What Does it Mean for a Crypto Company to Use Leverage?

[Davidvictorson]

Recently, I came across this CNBC interview by MacKenzie Sigalos with Kevin O'Leary, a Venture capitalist. The discussion was centered on the crypto market crash, policy regulation etc. While answering the question on whether crypto companies  are uninvestable at this point, he mentioned that there are companies that use leverage and there are those who don’t. I didn’t quite get it. So, I want to ask these questions here for discussion and proper understanding.

• What does it mean for a crypto company to use leverage?
• Are crypto companies uninvestable at this point?

Below is the transcription of his response.

Question

MacKenzie Sigalos: Let's talk about crypto-focused business for a moment. Coinbase this morning announcing that they are cutting 18% of their staff. Gemini had a similar announcement as did crypto.com. Microstrategy is down 75% year to date. Are crypto companies uninvestable at this point?

Answer

Kevin O'Leary: No, I wouldn't say that. There's two categories of crypto companies. Ones that use leverage and ones that don't.

Now, when you have a very volatile asset and you have the fortitude. I'm going to use that word to use leverage to enhance your returns, you also run the dark-side, downside risk of what happens when there's a major correction. As is occurring right now. You can get caught offside pretty quickly. And so, Celsius there's a good example of that.

And I don't want this to sound trite but let me explain what how bottoms are made in any market. I don't care if you're in equities or debt or in crypto or in real estate. You always need a big player to go to zero. That always helps whether it's a long-term capital or whether it's  one of these crypto infrastructure companies. I would like to see and I don't want this to happen but it always gives you a good bottom when you get a large player over-levered that goes to zero. And that always tends to be the beginning of the rebuilding process.

So, if you have to sacrifice someone who used too much leverage and it's always leveraged it does this. Someone is over-levered, positions are complicated. They're not transparent. They're not liquid and they go to zero. Someone is out there on the brink of zero that's okay. In fact, I'd argue that's a good thing when we get it. Now do we get it this week, do we get it next week? Someone's going to zero. I don't know who but it will be great for everybody else that survives because everybody will learn from that. And that's what I like about a washout, an event and I think we're due for one in crypto land and I don't know who it's going to be but I guarantee you 100% I've seen this movie before you will learn later that somebody put on a heavily levered position, they got wiped out and it's good. It's a good thing

Source: https://www.youtube.com/watch?v=vlI8sHn0Kp0

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[cabron]

Companies using leverage are the ones that bet the futures to amplify their profit. They look a loan.
Saylor they were saying will get a margin call at 21k so when dropped to 17k, he must have gone zero which Oleary meant. Is he praying for Mike Saylor to really lose his bet?

I'm not really sure why crypto companies are laying off employees, maybe cost cutting.

[Poker Player]

A crypto company using leverage is not much different than a company not involved in crypto using it.

The vast majority of companies use some type of leverage, but solid companies do so with a low debt-to-equity ratio and have plenty of cash flow to face payments even if there is a market downturn, apart from other assets to provide as collateral, just in case.

The problem is that the present economic system is addicted to debt, and there are many other companies that are beginning to play with higher debt-to-equity ratios and fairer cash flows that have more risk if there is a downturn in the market but that if things go well they can increase profits. It should also be mentioned that there are banks and investors who finance these riskier positions.

In the end, those who don't take on debt or use little leverage can spend these bearish moments much calmer than they are now on Celsius Network, for example.

[shogun47]

A crypto company using leverage is not much different than a company not involved in crypto using it.

The vast majority of companies use some type of leverage, but solid companies do so with a low debt-to-equity ratio and have plenty of cash flow to face payments even if there is a market downturn, apart from other assets to provide as collateral, just in case.

The problem is that the present economic system is addicted to debt, and there are many other companies that are beginning to play with higher debt-to-equity ratios and fairer cash flows that have more risk if there is a downturn in the market but that if things go well they can increase profits. It should also be mentioned that there are banks and investors who finance these riskier positions.

In the end, those who don't take on debt or use little leverage can spend these bearish moments much calmer than they are now on Celsius Network, for example.

Very well explained Poker Player. During good times everyone wants to leverage and get as big of a piece of the pie as possible. It turns into frenzy. An outstanding example is the financial crisis 2008. Most financial institutions were leveraged beyond the sky and that was the time when JP Morgan Chase became the strongest bank in the US. Why is that? As Jamie Dimon always said that you need to have a fortress balance sheet, which consists of diversification and sufficient cash. Sure it is fun to rake in any profit times X leverage, but if shit hits the fan you are done, i. e. Lehmann Brothers.

Playing around yourself on a platform that offers leverage with just a small amount is a good way to either get addicted immediately ( ) or learn a lesson early enough. Leverage is really crazy depending on how you use it, but most people just go for it and can't sufficiently handle the ratios of the money available to the actual leveraged position and so on and so forth. If one ever decides to try it out, play it small in the beginning.

[jackg]

The vast majority of companies use some type of leverage, but solid companies do so with a low debt-to-equity ratio and have plenty of cash flow to face payments even if there is a market downturn, apart from other assets to provide as collateral, just in case.

A lot of stable companies have a debt to assets ratio of ~70% (or they have for a while, not sure about more recent times). It depends on the company how indebted they are, some banks have a 95%+ rate for example too.


I saw an article by the ft a few days ago that was doing a bit of a roundup on what had been going on in the cryptospace and it said a large number of companies were facing margin calls (this isn't to say they were over leveraged, just that they'd have to increase collateral or sell assets).

There's the chance in every industry a company gets liquidated by overleveraging and I do find it quite worrying some crypto companies have taken these steps already as it's a good way to desuade investors if they don't have good cash flow to quickly escape positions (crypto isn't an always strong market, the price is a lot stronger on rallies upwards than it is in bear winters - March 2020 was a good example of that).

[edgycorner]

What does it mean for a crypto company to use leverage?

When a company uses leverage, it is borrowing money to increase the amount of money it can invest. This can be done by taking on a loan or by borrowing money from another company. When a company uses leverage, it is taking on more risk, because it is borrowing money that it may not be able to pay back(I think this is what happened with 3AC)

Are crypto companies uninvestable at this point?

No, I would not say that. Cryptocurrency companies can be investable, but it depends on the company and what they do. Companies that use leverage to trade cryptocurrencies are riskier and can be more likely to go bankrupt during a market correction(but there is also potential for high returns).
However, companies that do not use leverage can still be good investments.

[Davidvictorson]

I get it now. Thank you. It is safe to say that being over levered is not good.
So, it means that companies like Coinbase Global Inc., Gemini Trust and BlockFi Inc., crypto.com have a higher debt-to-equity ratios and less cash flows and that is why they have doing some cuts because they are greatly affected by the market downturn. Would this be a correct assumption?

[Mpamaegbu]

I get it now. Thank you.

You may want to lock this thread since the puzzle for which it was created has been solved. Otherwise, users are likely to come spam here for post count and take this thread to several pages.

[franky1]

I get it now. Thank you. It is safe to say that being over levered is not good.
So, it means that companies like Coinbase Global Inc., Gemini Trust and BlockFi Inc., crypto.com have a higher debt-to-equity ratios and less cash flows and that is why they have doing some cuts because they are greatly affected by the market downturn. Would this be a correct assumption?

a good example of good leveraging today.
the market price is low. you might have say 120k coins, but you are cash poor... but do not want to sell the coins,
you refuse to sell the coins. but instead choose to lock them up in escrow(multisig) with a loan company where they give you fiat as a loan.

using this fiat to just pay salary is a loss-leader. once its gone its gone. so dont waste the money that way. dont use fiat to spend on fiat things that dont make you returns..
instead use that loan money to buy more cheap coins. to hoard. then when the price goes up. you can sell the loan purchased coins to pay back the loan and keep the difference/profit. and also unlock your collateral to then add the profit to the coins you locked that are now unlocked. win win

a bad example of leverage is where those that are mainly fiat based with fiat costs, decided ages ago to hoard(lock up) fiat in bitcoin to leverage the fiat market..  when the price was higher, thinking it would go higher. but now the price has come down to $20k. they cant/wont sell the coins at a loss to pay their large fiat costs. and so they are stuck. its bad to sell coins. its bad to collateralize the coins to get a fiat loan to then use on fiat spending of non ROI spending(excessive labour). so the only option left is to downsize the fiat costs. until the bitcoin price rises for you to then have profitable coin to sell to then be able to pay staff bonuses, pay rises, more employees, etc