Opinion: Digital Currency Group’s Genesis implosion: What comes next?

On January 19, Genesis, a subsidiary of Barry Silbert’s Digital Currency Group, filed for Chapter 11 bankruptcy. Its default could have serious consequences for the crypto industry.

The bear cycle appears to be claiming yet another high-profile cryptocurrency startup. Genesis, a lending subsidiary of Digital Currency Group (DCG), filed for Chapter 11 bankruptcy on January 19. Here we have yet another industry behemoth with a history of incestuous lending, scant risk management, and opaque reporting policies.

For market investors, the building storm clouds at DCG signal an inconceivable disaster in 2021. DCG, founded in 2015 by CEO Barry Silbert, has quickly become a crypto stalwart. Genesis’ filing revealed the full list of creditors affected by its demise, which included Gemini, the cryptocurrency exchange founded by Cameron and Tyler Winklevoss, to whom Genesis owed $765 million; metaverse project Decentraland ($55 million); and fund manager VanEck ($53 million).

The corporation identified over 100,000 creditors in total and stated that it owes $3.4 billion to its 50 largest creditors.

Some of the debts raise fresh problems, such as why Genesis received a loan from Decentraland when a separate DCG business, Grayscale, owns 18 million of the project’s tokens. (As of January 20, the holding was worth $11.74 million, down from $105.8 million at its peak in November 2021.)

Genesis was first shaken by the failure of Three Arrows Capital (3AC), which lost slightly more than $500 million in Genesis loans. The drop in FTX was too much for the lender, causing it to halt withdrawals. Genesis also signalled major difficulty last month by laying off 30% of its workforce.

As the bear market continues, more fundamental infrastructure, such as loan platforms, over-the-counter rails, and exchanges, are failing. Failing systems and the relationships between corporations that operate those systems constitute market structural breakdowns that must be addressed. Nonetheless, these are mechanical systems that may be rebuilt and refactored. Trust is a different story. Trust is an elusive yet important element that must exist for every sector to prosper. It is difficult to gain and easily lost. And it is trust in these markets that is under threat.

The market was surprised by the fast demises of 3AC, Voyager, BlockFi, FTX, and Celsius. When the linkages between these groups were revealed, shock evolved to apoplectic wrath. It became clear that, while these firms pretended to be in finance, few, if any, genuinely acted as such, and certainly not as the industry leaders that many held them up to be, particularly when it came to risk management.

Companies borrowed with very little to no collateral from one counterparty to pay another, with some even using their own “currency” as collateral. Furthermore, the creditors accepted the collateral. The market frenzy in 2020 and 2021 laid the groundwork for unsavoury behaviour and unscrupulous business practises to spread on a large scale. Trust in these companies has been significantly weakened as the actual extent of the malfeasance and poor decisions has become clear.

Asset values may rise and fall, but most people believe that the basic fundamentals of market structure and operations will remain unchanged. This has been the primary issue in this bear market. Manipulation, collusion, and inside deals, it turns out, were the norm. And the activity was not limited to young enterprises; it appears that most industry players participated in some capacity. DCG is an example of this. Bad loans, poor risk management, and opaque financial reporting are all catching up with them.

Cryptocurrency prices will eventually recover, and new businesses will enter the market. Let’s hope the industry’s collective memory expands a little. Deep due diligence and default scepticism are required. The burden should be on businesses to win trust by their behaviour. This is straightforward, but it is clear that we have forgotten.

We are now faced with an unfavourable reality. Trust will need to be reestablished not only in the companies operating in the field, but also in the ecosystem that supports the companies.