Crypto Backed Loans with BlockFi | Zac Prince

welcome to the show. Zac Hey, Mark, thanks for having me. Yeah. So, you know, we had some conversations before and uh, and you're kind of tell me a little bit how you got here with crypto and into this company, and there's really some intersections with what I talked about a lot, So give us a little bit of background on who you are and how you got here. Yeah. Sure, So, you know, first off, thanks for having made uh. I was telling you right before we hit record that I'm

a big fan of the content that you're putting out there. Um. My background is that I've always worked in venture backed technology companies and and most recently, prior to starting Block five, I was in the online lending sector. Um at one company that aggregated data for institutional investors across all of these different online lending platforms, and a lot of these platforms offered an option for retail participation on the platform UH so UH you could invest in consumer loans or

commercial real estate loans, or invoice receivables UM. And I was also tracking other parts of fintech, like grobo advisors and things of that nature, and all my friends were asking me about it, you know, all the time, basically, and so I started a little blog on the side,

and that's what led me to cryptocurrency UM. I bought my first bitcoin at the end of UH found ethereum um early and then on the velocity of money topic, I was actually in early seen UM planning on buying a property in Texas that that was going to be

a rental property. And obviously, at that point in time, cryptocurrency prices had gone up a fair amount, and I was feeling really proud of myself for having made that investment, and I was curious what the bank would think about those assets and whether they would um prescribe any value to them in terms of their underwriting decision, and so I included bitcoin and ether as line items on my financial statement that I submitted to a bank that I

was applying for a loan for to virus property. UM. You know, not only did they say we think of these as a big fat zero in terms of how much they're worth, but they also said, uh, well, we're gonna have to put you through some extra compliance checks now we think you might be involved in some illicit activity UM, that type of stuff, because there was a lot less awareness about these types of assets back then

than there is now. UM. And that was when I had a lightbulb moment for block Fire, and basically the idea was that cryptocurrency was going to continue to be

a growing asset class. I started believing tremendously in some of the you know, value propositions that these assets have, in terms of privacy, in terms of global access to uh, you know, venture capital like returns, or just you know, novel assets that could appreciate a lot of value, and eventually decided to start a company around that idea in the summer of seventeen and that's and that's block fie UM.

We first started as as a platform where you could borrow money supported by the value that you had in cryptocurrency because so kind of checking that box that traditional banks don't check. And we've expanded, you know, both the products and services that we offer since then and also our vision for what we think the company can become over time. Now, you came from, like you said, fintech financial technology UM, and you were working in the peer

to peer lending space UM. And did you transition straight for them that into Block five? Yes, So I worked at I worked at two different companies in that space, one Orchard, where we were a data aggregator and and technology provider to institutional investors that were buying loans or lending directly to all of the major platforms Lending Club, so FI, prosper Funding Circle, et cetera. I think we had around two hundred different online lenders in our database

and on our system. And then our institutional clients were banks, large credit funds, large family offices, all different types of institutional capital that we're we're buying loans from those places. And I also spent about two years at a at a consumer lender called ziby that UH finances large ticket retail purchases at the point of sale for UM individuals who have low FICO scores or no FICO score because they're they're not a US citizen, that type of thing,

and then started block five. Do you think this disrupts the peer to peer lending space? I think that, um, there are you know, learnings from peer to peer lending that can be applied to building businesses. Um in the cryptocurrency lending space. Uh, but I think it's pretty different. So a lot of the things that you know happened in in the peer to peer lending world, we're based on credit scores or financing different assets like real estate

or invoices or equipment. Um. So I actually think that structurally it's more comparable to like like brokerage lending, so you know, margin lending or liquidity access lines from the you know, public equities worlds than it is analogous to peer to peer lending structurally, I'm not. I mean, I'm not super familiar with peer to peer lending markets as I haven't been an active user. Um, I'm aware of it,

I've done research on it. I know how big it is, and even in other countries like in China, got really big and got kind ahead of itself. But when you have companies that are kind of essentially controlling that. Are you really doing peer to peer like a person to person and someone's in the middle managing that or is it really kind of not so it's more like portfolio lending or something. I think it depends a little bit

on the implementation from the platform. So for example, like on lending Club, which is the largest peer to peer lending platform in the US UM currently, only about ten percent of the loans that Lending Club makes are financed peer to peer, meaning there's a retail individual on the other end who's providing the capital that goes towards making that loan, and it's completely centralized in the sense that

lending Club is always making the loan. From a regulatory perspective, lending Club is controlling the decision about who gets approved

for a loan and at what price UM. And then there's other types of you know, peer to peer lending implementations um at our different variations on that on that same on that same theme, Yeah, I was just curious how this model kind of fits because obviously, with black y I could loan or borrow, but it's not peer to peer, right, So I'm kind of going in with the company and then the company is kind of acting. So I guess it's similar to what the P twop

industry is doing. But the good piece of it, which is, you know, I constantly state, you know how, the importance of being an investor because we need those returns. And with P two P or what you guys are doing, you're really giving people the option to to loan to make money right above above average interest. Yeah, that's exactly right.

I mean, the exciting thing about peer to peer lending and about UM you know, one of block five's products that that enables you to earn interest on your crypto holdings is that it's a channel to make more money that didn't necessarily exist before. UM. The things that people got excited about from the peer to peer lending sector

were the opportunities for portfolio diversification and income generation. Uh, and the bill to access those um even with you know, a one thousand or five thousand or ten thousand dollar investment, and that simply just didn't exist before that industry came around. Yeah. Now block fight kind of has two different products in a sense, right where either one I could borrow money against my crypto holdings or two I could just park them and received like above average above market interest or

something like that. That right, that's that's exactly right. UM. So, if you have bitcoin or ether, you can open up a block fight account and earn interest the same way that you earn interest in a savings account from a bank, um, except without like f d i C insurance and some of those like banking protections that exist from the federal government. Um. But you earn interest in the asset that you've deposited.

The interest is paid every month, and once the interest is paid to you, it becomes part of your balance and therefore your earning compound interest on the balances that you hold with Block five. At the same time, you have the ability to borrow US dollars against the value of that cryptocurrency that you have with Block five at rates as low as four point five percent per year UM. And when we do that, those loans are structured as

interest only loans. UH. So, if you, you know, borrow ten thousand dollars at at four point five percent a year, your monthly payment would be you know, four and fifty dollars divided by twelve uh and then you can pay back the principle either at the end of that term

or at a later date. And the reason I mentioned that structure is because for certain types of investing, specifically cash flow type investing in some of the velocity of money barbage rousers that you talk about in one of your other videos, where you're borrowing it for and investing in something that earns ten that interest only repayment structure can be really valuable in terms of getting incremental leverage

from the cash flow that you're producing. Yeah, So for those of you on the podcast that maybe haven't watched the videos, we're talking about the concept of velocity of money where one dollar can do multiple jobs. So I can put into one account UM and pull it back out while it's still parked their earning interest, and then put it to another job. So for example, I could take my crypto. I could take my bitcoin UM that has gone up a hundred and fifty percent this year UM,

and I could borrow against it. I'm paying four percent annually or four and a half percent annually, but hopefully making a percent annually, and then I can redeploy that money into now another asset, So for example, a piece of real estate like like Zach you mentioned in Texas, I could put into a piece of real estate. Now that hopefully I'm making seven on that. So now that one dollars do a multiple jobs. So catching you guys up on the velocity of money. Now, I love that concept.

I always say Warren Buffett said, right, if if we don't learn how to make money when we sleep, will work till the day that we die. So it's all about putting that money to work. And totally is makes perfect sense because of the app because crypto is all about invested into a technology that needs to be developed. It's gonna take years, so we want to hodel. But being able to unlock that value UM is important. So you have those two different products, who are the people

that would want either one of those products? And who do you typically see coming in? Is that like institutions? Is that retail people? Like what do you see? Yeah? Great question. So we think of our core client as being retail UM. So it's it's primarily individuals. We do have some small corporates that are that are also clients. So for example, a company that did an I c O and hold some crypto on their balance sheet or

mining operations UM. But we also have his clients. But the platform is really built for retail, and we think of retail as being our our core customer. There are things that we do in the institutional market to facilitate the products that we're delivering to our core retail client. It so, for example, when we're lending dollars at four point UM, that capital is coming from an institutional lending

facility that that that Block five has UM. When we're paying interest on bitcoin or ether deposits, the interest is generated by Block five lending bitcoin or Ether two institutional borrowers. But we think of those functions as being things that enable the delivery of the products to our to our core retail customer. And we have customers primarily in the US today. It's about our client base. Is uh is here in the United States? Outside the US? Now? Um?

Is that is it because that you're more retail focused? I think on your terms, do you pay like less interest on larger balances? Right? So like smaller accounts get more and larger accounts get less? Is that right? That's that's correct. It doesn't seem it seems like I should be getting more for larger balances. Yeah, and in traditional markets, um,

you absolutely do. Um. The differences about the cryptocurrency market right now that that drive that are that, Uh, the market to borrow cryptocurrency is nasan and undeveloped, and there's not a risk free rate of return that exists on

bitcoin the same way that there is on a fiat currency. UM. So when we initially launched the product that enables you to earn interest publicly in March um we saw an influx of deposits and in general right now, if you just looked at the entire market of cryptocurrency and said, okay, how many people are interested in earning interest and how many are interested in borrowing, you would have an imbalance there where there's a lot more interest in earning the

interest than there is interest in borrowing in that asset, at least today, because the market is still nascent. So the reason we implemented that structure is that we wanted to be able to offer an attractive interest rate to as many unique customers as as possible and put a little bit of a gating factor on how attractive this was to institutions or two particularly large holders of cryptocurrency.

But the limits right now are are still pretty high from a retail perspective, So from for example, on Bitcoin, you earn a six percent interest rate on a deposit of up to twenty five bitcoin, which at current prices is right around uh just under a quarter million U S dollars equivalent, and on Ether it's a hundred ether, which is um around. So you kind of want to your more retail focus because you're a little bit more diversified.

I see you have like, uh, no limits on when I can deposited withdraw, so I could imagine a huge withdraw could really affect you. So maybe by being more retail, keeping that mouth down, you're more diversified against that. That's that's a great that's a great point, and it's another factor of consideration from a risk management perspective. UM we benefit from diverse k and both in terms of our

depositor base and in terms of our borrowing base. UM the other factors that we plan on launching additional products in the future. So from a UM you know, corporate business development perspective, at Block five, we benefit from having more users on the platform because when we launch things in the future, like you know, the ability to earn interest on your bitcoin in dollars or a crypto rewards credit card. Having more people on our platform that could

also potentially use those subsequent products, is really valuable to us. Yeah, makes sense, makes sense. I want to get into that a little bit more later, but I want to ask one other question, so again, back onto, back onto the velocity of money, having one dollar to multiple jobs. I talked about like a whole life insurance vehicle where I could make eight percent borrow against the four or a house where I could borrow back out at four but

I'm making ten. So there's that arbitrage spread. Now, I notice you you pay the difference of what I can borrow against or what I can earn. There's about a two percent to whatever percent spread. Um, Is there an arbitrage play or no, I have to choose one or the other. There's there's not as clear cut of an arbitrage play as in the examples that you describe. And the primary reason is that, UM, it's two different currencies.

So we've got bitcoin in dollars in the in the block fire example versus just dollars in the example of you know a house where you're making other investments. UM. And the other reason is that when you're borrowing dollars from blocked by the collateral that you're using to secure

those dollars that you're borrowing is not still earning interest. UM. But you know there are you know, arbitrage opportunities that are that are created on the fact that you know, we're paying interest on crypto and on the fact that you can get access to USD from a velocity of money perspective. Got it? Okay, good, Now we'll get into some tough questions, right, the stuff that the stuff that people should hopeful to be asking and and uh, like you said, you saw some of my videos and and uh,

I wanted to kind of talk about UM. I talked about the lending aspect, and I said, hey, you know, obviously there's risk. Everything in life has risk, Right, If I do something, there's risk. If I don't do something, there's risk. UM And so what are UM I guess some of the risk that people would have obviously would be giving their money up. Now, as you mentioned giving it to a bank, there's fd I C insurance because

they're holding my deposits. Now there are risks, the risk are very low, which is why the interest rate is super low. Obviously, now I'm going to get a higher interest rate return. But I would imagine there's higher risk. UM. Can you talk about some of those that maybe people should be aware of and what you do to kind of d risk that. Yeah, absolutely so UM. At a high level, you can bucket the risk into in the three separate categories. So there's UH, fraud risk, security risk,

and credit risk. UM. The fraud risk is UH. You know, anyone who's followed crypto for a while, it might be familiar with like the big cone. UH. You know that for for better or worse, there have been some, UM, some shady characters in the cryptocurrency industry. There's been some scams, and there have been, you know, quite a few of those scams that had to do with this concept of like earn one percent interest per day, that type of thing. It sounds right, if it sounds good to be true,

it absolutely is. We're definitely you know, I can I can guarantee that there's a zero percent risk that UM, that that we are in that bucket UH. And you know the way that you can verify that is by simply looking at the types of investors and backers that we have for the company. UM. Groups like Fidelity and Galaxy Digital and and other noteworthy kind of venture institutional type investors who you know obviously put us through a

ton of diligence before before they make any of those investments. UM. Second risk security risk. UM we mitigate the security risk largely via a partnership with Jim and I. UM. So the other thing you have to be cognizant of in the cryptocurrency industry is is uh not having the private keys you know, hacked or or stolen from yourself or uh the entity that you're storing them with. UM Gemini is our is our custodial partner. They have insurance on all of the assets that are held on their platform.

They were the first custodian to get a sack to audit, which is like a bank level security UM audit, and they have a perfect track record with with zero losses in terms of custody billions of dollars of crypto for many years now. UM. The last risk is probably the one that that we could do a whole separate you know, thirty minute or an hour long show on if we wanted to really get into the weeds of it. But it's that credit risk part, just the big money and there,

and there's two components to the credit risk. So there's UM the counterparty risk that you're taking to Block five. So you know, is Block five well capitalized enough to continue operating its business? Does Block five have the proper say guards and separations of capital between our funds and our and our customers funds UM. That's one part of the risk UH. And and the other part of the credit risk is the pool of borrowers that we're lending

the crypto to UM. Who are they, how well capitalized are they, how much collateral are they posting to Block five UM? And So just to touch on a couple of quick details on both of those points, and then we can we can go deeper in it or switch

to another topic whatever you prefer. UM. In terms of the Block five side, so we have a number of operational and financial UH rails in place at the company UM that would raise flags or prevent any one person from taking actions that would blur the line between our customers funds UH and our own corporate you know, equity

capital UM. And then in terms of who the pool of a wards that we're lending to our UH, we have a team UM that's that's headed up by a former managing director of prime brokeridge at Bank of America Merrill Lynch, who uh lent for you know, fifteen plus years there and and never lost a penny, including throughout two thousand and eight and two thousand nine. UM. And we on board every barrow. We're through both a counterparty

credit risk framework and then a required collateralization level. UM. So for example, uh, if a borrower of cryptocurrency doesn't have a minimum net worth of as a general rule, fifty million UM, then we would always require over collateralization, meaning we would lend them a million dollars a bitcoin, but they give us one point to five million dollars

in USD or stable coin. And then in that scenario where we're overcollateralized with dollars, we're using the same risk management system that's been operational for the us D ending side of our of our product stack since January, and we've uh, you know an either product never had a late payment or a loss or any legal issues. So our performance has has been perfect today. UM, I'll positive,

but I'm having to drill in deeper. So UM it sounds like the big risk on that would be if the market were to crash so fast that you couldn't cover the collateral. That could be a problem. Now you mentioned earlier that you really want to focus on the main coins that have a lot of liquidity. We did see recently with Polonias they had a problem right where one of their coins had no liquidity and they lost a lot of money, and then they basically socialized those

losses and made everyone take like a sixteen percent haircut. Um, But you don't really have that because you're working on more highly collateral or highly high liquidity coins. But I guess that would be one risk, right, Um, that's absolutely one risk. We actually UH evaluated UH lending on on polonia x as as a potential channel for us UH and couldn't get comfortable with some of the assets that they had on there. So fortunately we we got that

one right um. And from a capital stack perspective, right now, our our equity and any employee contributions into the interest account our junior to our customers funds um. So so as it stands today, UH, we would you know, we would kind of close the doors at block five before we socialized any losses into our our pool of customer funds that are that are in the interest account. So For example, you had done the poloniax deal, you had

taken a six hair cut. You're saying Block five would be ready to take that loss as opposed to trying to push it into everybody else. Correct, we would have eaten it. And uh to give you another data point which would be helpful. So like, even if we were lending on poloni x, um that exposure would be maximum five percent of our total lending activity. Uh So the haircut relative to Block five's pool of capital that it's lending an aggregate would be uh, you know five percent times.

I can't do that math in my head. Um. And then and then yes, we would, we would. We would take that loss out of out of our equity capital rather than socialize it. Got it. Now, I'm guessing the funds are co mingled, so there's really no separation there is that correct? Correct, everything's co mingled once it hits Jim and I. The way the system works is that we create a unique deposit address that maps one to

one with each one of our customers. We monitor the blockchain to record activity into anyone customer's account, but when crypto is sent to a customer's unique address, it's instantly swept into a master custodial account with Jim and I and then into cold storage per their uh you know, treasury management function. Is there some sort of like uh you SEC filing or something that shows that I have something there in case creditors were to come in and

shut down or something like that. Who there's not. Um, there's not a U c C filing when you deposit into the interest account. No, okay, but you did say that that that all the lenders are senior to the other debts, so in event of some sort of liquidation, the senior would get the money first. I guess, right, correct. Okay, Well that's at least that's at least good. Um, but good stuff there. Now, those are the tough questions. I appreciate you for going into that. Like you said, we

could probably dig in deeper. But I think that's that's pretty good. Um. I'm curious about the future of block buying. So I've seen other platforms like next so for example, right returning profits back to token holders. Um Celsius has a token. You guys don't have a token. Um, let's maybe talk about the future. Is there some sort of profit share in the down the road or token or something like that. UM, highly unlikely that that will ever

have a token. UH if we if we did do something similar to that, it would be more like UM, you know, offering access to a subsequent equity UH funding round on a equity crowdfunding platform like a bank to the future like what kracking just did, or or some of the others like seed Invests, which is owned by Circle UM. So you know, no token, We think that that value should just be passed through to you know,

offering the best rates. UM. What you'll see from us in terms of platform development UH is continued improvement on the on the products that we already have in terms of features and functionality and visualizations UM, and then we plan on launching two additional products over the next year. UM. The first is the ability to kind of do asset conversion on our platform, so for example, UH selecting the asset that you want to earn your interest in regardless

of what asset you've deposited. So for example, you've deposited bitcoin, but you want to earn interest every month in dollars or UH the other way around. UM. And also just being able to UH manage a targeted portfolio allocation within our platform versus having to move assets off of our platform to uh, you know, exchange them for other assets

somewhere else. And then in the first half of next year, we expect to launch a bitcoin rewards credit card where you know, just swap airline miles or normal cash back on a credit card out for one cash back uh in in bitcoin, based on how much you're spending on the card. So that's kind of our you know, immediate roadmap that that we we're focused on. Very cool, very cool. Um. What do you think about regulations and how that puts

risk for the company? Block flight risk, not you know, credit or risk as you said that, So it's a fourth one that we didn't cover, but regulatory risk. So um for those that have been living under a rock the last twenty four hours, uh facebook coin announced their coming out and now several big governments are saying no, you're not right, um right or something like that. What do you think about that and what kind of risk

is that posed for you? Yes, so I think, um, I think we've taken a very different approach, for example, than than uh than others like Celsius and next so who you mentioned, um, you know, we came from the

fintech world. Started the company in the summer of seventeen in the middle of the I c oh boom and and one of the reasons, and they were multiple, but one of the reasons why we elected to not finance the company's operations by conducting a token sale was we felt that would put a level of um regulatory uncertainty and regulatory risk on on the company that wasn't necessarily

value add to our users. UM. So, you know, we The other thing that we did is we've had a k y C and a m L policy from day one. We have gotten licenses to uh operate the lending activities that we're doing in the states that we need them from day one, which you know, we've got some battle scars from that from back in like explaining explaining why making someone alone secured by the value in their bitcoin wasn't illegal to you know, the state regulators of California,

for example. UM. But we hold lending licenses, we update them, we're sharing information with with the necessary regulators. UM. So we sleep pretty pretty well at night, uh in terms of the regulatory risk frankly, UM, but I think for for the sector overall, uh, Yeah, for the sector overall. Um I feel like bitcoins in a great spot. I feel like ethereums in a great spot, at least in the US market. Maybe in other markets, especially market that have weaker currencies, they could be they could be a

bit more at risk. Um And. I think governments are really not gonna like libra coin um and. And the reason is that, like with with Bitcoin and the hereum, they're really they're really not, at least today, trying to go at the core of what a government currency is going after um or at least they're not successful enough at it yet for for a major government to think

that it's a risk to them. Uh. Whereas libra coin is basically designed the same way as like the special drawing rights of the i m F, where it's like, if something were to happen, the i m F would have the ability to take the basket of currencies that it's holding an issue a new currency. And that's basically what Facebook is trying to do. And Facebook is already on somewhat shaky ground because of the privacy and data stuff.

Um So I think that one's gonna get I think it's gonna have a lot of governmental challenges it's obviously not going to be decentralized from day one, which is another which is another problem that it faces. But I think that for bitcoin, UM, it's gonna be on a great path. I think good things are going to continue

to happen in the US and other major markets. I think there's gonna be this snowball effect that that has continued even throughout the bear market of UH institutional adoption UM, which ultimately, you know, at some point in the future will lead to UH government adoption in some way, shape or form. You'll have a central bank, a small one initially, but you'll have a central bank putting bitcoin on its balance sheet, and then that's going to create this massive snowball.

So you know, I'm really bullish on on bitcoin. Yeah, yeah, I agree. UM, It's it's interesting just to see the shake up in that and hopefully what I hope is that what the government's wanted to be cracked down on libracoin it doesn't UM, some of that regulatory stuff doesn't spill over into a bigger crypto. For that, we'll just have to wait and see. UM. So you know what, it's just just good to have that conversation. But I think, you know what, what I believe is that volatility. It

is like the difference of perception and reality. So in everybody perceived bitcoin and crypto to be way higher than it really was. The reality wasn't the technology wasn't there, and then then of course a crash and now perceptions here. But but the reality is it's gotten way better. Right now we have more scale and solutions and more adoption, and I think, um, and and then I think that the perception needs to come back up, which we'll see

that price come up, which it already is. And I think I think options like what block Fire is providing is going to help that because it doesn't it allows people an option without having to sell, and so they can stay in, they can holdele and ultimately that that should be good for the ecosystem. Right yeah, I mean

I can tell you just uh, you know, firsthand. Since we've launched the ability to turn six percent interest on your bitcoin, we've had people come to us who don't own Dickcoin yet and and they'll say, like, you know, I'm not sure exactly how a bitcoin works, but I know that I'm not earning six percent interest on you know, on other assets that I hold so, um, can I

buy some through you? And we right now we say, well, actually you should go to you know, one of these other places to buy it and then and then send it over to us. UM. But it's a core you know, it's a core part of functionality, and it might not be for everyone, it might not meet everyone's risk tolerance. UM, but it's it's definitely a natural evolution of the ecosystem.

I certainly love it. I was like the first I was the first customer of earning interest on my bitcoin and a lot of the products that we're building are based on things that you know, I and others here on our on our team want to use. So we're excited about it. Yeah. Well, like you said when you started write, your research kind of lines up with what I talked about, and it's about having one dollar do multiple jobs and this is the perfect way to do that. So UM, I think I think it's great for the

ecosystem overall. UM. Yeah, pleasure to have you on a really good conversation. I love that we kind of share some uh investment ideas kind of the same UM there and as really cool. UM. So where would people go to learn more about block fire to follow you. Yeah, sure, so. Our website is block five dot com. You can you can find me on Twitter. I'm I'm block five zach Um. And you know, if you want to shoot an email, my email z A C. At block five dot com.

We have chat on our website. We've got a phone number on our website. We've got a bunch of really smart people on the team that are happy to take questions or just you know, here people's feedbacks, So don't hesitate to reach out. So you're not hard to find it. It's not hard to find great. All right, Well, that's it for today, Thanks for joining in, Thanks for having me. I hope to meet you in person next week. Mark. Yeah,