Crypto Analytics

Keep Going, Says Coinbase’s Armstrong

Even in the midst of a turbulent week in crypto, Coinbase has managed to stand out. Its shares plummeted 35 percent in May and are down 77 percent this year.

Results after the market close on Tuesday appeared to confirm fears about the company. First-quarter results missed forecasts, with the company citing “weaker crypto market conditions” and reporting a net quarterly loss of $430 million. But there are a few lines in his latest 10-Q filing about his responsibility for protecting client assets that really caught our eye.

Coinbase held $256 billion in fiat currencies and cryptocurrencies on behalf of clients as of the end of the first quarter, according to the filing. And as further pointed out, crypto assets are not insured or guaranteed by any government or government agency.

In addition, since crypto-assets held in custody may be considered property of a bankruptcy estate, in the event of insolvency, the crypto-assets held by us on behalf of our clients could be subject to bankruptcy proceedings and such clients could be treated as our general unsecured creditors.

In other words, should Coinbase go bankrupt, customers could lose money they had entrusted to the exchange for safekeeping.

Casual observers might think, “if you even have to mention it…”. Sentiment has taken Coinbase’s market value down another 25 percent at pixel time. Even before the market opened up, Coinbase CEO Brian Armstrong was preemptively using Twitter to spread the word that there is nothing to see here.

The reason for the disclosure, according to Armstrong, was a new SEC disclosure requirement for public companies holding crypto assets on behalf of third parties. He stressed that customers have strong legal protections – albeit ones that haven’t been tested in court – but apologized to retail customers for not updating their terms to reflect the changes.

Still, the revelation brings back memories of MF Global’s failure just over a decade ago. The futures broker became what was then the eighth-biggest bust in US history when a $6.3 billion bet on European government bond prices went spectacularly wrong. It then emerged that MF Global had mixed up customer funds with the company account. More than $1.6 billion in customer funds were missing as they were transferred to various counterparties to meet the company’s own margin calls.

In the trading industry, some lines are more sacrosanct than others. But breaking down walls built around customer funds is one of the greatest sins. The MF Global stain stayed for years. Mentioning it to the derivatives industry was like bruising.

This backstory makes the new SEC requirements more urgent than a throwback. MF Global’s regulator at the time of the collapse was the Commodity Futures Trading Commission. Former CFTC chief Gary Gensler is now head of the SEC, the agency that mandates the new transparency on commingled assets.

Gensler withdrew from the CFTC investigation into MF Global, citing his ties to Jon Corzine, MF’s chief executive and a former Goldman Sachs partner.

But the waiver was sharply criticized, not only by an industry that accused him of being too harsh on her. An internal CFTC watchdog questioned Gensler’s decision, and a senator openly questioned whether Gensler was “interested in protecting customer accounts or shielding himself from accountability.”

Obviously, some lessons run deep. Gensler and the SEC look like they’re trying to thwart a similar problem in crypto before it emerges. Perhaps it’s more about doing as much as possible since spot crypto assets are unregulated. But Gensler isn’t giving up the fight just yet.

As he told Bloomberg News overnight, Gensler is concerned about the lack of Chinese walls between different lines of business, from custody to market making to the exchange’s central order book. Here is the money quote from Gensler:

Crypto has many of these challenges – from platforms that are ahead of their customers. In fact, they often trade against their customers because they are market marking against their customers.

It again emphasizes – if it ever needed spelling – that calling these companies “exchanges” is only partially correct.

Boring old stock and derivatives exchanges don’t come with market making desks or venture capital arms. You don’t take any risk like a bank or broker does. They just match buyers and sellers (and beat up the resulting data).

Coinbase’s Armstrong took pains to point out that a Coinbase bankruptcy was a “black swan” event. In fact, he said clearly that “we have no risk of bankruptcy.” The thing is, black swans pop up in the wild from time to time. Here’s one we saw over the weekend.

More relevantly, Coinbase’s shares have lost more than four-fifths of their value since going public last year, and Coinbase’s June 2026 bonds are trading at around 68.5 cents, indicating serious market concerns (fair or not) over the stock indicates a financial mishap.

MF Global’s money was eventually traced and customers in a roundabout way and customers largely recovered. But it took years, involved many time-consuming legal battles, and the consumer protection regulation came into effect.

Should the unthinkable happen to a major crypto exchange, a similar outcome is hard to imagine.

Source: Crypto News Austria

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