As concerns over crypto credit bubble mount, miners appear to be particularly at risk

The market for digital asset loans is growing at a fast clip, and experts say pockets of risk are starting to emerge. 

Genesis Global Trading, which has operated a crypto lending division since 2018, saw quarterly loan originations increase from $200 million in the second quarter of 2018 to $870 million in the third quarter of 2019.

Lending firm Celsius said in a recent report that its total loan origination stood at $4.5 billion, a 93% increase from $2.2 billion at the beginning of August.

BlockFi, which doesn't publicize its origination figures, has witnessed 20x growth in its principle outstanding since the beginning of the year, BlockFi CEO Zac Prince said in a phone interview with The Block.

The exact size of the crypto lending market isn't known, but the explosive growth has been a cause for concern for some market participants who believe that a credit crisis is looming.

Still, both Prince and Genesis' CEO Michael Moro don't think its time to sound the alarms, noting in separate conversations that the market is too small and over-collateralized for a melt-down.

"If you use public equities as a comparison, lending is somewhere between 1% and 3% of the market cap," Prince said. "In crypto, if you take bitcoin and ether we are about $150 billion, and in terms of principle outstanding for loans we are probably just over a billion and getting close to the lower end of that range."

What about the miners?

Still, miners might be exposed to more risk than the broader market. Bitcoin mining firms will use the bitcoin they earn from block rewards as collateral to borrow dollars to invest in their business, Leo Zhang, a partner at Iterative Capital, told The Block in a recent podcast.

He said having ample coins on hands is "more important than anything else." But, in a sense, those firms are making a long bet. And if the price goes down, they will lose money on that collateral.

Indeed, Genesis Global Trading in November extended to Hut 8 Mining Corp a $15 million loan, which replaced a previous loan of $14 million from Galaxy Digital Lending.

Canaan, the crypto mining company that went public on the Nasdaq Stock Market, said in a filing that it offered "long-standing customers" during the 2018 bitcoin slump credit sales, allowing them to put a 50% down payment for mining equipment and 50% for subsequent payments. 

Moro estimates, based on conversations with miners, that the halving in 2020 presents new risks. If the price of bitcoin were to sharply decline following the transition from 12.5 bitcoin rewards for miners to 6.25, miners would be left with an even smaller pool of revenue. 

"Speaking with miners, I get the general sense that their 'breakeven' BTC price, on average, is somewhere around $6,500," Moro noted. "If they have better equipment, that number is lower; if their machines are older, it would be higher."

"For the sake of argument let’s say, that the BTC halving event comes along and the price doesn’t move from where we are right now @ $7,200," he added.

That would make the "breakeven" price for miners double to $13K, as their mining reward decreases by 50%. So what would happen to the miners with less efficient machinery if the price were to fall below that break-even point?

"My guess is that many of them would have to turn their machines off, as they’d be mining at a significant loss if they were to keep running them," Moro said. "And then what might happen to VCs and/or lenders and who provided funding to those miners, if those miners “go out of business?"

They will be on the hook for those loans. As for BlockFi, Prince said that his firm hasn't gotten comfortable with the mining market to take on customers.

"I agree that over-leveraged miners will have major issues if BTC's price doesn't go up at least 30% after the halvening, as the total mining production will drop by 50%," Celsius CEO Alex Mashinsky added.