First you need to understand what these banks are offering interest on. Other than Nexo, which pays up to 12% interest on pounds, US dollars, and euros, most crypto banks only allow customers to save in cryptocurrencies like bitcoin and ethereum, or stable coins like Tether or USDC which trade one to one with the US dollar.
Their highest rates are paid on stable coins: for example, Nexo pays up to 12% on USDC and Tether but 8% on bitcoin, while BlockFi pays 8.6% on USDC, 9.3% on Tether and 5% on bitcoin. In other words, you can change $ 1,000 (£ 720) to $ 1,000, leave it in a BlockFi account for a year, and then theoretically withdraw $ 1,086.
Since most crypto banks only deal in cryptocurrencies or stablecoins, you need to transfer your money in this form first. This can be done through a crypto exchange such as Coinbase or Binance, or in a more limited way via a crypto bank: for example, you can transfer US dollars to BlockFi and they automatically convert them to another stablecoin called Gemini USD (also paying 8.6% APR).
Businessman holding Tether logo
Most crypto banks offer the option of exchanging your money within their platform, for example from Gemini USD to Bitcoin. But despite boasting of zero fees for this facility, the rates aren’t necessarily the best. BlockFi Note that its cost of buying crypto may be 1% higher than the market price.
If you save in cryptocurrencies, interest rates also drop significantly the longer you hold. On BlockFi, for example, the 5% bitcoin rate is only valid for deposits up to 0.5 bitcoin. For higher amounts, it drops to 2%, and finally to 0.5%.
Some crypto banks also offer their best rates for interest payments in their own cryptocurrency. For example, Nexo’s 12% APR for Tether and USDC is only for those paid in Nexo tokens. Nexo tokens are not stablecoins and their value goes up and down. For interest payments in Tether or USDC, the rate is 10%.
The story continues
Finally, no interest rate of crypto-banks is guaranteed for any duration. So while quoting an annual rate, it may fluctuate from day to day.
However, the prices are very high. So how are these banks doing?
The basic model of a crypto bank is to borrow capital at the interest rate it pays depositors and then lend it at a higher rate. Crypto banks seek to protect their position in two key ways. First, by lending less than they have in deposits. Second, they require borrowers to post collateral for their loan. This involves a loan to value ratio (LTV) calculation to determine the amount of collateral needed to secure a loan. For example, BlockFi reserves the right to liquidate the guarantee as soon as it reaches 80% LTV.
To borrow US $ 5,000 from BlockFi, you currently need to set up 0.25 BTC, which is currently valued at US $ 9,448. If that bitcoin value fell to $ 6,250, the bank would sell part of your collateral to bring the LTV back to a healthy level.
In good times, it’s a business model that can generate significant income. There is no doubt that the big banks could also offer higher savings rates, but instead they use some of that savings to be more competitive on their borrowing rates.
But when it comes to crypto banks, it’s unclear what would happen if there was a sudden and prolonged crash in the crypto market such that the deposits from these banks were worth significantly less than what they loaned out. , or if the loans dried up.
If any of the above scenarios were to occur, then unlike your savings account at a big bank, your crypto savings are not insured. BlockFi, for example, is based in the United States and is not insured by the Federal Deposit Insurance Corporation (FDIC) or the Securities Investor Protection Corporation (SIPC), which means that collecting funds is much more difficult if the bank becomes insolvent.
They will also not be liable for any resulting loss or damage. This is particularly troublesome because it leaves a large latitude to a crypto bank not to return your funds on demand, keeping them where market conditions require (it must be said that BlockFi depositors’ funds are kept in a safe deposit box). cold storage by the large Gemini stock exchange and should at least be relatively safe from piracy). Other operators such as Celsius and Nexo do not have such terms, but it just leaves their stance on such positions unclear.
BlockFi montage image
There has also been some controversy surrounding certain stablecoins. For example, there was questions about the extent to which Tether operators have US dollar reserves to ensure that the one-to-one rate is maintained. This makes it worrying that customers are being tricked into holding such coins to access the highest interest rates. Besides the doomsday scenarios, there are also limits around withdrawals in terms of volume and regularity, with fees paid for transactions beyond these limits.
As with the larger crypto market, it appears that the willingness to engage in this arena hinges on an individual’s risk appetite. If you are willing to hand your crypto over to a bank for a profit, then you risk losing it for good. If you are willing to accept this risk and are willing to hold your funds and not treat them like a checking account, a crypto-bank savings account could be for you.
This article is republished from The conversation under a Creative Commons license. Read it original article.
Matthew Shillito does not work, consult, own stock or receive funding from any company or organization that would benefit from this article, and has not disclosed any relevant affiliation beyond his academic appointment.
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