The Onchain Lending Opportunity: How Banks Can Access Credit Markets with Stablecoins

Transcript

And it's my pleasure for that to welcome on stage. First of all, let me start with the lady Alexandra Lloyd from Uh Hodler who will be moderating the panel. Then we'll have Milo Henselen from Maki Bowman a bank here in Zurich. Next up we have Paulo Guardiero from Blockstream Capital. We already have Blockstream here on stage. So while your core leagues work downstairs on the workshop, last but not least, we'll have Alexander Meza from Sysbank. Please welcome and put your hands together for this panel.

>> Thank you, Vendek. Um, so my name is Alexander Lloyd, not Baroness Lloyd as uh Ilia shouted out earlier. Uh, and you might be wondering why the head of AML is here on a moderating a panel on lending. It is because I have had to explain our lending products multiple times to regulators and lawyers and other compliance teams. So, I probably at this point know the product better than the guys who built it. Um, but yes, we've been in cryptobacked lending and retail and corporate for a few years and I have the pleasure of being on a panel here and getting to ask these guys some questions. So, if you'll introduce yourself, uh, Paulo first.

>> Yeah, sure. My name is Paulo Warner. I'm VP operation at Blockstream Capital Partners Switzerland. Uh Blockstream Capital Partners Switzerland is the financial arm of Blockstream. So we um take care of everything that is uh financial related. >> My name is Milen. I'm team head of our tech banking team at Mackie Balman, one of the first banks in Switzerland that started to enter in the crypto space. >> Hi, thank you for having me. Alexander Medcar. I'm with Seas Bank. Uh SE Group basically consists of three companies uh the bank where I'm sitting. We've been active in custody and trading of digital assets for three years and uh CE capital

which is our sister company has been also active on the asset management side managing fund of funds in crypto. >> Okay, great. And I'm going to kick off with the evolution of Lombard. So, traditional Lombard loans rely on a bank's internal custody. How does the risk model change when the collateral is held in a multi-IG or a programmable vault shared between a bank and a tech provider? Do you favor internal custody or bringing in tech from custodians who've been operating in the space longer? I mean, where what do you think, Paulo? Maybe if you want to start off.

>> Yeah, sure. Um well I I I think the security of the custody is uh critical uh when we're talking about Bitcoin back lending. Um as PCP we are working with different models. Uh we work both with qualified custodians including Swiss banks and more kind of native custodians. uh but as as well we work with the um so-called multisig uh technology where uh the keys of the multisig is spread across different parties. Um we believe that especially with bitcoin multisig offer uh extremely

high level of security and u um we sometimes um prefer this model over over others. Uh the question is really how um quick how fast you can be uh when you have for whatever reason move the collateral. So in case of liquidation uh is the custodian be able to operate 247 is the multisig and the players that are managing the multisig able to uh sign the transaction at any times of the day or night. So I think that's really comes as as the main risk for us.

>> Nilco I can see you nodding along there. Uh I take it that you are at least somewhat in agreement with Paulo here. >> Sure. Especially the last part speak being um the relevance of of speed at the end of the day when it comes to an execution of of collateral that is that is essentially the the the critical part in in in uh the lending um idea. What we see is however that we we are banks. We would like to keep everything under control. we rather prefer to have the the keys with us and and and act on behalf of our clients either um as a as a lender and then we want to execute by ourselves and without any further ado.

On the other side, if you're just a custodian, then we of course we also want to make sure that every involved party knows his rights and and and etc. And we act act as a yeah a neutral third party between lender and burrow and then make sure that this this is the assets are moved fast and efficiently and the more parties involved the more complex everything gets and uh so if you will of course technology makes things easier to join control sometimes is better to transfer control to a third party then we say okay if all agree then we execute >> and uh Alexandra we we in agreement all here or do you have a different perspective?

>> Yeah, of course as a as a regulated bank we have been we opted for a similar custody infrastructure. So in general we we run an uh internally operated solution where we control the keys of our clients um and um and we we run segregated wallet infrastructure for our clients and in essence that's also what our clients are looking for. They're looking for institutional grade custody and regulatory clarity and no counterparty restraint. Um but then again there's some interesting multi multisc solutions out there um which we've been looking at. Uh but they do um there there's some risk that needs to to

to be taken in consideration especially when it comes to liquidation of the collateral. Uh it has it has to be available to the lender. Uh and in that sense it's not really And sometimes it might not be a real multi because some somebody has to control the underlying. Um so but yeah in general that's that's our view. Uh obviously we we do also uh collaborate with uh third parties on the lending side where we act as a we plan to act as a custodian u as as you mentioned. So there we we really act as a neutral custodian and we don't we don't we don't lend directly.

>> So um obviously when we're talking about custody and introducing new custody solutions, we're talking about new risks. Um there's other other risks we have to price in. So how do private banks and and banks price in that Bitcoin premium compared to traditional equity back credit? um is the volatility are you using higher LTVs? Uh is it uh just restricting your your asset classes? How how are you managing these new risks? Um when it comes to new asset classes um >> I can start. I mean um um well I think you know in in the past few years we we've seen um quite a lot of uh

developments in in in the industry related to lending. Um we started uh with only few you know cryptonative offshore company offering become back lending. Um most of the time these these loans the collateral of these loans were replicated. um most of these play are out of business nowadays. So I I think the fact that now we have uh banks that are entering the space is a very good sign. Um I think banks are realizing that you know Bitcoin is a relevant asset class that can be used as a collateral. It's extremely liquid. You can price it 247 and it offer high protection from from a

lender perspective. Um so we are not still there where you know I can um post my Google stock for 10 million loans but I believe that uh you know in the coming years where with more banks uh entering this space uh we will be able to kind of find more or less the same level of of of rates. Um yeah in in in general um um it is obviously different than you know traditional asset classes just by the fact that it trades 24/7. So basically you have to manage your your risk differently and also based on on um there's a a capital requirements that are higher which needs to also be

reflected in um into the the pricing rate. So I'd say that this comes into play when when when pricing u and then the the the fact of that you have to basically as a as a bank uh natively you don't have a 247 infrastructure right so um you need to to manage that risk by by monitoring that portfolio. Uh you can do this internally but you need the right tools to do so. uh and or you need the right personnel and this needs also to be reflected in in the pricing right. Uh the other solution obviously is to work with with third third parties uh that can act as a liquid liquidation u um so we are we are basically looking at

at various options um depending on the the client needs. Milk, anything to add or uh >> well perhaps it makes sense to not just focus that much only on on the on the efficiencies of of crypto assets. Yeah, that's that's definitely a positive point and that we can execute the these things in theory at once. But the problem lies in the in the details with the people with being available on good Friday morning if something happens and who is really takes care of the execution if it's not automated fully automated and banks are not fully automated. However, um banks have define these risk risk uh um risk classes or risk evaluations not only barely on

their own. So we are dependent also on our regulator. We dependent on um on the bank of international settlement. We are dependent on the on the rulings of the Basel Basel committee. And as long as these ladies and gentlemen that that act on this in these in these organizations and do quite quite a good job, as long as they they do not take in consideration also the the technology and the speed of execution but only volatility and um the the accessibility of of of critical crypto assets. um we will not have an any adjustment in the in the risk evaluation from their from these organizations. Hence, banks can't can't

go in the way they say, "Look, uh, it's a stable coin. It's packed to the US dollar. Why should we have 125% of our capital linked into the into a Lombardot loan that actually covers a US dollar cash position is covered by a US dollar cash position, sorry, and and um but with blockchain technology, we can't do that. And so there I think there is still a learning um phase coming from the international institution before we can move ahead in a better place. >> Um you and Alexander both fed quite nicely and psychically into my next question which was on uh you know 3:00 a.m. automated margin calls. Um do we think traditional regulated banks are there yet uh with that to deal with that

that friction or or do we think they need a grace period with some humans in the loop? >> It depends. I mean we consider ourselves as a traditional bank. However, um we are not ubiquous of course and hence we can can move in a in a more yeah speedy way. So if anything goes wrong and we would be pushed to to provide a loan of 10 20 millions we definitely would make sure that that there is a there are people on call to to execute this and you also can put into any any stop-loss orders. There are ways for individual solutions. However, for a standardized fully automated thing, we are not there.

That's that's because of of our of banking systems in uh that that are not up to speed and and similar similar things around that that inhibits it so far. >> Alexander, since you so nicely set me up for that by speaking about it first, do you have anything to add to Milco's observation there? >> No, no. So, I'd say also uh it is also a bit by design, right? If a client comes to a bank to take to deposit their their Bitcoin and take a loan against it. They're looking also to to have some kind of a private bank or personal uh relationship right there. If you want to, you know, take a loan versus a smart contract, then you could go to DeFi, right? And and and

having that level of of of human interaction is also something that our clients are are looking for, right? So I'd say that uh and then in terms of managing it well there's as as you correctly mentioned like uh there's a few few players that can actually do so. Um and there's a few ways you can do so. You can you can manage your risk by by having stop stop losses. You can uh have a 24 or seven hour desk uh and uh and um or you can work with with a third party provider. Right. And um It's not because you go through a centralized party that it cannot be automated, right? Um it it

can but uh it's not entirely there with with all financial institutions. >> Paulo, I think nothing nothing to add. I think it's all about technology and uh regulation. Of course, it's it's a bit problematic, but I'm actually positive that banks are adopting this new technology. I mean we we seen it in Switzerland, we seen it also abroad um of banks that are adopting a 24/7 model. Um maybe just to focus also on the positive side um I mean the good thing about digital assets is that compared to traditional assets, real estate or um you know machinery, cars, uh it's an

assets that can be recovered um can be sold uh immediately, right? Um if if you have like a loan guaranteed by a real estate and for whatever reason you need to liquidate um you know the the process to recover um the the loan amount might take several weeks if not month. Um so yes there are some challenges but there are also some um advantage that u u a lot of players in the traditional finance are uh realizing and they are taking advantage of.

>> Yeah. And and as these products develop do you think uh the goal moves from from simple lending to a whole secondary market for for the transes? I know you guys did a did a project recently. Yeah. Yeah. I mean there are there there were actually few announcements in the last few weeks. Of course I think that's the directions. Um I mean the market is growing is evolving. Um we see um especially across like big lenders the loan book growing uh significantly and it it makes sense that uh um you know you uh you can pack this uh uh this loan book into into products um you know

assign it risk rate and and basically sell it to investors. So I think in in in the coming years we will see more and more example of uh um uh instit institutionalization of u digital assets back uh lending. >> Yeah. >> I think one of the things that's sort of um making adoption a bit slower at the moment and Alexander you touched on this earlier. It's um for a bank holding Bitcoin on the balance sheet is quite capital intensive under the Basel rules.

Um does onchain lending allow for better capital treatment if the asset is is um non-custodial but contractually locked? >> Uh well it depends. So so first of all u it is so it is uh so in general banks that do offer cryptoback lending uh do not take in possession the the collateral. So the the collateral remains segregated and under the client's name. So it means that it's totally off balance sheets and it doesn't have any capital requirement right where where there is some capital requirement is on the loan that the bank might issue on on that collateral because that collateral might not be

eligible uh on the basel right um so it is in that sense u um not cap not as capital efficient as it should be because at the end of the day it's a great uh collateral in my view it's one of the best collateral uh talking about Bitcoin, billions are traded every day. Uh it settles instantly. Obviously, you need the right infrastructure to gather to that to to that, right? Uh so um I in general I I think you know uh um having in some D5 protocols might be more uh capital efficient as they don't have those capital requirements. But again,

it's a different It's a different product, right? When you're you you you you're taking a loan in DeFi, you're taking all sorts of of different risks. Uh be it smart contracts being uh you know oracle uh oracle risks as well. So u it's it's different uh and I don't think both are mutually exclusive. Milco, would you consider that that uh banks are favoring one lending model simply because of those um capital requirements or or do you think it's just a natural evolution of their or their risk management?

>> I mean I think it depends a little bit on the on the on the individual situ situation of a bank. Um, if it's very captor rich, if it's has loads of of experience in various kinds of of of loans and credits, it makes sense for them to delve into this area where they can provide on provide their own capital into that. Whereas, if you want to be on more on if you're on more on the lean side and say, okay, we want to provide the service to the to the client that is of more importance to us than having everything inhouse. It makes definitely sense to more to either have at least have a look at decentralized um solutions defy defy lending or um also do away with with collateral

inhouse but rather rely on third party as a as a collateral provider which also exists in traditional finance. It's not nothing to the limit. >> Yeah. >> Yeah. Maybe to add I think like smart contract it's it's more a technology that can allow banks to um scale up and overcome certain operational limitation but it shouldn't be seen as a way to kind of um yeah find a workar around to the to the regulatory limitation or anything that's that's these limitation are in place to kind of protect um investors and um I f more kind of approach where um you know players that are working in the

industry are are talking with the regulator and find a way to um yeah find just better uh approach that far with the industry >> and and um how do you guys see uh people like asset managers integrating blockchain into their operations level to solve specific problems like the reconciliation or real realtime margin call pain points you Um so yeah we've seen we've seen more and more um especially on the administrative side um um um so asset managers using administrators that that using uh blockchain um infrastructure for for reconciliation

and for nav calculations um some also uh for for for rebalancing but that's for asset managers that are already uh you know directly investing investing in in in digital assets. Um it is still early um I'd say for um so we see some asset managers that that that starting to to uh to offer um um um loans and to to their clients. But um yeah on on the traditional side at least it's still uh still early early days.

Um sim sim also um we we we try to be as client driven as possible and um depending on the demand that we see we we evolve our technology and so far we we um see significant demand in when it comes to lending etc. Um but um for instance for the internal procedures or processes and and things that that can be handled in a traditional way we we stay with a traditional technology may sound bit silly because maybe some to some extent a little bit slower maybe takes more erranous more more more effort. On the other side if you if you really go to the the business case and say is it worthwhile investing X in

order to achieve faster settlement in by 10% or 20%. It often doesn't pay off in the short term and uh what we see as a as a as a rather um small bank is that we can't move the market. Um if if the market center exists that every for instance AML check is done on on blockchain if all KYC is linked to a blockchain then we are happy to follow we will be the first to to implement it. But as long it doesn't calculate doesn't pay off for us. Why should we do so? And this is similar um situation with other small banks. I think they don't want to go go too far ahead. And sorry for the for the for the fintech companies that

we can't support in that way. We would love to but it it has to pay off for us. >> Do you want to add anything or 30 seconds to to answer the last question? Just re no we are not a bank so clearly we have different uh regulatory requirements. Okay. And uh so one final question while we've got 20 seconds left. Um with the cryptocolaterized lending market reaching total debt estimated at 73.8 billion as of the end of last year, are stable coins actually the product of onchain lending or are they the medium of exchange? Anyone?

Well, if you look at the the settlement of stable coins last year, they were well over trillions, right? Um, so I would say that uh it's not only about lending but uh crossber payments as well. >> Okay. Well, thank you very much for the conversation and I'll be happy to to continue it outside. I know we had a few more questions that never got asked. >> Thank you. Thank you very much.