to end up like “Bitcoin Pizza Guy” Laszlo Hanyecz, who bought two pizzas from Papa John’s for 10,000 Bitcoin (BTC) back on May 22, 2010. No, don’t even do the arithmetic, it hurts - though he did say they were very good pizzas.

Suffice to say, we’re betting on the great future we anticipate for Bitcoin and other cryptocurrencies, to increase in value over time. But what if we need to release some of the buying power we have invested, to use in the immediate term? Even to reinvest in crypto somehow, such as to back a token sale or purchase mining equipment? Not only do you forfeit future gains when you sell your crypto, you pay exchange fees, bank charges, and in many jurisdictions you also create a taxable event – none of which outcomes are desirable.

A new wave of crypto lending services could be the answer. These secondary services are an emergent phenomenon, including SALT in the US, ETHLend in Hong Kong, eCoinomic in Estonia, and Nexo in Switzerland; also exchanges like Poloniex are increasingly offering similar services.

They all work in slightly different ways, but essentially offer fiat loans backed by crypto assets – you deposit your crypto with the service as collateral, and they offer you (or someone else) fiat cash to spend (typically up to 70% of the value, to protect both parties from the volatility of the market). You pay interest on your loan of course if you’re the borrower, but there is a real possibility that your crypto will also appreciate over the loan period - so you receive back an asset of greater value than that which you deposited.

And as a crypto holder, they offer you a way to actively earn money from your currencies, by brokering loans to other parties. If you’re not planning to liquidate your crypto any time soon, you could put it to work in this way, and make a profit. After all, you have to store it somewhere safe, and there is no such thing as an interest-paying deposit account for your crypto. Local Coin Swap Cryptoshares won’t be paying out until 2019, so perhaps this could an alternative way to benefit for the short to medium term?

There are a great many use-cases, obviously, from a range of personal and business cash needs to margin lending – where a borrower could invest in a coin they believe is going to increase in value, using funds borrowed from the exchange.

Market volatility is of course a risk for the platforms themselves, but the SALT lending platform has been operating for some months now during the Great Bear Market of 2018. They have made over $40m in loans with no losses.

SALT’s smart contracts protect loans via automated margin calls, so when a loan-to-value ratio reaches a certain threshold (say 80%) the customer will receive a text, an email and a phone call instructing them how much more collateral they need to contribute to their collateral account, or how much they need to pay on the loan to avoid liquidation. SALT then has the sooner of 48 hours or the next trigger, (say a loan to value ratio of 90%) to take action – but as of May 2018 stated that they had only followed through on 2 liquidation events, where it had had to sell a proportion of the collateral in order to return a loan to its original loan-to-value ratio.

Multisignature wallets, open blockchains,and smart contracts enforce security and transparency of all transactions, and enable trustless lending across geographical and currency boundaries – thus enabling peer-to-peer lending solutions, as well as the fractionalizing of loans via tokenization: lending and borrowing are not limited to one-to-one relationships, instead, borrowers and backers can collaborate to meet each others’ needs collectively.

Peer-to-peer cryptolenders can also agree their own terms of diligence, collateralization and interest rates – and this is a total game-changer for those people excluded from traditional lines of credit, (due to lack of track record, a single financial mistake, or simply being born in the wrong demographic circumstances). The lower costs involved using smart contracts instead of financial institutions enable all parties to benefit from the cryptolending revolution.

In other business models, lenders lend to the exchange itself rather than the borrower directly, offering different models – more centralized by design, but, with different security guarantees, and possibly different levels of collateralization being acceptable.

Are there risks involved? Of course. Any exchange can get hacked, and a lot of them do. If you are depositing your cryptoassets with any custodian, you will need to do your due diligence on their security, especially when you are operating in a market which continues to lack global regulatory consensus. You will want to study the platform you choose with care, understand the risks, and make an informed decision. As with anything related to crypto, you need to be wary and never stake more than you could afford to lose – and nothing written in this column constitutes advice or recommendation of any kind, about lending or investing.

Other cryptolending solutions are emerging at the institutional level, for example the Genesis group launched a new subsidiary, Genesis Global Capital, earlier this year. They allow investors and businesses to borrow a range of cryptocurrencies, in quantities of $100k or greater. Their press release stated: "We believe now is a great time to offer an institutional-focused lending service because it will increase general liquidity in the marketplace, encourage new financial institutions to participate in a two-sided market and increase the working capital that companies use to scale their digital currency-centric businesses."

So as the cryptocurrency space matures we should not be surprised to see an increasing range of secondary industries emerging, offering more sophisticated ways to do interesting things with this new asset class. The launch of the Local Coin Swap decentralized trading exchange is part of a growing ecosystem of products and services for the new economy, and these are exciting times to be part of it.