Crypto lending

In the centralized model a firm takes deposits of crypto-assets, pays interest on them and lends them on to borrowers such as trading firms, often against crypto collateral. The depositor gives up control of the assets and becomes an unsecured creditor of the firm. In the decentralized model a smart contract pools the deposits, every loan is overcollateralized, and a liquidation runs automatically when the collateral loses value. The DeFi lending page and the pages on Aave and Morpho cover the second model; bitcoin collateral loans covers cash loans against bitcoin.

Institutional demand comes from market makers, hedge funds and prime brokers that need to borrow an asset for a short position or a settlement, and from holders who want a yield on idle stablecoins. Banks look at the reverse direction too: loans in euros secured by a client's crypto holdings, which in Germany is credit business under the Banking Act.

The joint report of the EBA and ESMA on recent developments in crypto-assets describes the failure of Celsius as a case study. Celsius took short-term deposits, promised high yields and placed the assets in riskier, longer-term positions. When users withdrew after the Terra/Luna collapse, it froze withdrawals in June 2022 and later reported liabilities of about 5.5 billion dollars against assets of about 4.3 billion. Voyager Digital failed the same year after a 650 million dollar loan to the hedge fund Three Arrows Capital went bad.

The report also points to rehypothecation: borrowers lend out the collateral they received, which builds collateral chains and high leverage among institutional crypto borrowers. For a bank or asset manager this is the first due diligence question about a lender or prime broker: may the firm reuse the assets, and where are they held? The digital asset risk management page covers counterparty limits.

Recital 94 of MiCA states that the regulation does not address the lending and borrowing of crypto-assets, including e-money tokens, and leaves national law untouched, as the EBA and ESMA report explains. A firm that takes custody of the assets still needs a MiCA license for custody, and a firm that lends money in Germany needs a BaFin license for credit business. The European Commission must assess under Article 142 of MiCA whether lending needs its own rules; the EBA and ESMA found limited engagement by EU consumers and institutions so far and named leverage, weak disclosure of fees and collateral, and money laundering exposure among the risks.

Secured lending against digital assets is a subject at the Crypto Assets Conference in Frankfurt, which Finance Loop has partnered with, and in Finance Loop's education program, where the masterclass Bitcoin for Investors covers access routes and custody models. Finance Loop brings lenders, custodians and their compliance teams together at events in Frankfurt, Munich, Berlin and Hamburg.

Crypto lending is the lending of crypto-assets or stablecoins to a borrower against interest, or of money against crypto collateral. It runs through lending firms that hold the assets or through DeFi protocols that pool them in smart contracts.

An institution lends stablecoins or crypto-assets to a counterparty such as a market maker, usually through a prime broker or lending desk, against collateral and a fee. The terms that matter are the collateral ratio, the right to reuse the assets and where the collateral is held.

No. Recital 94 of MiCA excludes lending and borrowing of crypto-assets and leaves it to national law. Custody, exchange and credit business around a loan can still need a license, in Germany from BaFin.

Celsius took deposits of crypto-assets, promised high yields and invested them in riskier, longer-term positions. It froze withdrawals in June 2022 and filed for bankruptcy in the US with a shortfall of about 1.2 billion dollars, according to the EBA and ESMA.