Celsius’ Fall Is a Turning Point for DeFi
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I’ll never forget the day Lehman Brothers went bankrupt.
It was September 15, 2008. CNBC was filming outside Lehman’s headquarters.
I watched as hundreds of employees left their offices with boxes and briefcases.
Just a few days prior, Lehman was one of the biggest banks on Wall Street. It had a storied history and $600 billion in assets.
And in an instant, the 160-year-old bank was gone.
The bank’s collapse sparked a contagion on Wall Street.
Other banks on the Street were forced to write off billions in losses.
Many critics put the blame on credit derivatives. They were a new financial innovation that helped mitigate credit risk.
But it wasn’t their fault — banks still use them today.
Lehman had just made terrible bets.
It overleveraged into credit derivatives backed by subprime mortgages.
When the housing market cooled, those bets turned sour.
And when investors got a whiff of Lehman’s potential losses, they lost confidence and refused to extend more credit.
There’s a similar situation playing out in the crypto markets right now.
A few crypto lenders, like Celsius, overleveraged themselves into decentralized finance (DeFi).
They might be on the verge of insolvency.
But this is a natural part of the creative destruction of capitalism.
And it will make DeFi stronger as a result.
DeFi Cuts Out the Role of the Bank
DeFi is poised to turn the banking world upside down.
Powered by smart contracts, DeFi allows anyone to borrow and lend digital assets without the need for a middleman.
It also allows for the trading of digital assets without the need for a centralized exchange or market maker.
This cuts out the role of the bank from traditional financial services.
This underlying technology has spurred a new industry.
Crypto lenders like Celsius, Nexo and BlockFi offer an easy way for anyone to deposit their tokens and earn yields.
The lenders take customer’s cryptos and lend them across the DeFi ecosystem, looking for the best yields.
Except they don’t always make sound decisions with customers’ money…
Celsius’ Bad Bet Triggered a Digital Bank Run
Lehman overleveraged into credit derivatives and subprime mortgages.
In a similar way, it appears that crypto lender Celsius took user deposits, borrowed against these assets and then reinvested these borrowed assets to achieve higher yields.
The practice worked fine as crypto prices went up.
However, as the market fell in the spring, the value of the lender’s outstanding debt was more than it was able to pay back.
Celsius also lost millions, perhaps billions, on a bad bet on LUNA.
If that wasn’t bad enough, management wasn’t transparent about those losses.
Like with Lehman, as soon as customers heard Celsius might be having financial issues, they rushed to pull their digital assets.
This triggered a digital bank run, as Celsius was forced to liquidate assets to pay back customers.
The company halted withdrawals over a week ago.
It also led to a sharp fall in the crypto markets as overleveraged lenders were forced to sell assets to meet margin calls.
And just this morning, the CEO of crypto lender BlockFi announced a $250 million line of credit from crypto exchange FTX.
This is a sign that there’s a price where smaller, leveraged lenders will find buyers.
It’s just like how larger banks such as JPMorgan Chase and Citibank bought up smaller banks during the financial crisis.
In hindsight, the Lehman crash was an amazing buying opportunity for banks.
I expect this time will be no different for crypto.
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Right now, the crypto market is down nearly 70% from its all-time high in November.
But even with the recent crash, I believe the crypto sector is set for its biggest bull run ever.
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In fact, thanks to this catalyst, I expect cryptos to become a $200 trillion asset class.
And keep in mind that today, the entire crypto market is worth less than $1 trillion.
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My career on Wall Street started while I was in college. I spent a summer interning for Merrill Lynch in the middle of the ‘90s bull market. I was fascinated with trading, and as a result, after college, I joined Salomon Brothers in the famed mortgage bond trading department. Later, I spent time at Citigroup working with credit derivatives. Eventually, I needed to walk away from the excess of Wall Street. That’s when I joined Banyan Hill in 2017. Now I help readers get ahead of the market and build their retirements.