How is the lending rate of crypto assets determined? What happens when an “interest rate” is born?
Our FXcoin will start lending service from April 30th. “Lending” means “lending” and refers to a transaction in which a cryptocurrency is received by “lending” rather than “depositing” it at an exchange (hereinafter referred to as “interest”).
If you purchase crypto assets at the exchange and “deposit” them, you will be protected by separating them from the assets of the exchange, but you will not earn interest. On the other hand, in the case of “lending”, it is not subject to segregation management, but the difference is that the lender can receive interest by operating the exchange in various ways.
Normally, cancellations during the lending period are not allowed, so investors who hold trading will lose trading opportunities, but for investors who are apt, not only capital gains due to price increases but also income You can also aim for gain.
The concept of interest rates spreads
This lending service has been provided by overseas exchanges such as Poloniex and FinTech companies for a long time, but one of the reasons why it came to attract attention was that BlockFi yielded a high yield of 8.6% to USDC etc. in January 2020. Would have provided. Since that time, the number of exchanges that have started the service has increased in Japan.
The 2020 DeFi boom may also have spread the use of crypto assets to generate profits. In the past, it was thought that crypto assets would not produce anything even if they had them like gold, but to put it exaggeratedly, they are called “interest rates” that have not been widely noticed in the crypto asset market. It may be said that the concept spread in 2020.
How to determine legal tender interest rates
So how is the “interest rate” in the crypto asset market determined? To find out, I’d like to take a little detour and talk about how fiat interest rates are set.
There are two (or more) ways of determining legal tender interest rates. One is the way of thinking from the supply side. Fiat currencies are usually issued by central banks.
One of the central bank’s major roles is to maintain the value of this currency, manipulating the money supply and short-term interest rates to achieve the targeted inflation rate. This short-term interest rate is called the policy interest rate and is the source of the interest rate of the country.
After that, various risk premiums such as period and credit are added to it, and interest rates for various transactions are determined.
How to determine interest rates in the lending market
There is another way of thinking from the demand side. The interest paid by a company when borrowing funds is called the cost of capital or debt, and companies raise funds because they think they can get a return that exceeds that cost.
If you think that you will exceed your own earning power, you will forgo borrowing, so the interest rate level will also depend on the earning power of the company. In the crypto asset market, there is no central bank or policy interest rate like the former, so the structure is easily influenced by the earning power of the latter borrower.
In the case of crypto assets, the reality is that the borrower of the funds decides the lending interest rate from the possible investment yield while keeping an eye on the regulations of each country.
The disappearance of Grayscale Premium
With the spread of interest rates in the crypto asset market, one of the things that will happen next is to correct the distortion of the financial market. A typical example is Grayscale Premium.
The shares of the company’s bitcoin investment fund “Grayscale BitcoinTrust” for institutional investors are traded in the OTC market, but the price is higher than the bitcoin price per share actually held by the fund. Was being done. This is called Grayscale Premium, and there was a view that it was a sign of the demand of institutional investors who had difficulty holding Bitcoin directly.
On the other hand, if you participate in the new offering of this fund in consideration of Bitcoin procured by lending, sell the fund stock in the OTC market after the deferment period ends, and buy back Bitcoin in the physical market, the price difference will be at hand. Will remain. This premium has turned negative, partly due to the increase in alternative investment methods for crypto assets other than Bitcoin other than Grayscale.
Difference between foreign exchange market and commodity market
Also, if the concept of interest rates becomes widespread, prices will be optimized in the futures market as well.
In the foreign exchange market, especially in highly efficient markets such as the dollar yen, futures prices are determined by interest rate differentials between currencies. This is because arbitrage will be carried out if this is distorted.
On the other hand, it is not so easy in the commodity markets such as gold and crude oil. For example, if the futures price is higher than the spot price, you can buy the spot, sell the futures, and deliver the spot on the futures settlement date to receive the difference.
However, in order to receive the actual crude oil and deliver it on the settlement date of the futures, it is necessary to borrow a tanker etc. to receive and store the crude oil, which requires transportation and storage costs. Since the delivery place of WTI, which is a typical index of crude oil, is inland, this method could not be taken and the price became negative.
In the commodity market, arbitrage will not occur unless there is a price distortion that exceeds the transportation and storage costs, and as a result, the futures price will be determined by the prejudice and prejudice of the participants.
Bitcoin is between exchange and commodities
But what about Bitcoin futures prices? In the case of Bitcoin, the transportation cost is as close to zero as the reward paid to the miner.
But what about storage costs? Institutional investors will often use custody, but in that case there will be some storage costs.
With that in mind, Bitcoin futures prices are likely to be positioned between the foreign exchange market, which is largely determined by interest rate differentials, and the commodity market, where interest rate arbitrage is difficult to work due to transportation and storage costs (by the way, Bitcoin’s futures prices). Although futures contracts are limited to those that can be delivered in kind, CME futures refer to the spot price for final settlement).
In addition, the current futures price is contango (premium in exchange), which reflects the market’s outlook and the price becomes higher as it goes, but the legal tender is zero interest rate and Bitcoin lending. If interest accrues, it is natural to have a backwardation (same discount) where the price goes down as you go ahead in theory. I think the fact that CME’s futures premiums are smaller than those of other exchanges indicates that such rulings are working.
To establish SWAP market
Finally, when interest rates are born on crypto assets, futures prices will be optimized as described above, which will lead to the establishment of the SWAP market that we are promoting. The SWAP market is indispensable for the spread of actual demand transactions using crypto assets with volatile prices, as hedging means such as futures contracts in exchange terms are required.
The expansion of the interest rate market through lending will be a milestone. FXcoin, which was established mainly by people from financial institutions, will continue to provide what is lacking in the crypto asset market from this financial perspective.
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“Cryptocurrency” means “cryptographic assets”