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jag216

Preallocation, debt and voluntary confiscation

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Brilliant assessment. I have pondered about the idea of confiscation in crypto, as Roosevelt mandated with gold. Your analysis makes a lot of sense. Thank you.

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Posted (edited)
5 hours ago, jag216 said:

I've seen a number of youtube personalities discuss the idea of the XRP escrow being preallocated for use by global central banks as collateral for the issuance of digital fiat currency and effectively creating a montary value 'reset.' I've gone on their streams and tried to indicate a number of issues that rise with the use of digital assets as collateral, but I do think excitement has taken over the space and folks are just not taking the time to see this through.

 

God....I love it when I run across someone who sees the big picture and can explain it. This is maybe the most interesting comment I've read on this forum in the 6 months I've been reading these threads.

A lot to think about. I will probably re-read this several times. Thanks. @jag216

My question:

To what extent does futures trading of crypto already amount to a reduction in unencumbered assets? And how will the new platforms (that will offer derivatives) coming online in the near term future affect the market by reducing the available supply? Is is possible we get to the situation you've so eloquently described sooner, rather than later?

Edited by dr_ed

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49 minutes ago, Lawsuit said:

I'm way too dumb for this....

Demonstrably untrue...but I do have one caveat, after reading @jag216 a second (and third) time.

I love a good macro analysis...but I have learned not to let it influence my short term decision making. It tends to lead to bad outcomes. Don't ask me how I learned this.

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Just now, dr_ed said:

short term decision making

Interestingly enough, after spending my life making all my decisions in that time-frame, crypto is doing it's best to teach me the value of the opposite :biggrin:

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Posted (edited)
2 hours ago, dr_ed said:

2nd question:

Does rehypothecation of digital assets undermine the entire concept of eliminating the double-spend? 

No, there are 2 types of "double spend".

1. The "double spend problem" that blockchain tech solves, making sure you dont pay two people with the same coin.

2. The "double ownership" one, that rehypothecation enables. This is when the client borrower who posted the collateral still owns the collateral, but during the term of the loan the exchange also has ownership of the collateral and they can use the collateral's utility (say to earn profits from doing market making activity)

When I spoke to Cred about how their loan was structured I was surprised to find out how they are doing it. I figured it was just set up like a margin loan, and just as this post discusses if that is how a loan is structured some traders will be force liquidated in a bear market. I used to trade for a brokerage and managed the margin calls, the pressure gets high to deposit more money before the market opens and we begin the liquidation.

The way Cred was doing it (I'm not sure I have this right in my mind) requires owning some of thier LBA digital asset, which stands for Lend Borrow Asset. I dont want to explain how the LBA token works, because I never really got clear why it was involved, and they use a futures contract to hedge some risk. I will reach back out to them and find out.

Edited by KarmaCoverage

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On 8/28/2019 at 2:32 PM, dr_ed said:

2nd question:

Does rehypothecation of digital assets undermine the entire concept of eliminating the double-spend? 

 

Double spend is riskless and invalidates the ledger for use; Using collateral as described here is risky behavior on valid ledgers, as some contracts will fail. 

So, they are two completely different topics I would say.

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On 8/28/2019 at 4:30 AM, jag216 said:

I've seen a number of youtube personalities discuss the idea of the XRP escrow being preallocated for use by global central banks as collateral for the issuance of digital fiat currency and effectively creating a montary value 'reset.' I've gone on their streams and tried to indicate a number of issues that rise with the use of digital assets as collateral, but I do think excitement has taken over the space and folks are just not taking the time to see this through.

Somewhere back in the past, I wrote comments about how I thought companies like OMNI were really important for the XRP ecosystem, because they were providing redeemable contracts on the XRP ledger attached to tangible assets.

When you establish a contract whereby an asset becomes redeemable in XRP - for example, by making a deposit for a leased object redeemable in XRP, or issuing a loan that is payable in XRP - you are increasing the market value of XRP by the amount of the redeemable asset. This is one of the thing that make open and free exchange markets so valuable to fiat economics - there are tangible assets, services, contracts, etc. that are redeemable.

Take a 5 USD silver note - that was redeemable to the bearer, at one time, for $5 worth of silver. Asset-backed currencies have value because their notes are redeemable memos that can be settled for real assets.

Now consider the role that crypto lending in CDP or collateral debt positions play in transforming the landscape. When you have a mortgage on the book in your name that is secured by the home you have possession of, there are limitations to what you can do with that home. A home with liens against it is taken out of the inventory pool. It no longer contributes to the available assets that can be redeemed with fiat currency. In many ways, a cap on tangible productive assets (and people) introduces a cap to the aggregate value of the fiat currency of a country. No assets to trade = no monetary value. Money is worth nothing when there is nothing left to buy.

This is a significant issue for the digital asset space, because you have the transformation of asset classes into representative units of exchange (securitize assets, tokenized assets) that produce lien-like impositions on the underlying asset, and representative debt position that use digital assets as collateral (CDPs). And you will very soon have cascading combinations of both.

One day, you will have the ability to take Apple stock in your portfolio tokenized, and you will be able to draw digital asset credit lines based on the deposit of those tokens in your digital wallet. As the tokenization economy expands, more and more conventional stocks will be encumbered, translating the stock exchange mechanism from one of stock trading to one of securitized token trading. It will not be possible, one day, to own actual stock. It will only be possible to own and trade representative tokens of a given stock on various platforms. The impact this will have on the price during the shift will be volatile and then normal as volume shifts markets.

Today, you can deposit your tokens with a company like Nexo, get a credit line advance and spend it. This is non-taxable - its secured credit. But this also takes those assets out of circulation - staked tokens that have liens against them are off the exchanges, so far as I can tell. I have asked a question on Quora and requested David to respond regarding hte potential of rehypothecation of assets on the ledger.

For those who are unfamiliar with the practice, and how it contributed to the housing bubble and the inevitable collapse of the hyperinflated price bubble - the best way to think about it is like this: blockchain has many features that prevent the double-spend problem from occurring. Rehypothecation of collateral assets is a form of intentional double-spend - where the same underlying collateral asset is treated as if it is owned by two different parties (or more) at the same time. Max Keiser has done videos discussing how rehypothecation has been used between physical delivery and metals and paper metals contracts to manipulate the price of precious metals.

So assuming that blockchain ledgers, as a feature, make rehypothecation impossible - this single feature alone makes digital currency one of the most powerful asset classes in history - if ownership cannot be subverted and the books built on it can be made that much more sound, it is an absolute game changer and you can bet that banks are doing whatever they can to allocate and build their positions in it, even if they are dormant and waiting on regulation to actually put those assets into motion. They are buying the fields but waiting for zoning clearance to build houses.

What to do in the meantime? These banks are incentivized to keep prices low and sideways, particularly after a protracted bear market where investors have hyped in and are now overleveraged. Companies like Nexo (not saying they will do this) will be very clear about how safe their custody solutions are, and how large financial powerhouses like Lloyd's of London will back their deposits. People will read articles about how they can use a fusion of dollar cost average in bear phases and collateral debt reinvesting during bull phases to grow their stacks without adding more capital in changing market conditions.

But consider the impact this ever-increasing CDP market will have on scarcity of inventory, and the inflated pricing effects this creates for deflationary digital assets. More and more liens against digital assets that are not available for rehypothecation and are effectively digitally segregated from corporate funds are locked away from retail markets. Sure, the debt contracts can be traded - and you know this is going to be a new source of banking revenue. But if digital assets are not subject to the same dubious supply issues as precious metals, price increases are inevitable.

This is the first wave of the slow bull drive, but it is not the real issue.

In times of crises, we have already seen that the transition from asset-backed currency to others results in the confiscation of real assets when times get tough. Owning gold can be made illegal illegal. You can be asked to forcible sell your ounces of gold and silver for face value prices, only to watch the values of metals skyrocket once they are in government possession. History has taught this lesson, are cryptocurrency investors paying attention?

Mark my words, as more financial institutions get involved in the business of operating digital asset holding accounts backed by the FDIC we will see unusual shortages, hacks and losses that will amount to voluntary digital asset confiscation. Sorry, your assets are in another castle! ~the FDIC.

If I enter into agreement with Nexo by depositing my funds that the collateral assets I yield for consideration are protected to market value by Lloyd's of London, make no mistake that in the event of a fiscal crisis or pending shift in economic situations I will not be able to withdraw my digital asset, but will instead be bought out at market price by Lloyd's - who will then own my digital asset and I have cash.

I'm not picking on Nexo - I use them a little bit. I may use them more when I wish to cash out without cashing out. I think the service that they and Binance and others will offer is a valuable service. But I keep the big bags away from these services. Because there will be a voluntary confiscation event where you will have your digital asset deposits cashed out because the terms allow for it. Folks will go to their account one day and see the cash equivalent of all of their crypto assets in their account. This may be caused by a manipulated price event that allows these financial institutions to liquidate your positions to pay off outstanding debt. It may be a "massive security event" that forces insurance to buy out your positions. PR folks are creative. Terms of service that include bail-in clauses are not the only tripwire to watch out for for investors right now in finance.

But to go back, there does not need to be a preallocation event for this to occur - it is already starting now. Go look at nexo's growth numbers, just as an example because they seem to be playing a leading role in the hype behind crypto loans. It would only take a few major household name banks to start offering remarkable credit lines and paying out on crypto loan investments to pull many of these assets off the market while stablecoins are floating around. The volume of encumbered assets of just a few major financial institutions would be enough to significantly increase the scarcity of inventory for most of the top ten assets - and who knows how far down the chain this value would trickle as the top ten coins grow out of reach.

The idea that XRP - the escrow - of 55 billion XRP is preallocated to banks and slowly being released to prevent scarcity from spiking is an interesting one, but seems both unrealistic and unnecessary. It would drastically cut the supply of available inventory for trade and ledger functionality - and that is likely going to happen anyway as crypto loans take off and fill the economic role that housing did in the 2003-2007 era. It's not xrapid that is going to explode the price - its the lockup of digital assets in loans. Loans people are taking out now because they needed that seed capital - or someo f it - or they just don't want to sell and deal with taxable events. Etc. Etc.

Eventually there will be a time when the underlying digital assets we are able to buy today will simply not be available for purchase - only their derivative products. It's going to be a totally remade financial landscape. And if digital assets do become part of a collateral plan to convert to digital currency, hold on to your butts and resist every temptation/trick to sell until you are absolutely ready to let your assets go - I definitely assume that any crypto I put up for loan collateral - even if I have no outstanding credit lines - will eventually be converted to fiat without my consent before this is all over. But those cold storage hodl bags... not your keys, not your crypto.

Thanks for sharing your analysis - love this type of critical thinking. I'll definitely be re-reading this to wrap my head around it better but generally (correct me if I'm wrong) this analysis touches on available supply. What impact do you think the below articles will have on XRP price if XRP is paid out as a dividend to shareholders? My initial thought is that paying an XRP denominated dividend would likely require holding a large amount of XRP. Alternatively, XRP could be sourced from the open market pre the dividend distribution date however, if the price of XRP were to rise then this would make the XRP payout more expensive for the paying entity (unless the payout is based on dollar amount and not units of XRP). 

https://www.coindesk.com/sbi-holdings-will-pay-a-shareholder-dividend-in-xrp

https://finance.yahoo.com/news/japan-sbi-pay-shareholders-interim-063015113.html

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On 8/28/2019 at 1:30 PM, jag216 said:

Mark my words, as more financial institutions get involved in the business of operating digital asset holding accounts backed by the FDIC we will see unusual shortages, hacks and losses that will amount to voluntary digital asset confiscation. Sorry, your assets are in another castle! ~the FDIC.

Thank you for a though provoking and interesting read.

The kind of scenario involving a credit or banking crisis that you are painting is unlikely to have an impact of this kind on crypto for a decade (or two?) don't you think? There simply isn't enough value in the system at the current time for it to be more than a blip on any financial radar (and even the slightest whiff in advance of something like this would cause the markets to crash so low that there'd be nothing left to take - and after all, since the current digital assets are not backed by anything anyway, they are worthless in most cases). Greek bonds having a haircut during the euro crisis seems a long time ago and that was only 100bn - in a system valued far far higher. What sort of timescale are you imagining for events like this to become possible - currently the market for loans and derivatives is too small. Do you see things accelerating very quickly once 'digital assets' have proven themselves to actually be useful (or more strictly, do you see this only playing out in a market for tokenized assets of the kind we have not really seen yet - such as stocks/bonds etc?)

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2 hours ago, jbjnr said:

Thank you for a though provoking and interesting read.

The kind of scenario involving a credit or banking crisis that you are painting is unlikely to have an impact of this kind on crypto for a decade (or two?) don't you think? There simply isn't enough value in the system at the current time for it to be more than a blip on any financial radar (and even the slightest whiff in advance of something like this would cause the markets to crash so low that there'd be nothing left to take - and after all, since the current digital assets are not backed by anything anyway, they are worthless in most cases). Greek bonds having a haircut during the euro crisis seems a long time ago and that was only 100bn - in a system valued far far higher. What sort of timescale are you imagining for events like this to become possible - currently the market for loans and derivatives is too small. Do you see things accelerating very quickly once 'digital assets' have proven themselves to actually be useful (or more strictly, do you see this only playing out in a market for tokenized assets of the kind we have not really seen yet - such as stocks/bonds etc?)

I think the interesting issue in terms of gains is the impact of zero/negative interest rates globally. If more companies offer 8% compounded daily on stablecoins and the payment methods by card or app are liquid, they could start poaching the traditional banking service market. Stablecoins become the familiar territory, with digital assets at low prices, still liquid with no tax events. There are a lot of attractive options developing when compared to, say getting a CD when you get 1% and the capital is locked in for five years.

With three rate cuts in the US and low rates already in place elsewhere, folks will get hammered with 0% cards and cheap refinancing. That's a lot of new money pumping globally, and no one is going to stick that in a bank account for 0% interest if they can get a liquid digital asset with real return potential. Countries like Japan still have a savings culture - they will embrace high yield despite the risk. They may lead adoption of the scenario.

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