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🟡 Video Market Update April
recorded by Pascal Hügli
Insight DeFi is back with another video market update where first and foremost talk about the current macro picture. In that regard, the ensuing banking crisis makes headlines. As we can see, Things are not sound and resilient. Still, the Fed has just hiked interest rates another 25bsp, clinging to the fight of inflation. We talk about headwinds as well as tailwinds for BTC, look at why bankers are coming for the ever more deflationary ether, why memecoins have inaugurated shitcoins on Bitcoin through BRC-20 and what SUI's mainnet launch brought.
🟢 Liquidity Corner: Don’t be deceived
written by Pascal Hügli
A look at the numbers:
Net financial liquidity in the U.S. (excluding the BTFP emergency lending program):
April 21 (past newsletter issue): $5,273 trillion
May 05 (today's newsletter issue): $5,370 trillion
↗️️Increase of $97 billion
Net financial liquidity in the U.S. (with the BTFP emergency lending program):
April 21 (past newsletter issue): $5,992 trillion
May 05 (today's newsletter issue): $6,073 trillion
️↗️Increase of $81 billion
Over the past two weeks, overall liquidity in the U.S. financial system has increased. The Fed's total balance sheet, reverse repo programs, and the U.S. Treasury General Account have all decreased. Importantly, net financial liquidity has increased because the decrease in the Fed balance sheet has been more than offset by the other two factors. Also important: The U.S. government's bank account at the Federal Reserve (TGA) is about to be depleted, so it could soon cease to be a liquidity booster.
Here are the concrete figures on this:
Total balance sheet* of the U.S. Federal Reserve:
April 21 (past newsletter issue): $8,590 trillion
May 03 (today's newsletter issue): $8'500 trillion
↙️Reduktion of $90 billion
Reverse Repo Programs in the USA:
April 21 (past newsletter issue): $2,290 trillion
May 05 (today's newsletter issue): $2,242 trillion
↙️Reduktion of $48 billion
U.S. Treasury General Account (The U.S. government's "bank account" at the Federal Reserve):
April 21 (past newsletter issue): $281 billion
May 05 (today's newsletter issue): $188 trillion
↙️Reduktion of $93 billion
*Note we have a lag in the total balance figures, which is why they are 2 days behind.
A closer look at emergency credit facilities
In order to capture the overall liquidity flows in our complex financial system, it is also always important to keep an eye on the numerous credit facilities. Two important facilities in the U.S. are the Discount Window and the BTFP. The former has existed for a long time, while the latter was created by the Federal Reserve only a few months ago.
What they both have in common is that troubled banks can obtain emergency liquidity through these facilities. Because of history, the discount window is stigmatized today, meaning banks try to avoid it as much as possible. Historically, if it became known that a bank had tapped into the discount window, it was a death sentence because the bank was admitting that it was in deep trouble. Of course, the same is true for the BTFP. Again, it is through this vehicle that banks seek liquidity when they don't have enough of it.
Over the past few weeks, activity around these two emergency lending facilities has seemed to wane. The conclusion of many: the banks may not be under too much stress after all, as has been commonly assumed. However, this week's just reemerging banking crisis has shown that we are not out of the woods yet.
After all, one of the reasons why the number of distressed loans has declined is that not all of them have been captured. For example, loans to JP Morgan and the FDIC to purchase First Republic Bank are not accounted for by the two lending facilities. In fact, if these are added, the total amount of distressed loans has risen to $321 billion after all - that is, three times the peak level of distressed loans in 2008.
What do we learn from this? Official figures should always be double-checked…
🟢 Now it's time for trustworthy players!
written by Pascal Hügli
Every crisis is also a new opportunity. So is the current crypto winter. Caught ice cold last year by shocks such as the Terra Luna stablecoin collapse or the FTX fiasco, various crypto asset providers are still in shock. While some of them are unlikely to wake up, others believe to smell favor for themselves.
Among the latter is honesto. The fintech with offices in Switzerland and Liechtenstein intends to shake up the currently battered market for crypto assets. With around 20 employees from Switzerland behind it, the start-up, which was founded in 2019, has grown into a functioning trading app for crypto assets over the past few years.
Where are the risks?
A first glance at honesto's website reveals that the young company sees itself as the first Swiss trading platform for digital assets that offers the full protection of a regulated Swiss bank and thus brings Swiss legal, regulatory and security standards to the crypto world.
But what exactly does this mean for an ordinary crypto asset holder? Or, to put it another way, what dangers is the latter exposed to when using many other crypto service providers in the first place, and what exact protection does honesto offer thanks to its regulated banking setup?
"The risks lurk primarily in custody, which can be exposed to loss through bankruptcy, security failure or leverage," knows Mike Lüscher, Head of Investor Relations at honesto. "If security risks are misjudged or precautions are even ignored in custody, cyberattacks and hacks can cost you customers' coins." Equally precarious, he says, is speculation with customer deposits to maximize profits, which can ultimately end in the total loss of the same if risk management is poor. "All of this has already happened, as the past year has impressively shown us," states Lüscher soberly.
Cryptos trading made safe
All of these dangers and risks are to be eliminated at honesto, and this is where the aforementioned banking setup comes into play. "The majority of the digital assets are stored in the Swiss Alps, which means that what does not remain on the platform as liquidity for daily business is bunkered in the mountains.
The custody facility is thus protected from electromagnetic pulses, is nuclear bomb-proof and meets the world's highest security standards. This globally exemplary custody standard also qualifies the cryptoassets for reinsurance," explains Lüscher. This insurance of digital assets applies to an equivalent value of up to 5 million Swiss francs per case.
However, this is not enough. As one of the founding members, Lüscher also ensures that the digital assets held at honesto are not mortgaged, not leveraged and not used in any other way. This fact is ultimately due to the banking setup. "At honesto, we rely on the largest transaction bank in Switzerland, InCore Bank AG. As a pure transaction bank, the Finma-regulated financial institution is not authorized to promise loans or issue mortgages," Lüscher emphasizes.
The bank is also never allowed to speculate with customer deposits on the market. That makes InCore Bank a type of full-reserve bank. And because InCore Bank provides Honesto's basic set-up, all of the bank's regulations and peculiarities would also apply to the start-up. As far as liquidity is concerned, neither InCore Bank nor honesto would be thrown into a tailspin if all customers wanted to withdraw their crypto assets at the same time, the crypto aficionado emphasizes.
So from the customer's point of view, the private access keys belong exclusively to the customers, since honesto segregates them at the bank. For Lüscher, this is a key criterion, because it is the only way to ensure that customer deposits are secure and available at all times. Even in the event of honesto or InCore Bank AG going bankrupt, a customer's digital assets are not affected. "Unlike some other platforms, a customer's crypto assets never fall into the bankruptcy estate at honesto," Lüscher affirms.
A final important point regarding custody is the relation to Switzerland. The fact that clients' digital assets are held in custody in Switzerland also lets them sleep soundly with regard to politics. "Switzerland is one of the few countries where there has been no expropriation of gold or other assets in history," Lüscher affirms. The likelihood of cryptocurrencies being expropriated is therefore lower on a historical basis than in Germany or the US, he says. This fact should be taken into account.
Security versus total loss
Often, increased security and reliability come at the expense of convenience and more favorable terms. "Not so with honesto," argues Lüscher. "So that users, buyers and sellers of crypto assets no longer have to expose themselves to insecure marketplaces, we have created a setup that allows them to trade on crypto exchanges without ever having to leave the regulated and secure banking environment - neither with their fiat nor with their crypto assets," explains Lüscher.
As a result, honesto always offers the best possible price from over 20 of the largest crypto trading markets. According to Lüscher, however, this statement is not simply a hollow phrase. "The fact that we can actually deliver the best possible price to our customers is due to our contracts with one of the largest market makers in the crypto market," Lüscher elaborates. He also says that they have the advantage of being able to distribute larger orders across the entire market in order to handle higher volumes in a price-competitive manner. Honesto offers automated, fast account opening starting at 200 euros or Swiss francs, but experience shows that users of the trading app usually move larger amounts of money than is common on other platforms, Lüscher said.
Asked about the 1% trading fees as well as the 0.5% costs for custody and whether honesto is competitive with them, Lüscher argues as follows: "In Switzerland, most competitors cost similarly much or more. In some cases much more. Internationally, there are cheaper providers, but they are not defined by price and fees, but by security. "What good is it to trade cheaply if you still lose everything later because the provider you used was not professional enough?" And since one ultimately selects the best price from over 20 crypto trading exchanges, the 1 percent in trading fees would not have a noticeable impact anyway, according to the co-manager at honesto.
"A security and not a voucher"
honesto also has a number of plans for the future. In the medium term, the company would like to increasingly penetrate the area of tokenization of all kinds of assets. "The goal is to one day have everything that makes sense. For customers, we also want to tokenize assets that we can then offer on the platform. So not only can we offer everything from seed capital to listing, but likewise the secondary market via the app. This is a huge value chain," explains Lüscher.
In order to set a good example with the service "Tokenization as a Service" (TaaS), honesto has already created its own security token. This is a representation of a real value on the blockchain, because each security token is backed by a share of honesto, which in turn is registered in the commercial register. Holders of such a security token from honesto are therefore entitled to dividends but not to voting rights. The construct is similar to a participation certificate.
As Lüscher explains, the process of launching a security token was an ordeal that involved enormous effort. Indeed, the token was created before the Swiss DLT bill was passed and thus could not yet benefit from a clear legal framework that the new bill created in 2021 offers today. For the team around Lüscher, however, it was clear from the start: "We wanted a security and not a simple voucher. This makes us a pioneer, as we are also among the first movers in the future field of tokenization."
Law and order for the crypto jungle
However, the plans for tokenization are still dreams of the future. The immediate priority now is to roll up the market from behind. "The wave of company bankruptcies that is currently shaking the crypto world is playing into our hands." Thus, Lüscher is firmly convinced that regulation is coming, will separate the wheat from the chaff, and thus ultimately only the regulated players will survive: "We already fulfill all the upcoming requirements today and are thus ideally positioned for the ongoing shakeout in the market."
At honesto, they therefore believe that thanks to their compliance with regulatory requirements, they can also be successful abroad - especially if inflation and expropriations should shake the West around the EU, the UK or the US even more. "The special role of Switzerland and cryptocurrencies is likely to become increasingly obvious in the coming years," he said. "With Switzerland as a location and our app, we have created a solution with which people can protect their prosperity." Attributes such as security, stability, neutrality and reliability may be more in demand in the future than ever before. "This is certainly good for us," concludes Lüscher.
For this reason, honesto is working flat out to be allowed to accept crypto assets directly. "As yet, you can only deposit fiat money with us and use it to purchase digital assets. However, by the end of Q2 2023, we should be enabled by the appropriate regulation to accept cryptos directly," Lüscher reveals. Thus, they have successfully submitted the procedure to obtain a TVTG license in Liechtenstein and are now in the registration process. Once the registration is done, they will register with BaFin so they can go to Europe. honesto is also in negotiations with US partners in order to be able to roll out America in compliance with regulations.
About Mike Lüscher:
Mike Lüscher is Head of Investor Relations at honesto and co-founder of the same company. He has 25 years of experience in finance. From private equity to funds and real estate, to options trading. His true passion is sales. Mike is an inspiring and persuasive salesman.
He started as an options trader at the age of 19, trading primarily on US exchanges. The dotcom boom and the subsequent crash shaped him for the future. He saw exactly the same patterns and developments coming on the crypto market, which is why he founded honesto AG with Sanela Lüscher.
🟡 Crypto self-custodians are actually masochists
written by Pascal Hügli with Tobias Kress
Dear Tobias, you work as CTO for honesto AG and in this context you are also concerned about the future of custody solutions for cryptoassets. What can you tell us about them?
In the future, on the one hand, there will be solutions offered by banks in which the customer completely delegates his private keys. On the other hand, we see the trend towards so-called hybrid wallets, where the owner owns the key but does not have to worry about losing it because some kind of recovery option is offered.
What are hybrid wallets and what advantages do they have?
Hybrid wallets are wallets that allow the owner to store his crypto assets independently while counting on a recovery mechanism. The wallet provider stores an encrypted copy of the private key that can only be decrypted and downloaded by the owner.
However, this encrypted copy is then in the sole possession of the individual and can therefore be lost, or can it?
No, not if the encrypted copy is stored in the form of biometric data, for example. It's hard to lose these as an individual. With such a setup, wallet service providers have found a technical solution that allows one to effectively dispose of the private access key oneself, but without having to take care of it directly.
We figured that there are many exciting concepts in this area. For example, in addition to a facial print, a person's pulse rate can also be used for encryption.
There are many interesting approaches, yes. One interesting concept I worked out for my former employer is that you can only unlock your recovery files by making a bank transfer.
How does that work?
You use the authentication you need to make a bank transfer from a specific account as authorization to receive your wallet recovery files.
What advantage do you see with this particular solution?
I see it as one of the many exciting approaches to eliminating the use of biometrics. I don't really like them.
Why are you not a fan of biometric data?
I'm concerned that general surveillance is becoming more and more widespread. Today, there are already public scanners in China and elsewhere that can scan and recognize anyone. For example, if you use a wallet that uses biometric data, you create a target for misuse of that data. It is therefore important to be careful about who has access to this data. Government agencies can also take advantage of this type of data.
Let's get back to the technical innovations. There is also the possibility of recovering a private key via a smart contract.
Indeed. There are already recovery solutions where you give a smart contract authority over the account and set certain conditions for when the smart contract should change access to the account. This means, for example, that you can have a new private key generated if you lose the old one. The keyword here is account abstraction. Vitalik Buterin has written an exciting article for the Ethereum ecosystem in this regard.
How exactly does this work when a smart contract has access to an account wit its private key?
Actually, that's not quite the right way to put it, since smart contracts don't have a private access key. Ethereum distinguishes between normal accounts that are secured with a private access key and those that are maintained by smart contracts that do not have a private key. The exciting thing about a smart contract is that it can execute transactions without using a private access key, simply by adhering to the permissions set in its code. This means that a smart contract can be used to simulate an account held by a natural person, but does not require access to any private key.
How can you ensure that access to a new account is not manipulated from the outside?
There are several approaches. You could control the smart contract via various other private keys and thus, in a sense, set up a higher-level recovery access key. But you could also tie access to certain conditions, e.g. a longer period of inactivity.
Are there already solutions for such smart contract wallets on the market?
Yes. However, they had the disadvantage of being quite expensive. A recovery through a smart contract could cost up to one hundred and twenty francs in gas fees (transactions of a smart contract blockchain) in times of high transaction fees. Meanwhile, such solutions already offer off-chain recovery. In this case, the private key is encrypted and stored in the iCloud. So, these providers are also going in this direction and that is why a lot of work is currently being done on such backup options.
What about the concept of "social recovery"? Here I do not trust smart contracts, but other people I know personally.
I have acquired quite a lot of experience with social recovery when I was at Tatoshi Wallet. The issue here is a psychological one. People who are asked to help a friend protect their digital assets always think, "Oh God, I'm not up to this responsibility.
And is that the case? Is it really a security risk to act as a "guardian" or "protector" for someone else?
No. The technological solution is such that you don't have to be afraid of screwing something up for your friend. From a cryptographic point of view, nothing can go wrong. You can also create the necessary redundancy here. When I used to give talks at presentations with Tatoshi Wallet, I always projected the data of my protectors on the screen using a QR code. However, no one was able to hack my bitcoin on the address on display. Nevertheless, I believe that social recovery solutions need to deal with the challenge that people just don't like to talk about their finances with confidants - and so don't become a conversation, or option, at all
That's true. Especially not here in Switzerland.
Exactly. That's a paradox. Funnily enough, if you're excited about a normal product like a cool Nike shoe or a new cell phone, you're happy to recommend it to all your colleagues. But when it comes to your insurance broker, strangely enough, you don't recommend him, even if you are satisfied with him. This is due to the fact that among friends and colleagues people hardly talk about money and salary. Everything that has to do with finances is considered very private.
This is a good point. As a non-techie who trusts smart contracts less than his friends, I would nevertheless prefer social recovery wallets.
It remains to be seen what will effectively prevail. What we can currently observe with certainty is the fact that the classic non-custodial wallets, which simply let you write down twelve words, will strive out.
It is likely that different solutions will be established on the market for different needs.
I am also convinced of this. I think that about 80 percent will store their cryptos exclusively with banks and other institutions. These will be providers that store assets separately from the bankruptcy estate and are regulated. With that said, however, the majority of all crypto asset holders will outsource the custody effort entirely to a trusted third party.
And the remaining 20 percent?
Around 18 to 19 percent will opt for hybrid solutions. This means they do not relinquish control completely, but nevertheless benefit from a convenient solution where the effort is limited and the responsibility does not necessarily rest solely on their shoulders. The remaining 1 to 2 percent are then distributed among the few hardliners who want to do everything themselves. This group is not even prepared to pass on encrypted private keys to third parties. Instead, they rely on their own solution, which, however, requires a lot of know-how, skill and trust in themselves.
And it is precisely this effort that most people shy away from, isn't it?
Custody of cryptocurrencies requires a lot of responsibility and a concept as well as extensive considerations. It is comparable to backing up data on a computer. It is well known that hard drives break and the question is not if it will happen, but when. Nevertheless, few people - before the creation of backups was automated by Apple and Microsoft using cloud solutions - actually created backups. Ultimately, that can be explained by psychology.
We are curious. What's the explanation?
A hard drive crash is a negative event, and people don't like to deal with negative things in the future. For example, few people write a will before they are eighty, even though it would make sense to do so at any age. Most people have an aversion to dealing with negative or bad events in the future. This is the reason why people do not bother with either hard disk or crypto asset backups.
To put it somewhat casually, one could therefore conclude: Crypto self-keepers are actual masochists?
In a way, yes. Because anyone who gets involved in self-custody with non-custodial wallets will experience even more headwinds from the regulatory corner as well.
In what way?
In the EU in particular, more and more measures are being taken at the regulatory level to make trading with so-called "unhosted wallets" more difficult. Unhosted wallets are non-custodial wallets where the private access keys are only kept by the user on their own devices. The issue from a self-custodian's perspective is that coins and tokens from these wallets may become less and less acceptable for trading on established exchanges in the future.
In view of this problem, what is the argument for storing crypto assets independently and self-sovereignly at all?
In Switzerland, actually very little, because with the honesto solution, for example, we have an optimal custody solution. Here, customer assets are completely separated from the bankruptcy estate and protected from unlawful access. There are many countries that do not offer such framework conditions. Where there are no secure, regulated custodians and where there is no such legal certainty as in Switzerland, self-custody can make perfect sense.
That makes sense. Of course, if you go back to a third party for custody of your crypto assets, you may run the risk of not being able to access your assets, depending on the circumstances.
This is why it is so important to choose the jurisdiction carefully. Intermediary custody in Switzerland is likely to be qualitatively different from custody in Germany or the US.
What is the reason for this statement?
Historically, there has been no expropriation of gold or other assets in Switzerland. Therefore, on a historical basis, the likelihood of cryptocurrencies being expropriated is lower than in Germany or the US. Given that crypto assets will remain a politically sensitive topic, I therefore believe it is essential to keep a country's legal framework and legal traditions in mind when holding cryptocurrencies.
Tobias Kress worked in the banking industry until the end of 2017. After his employer at the time showed no interest in opening up to Bitcoin and other free blockchains, he founded his own company in early 2018 and specialized in software development for blockchain projects. Since 2021, he has also been CTO of honesto AG Switzerland.
🟢 Meme Section
The content does not constitute an individual investment recommendation or an invitation to buy or sell crypto assets. Insight DeFi disclaims any liability as a result of actions based on the contents of the newsletter. The Insight DeFi team holds some of the crypto assets featured in this newsletter in their private portfolios.
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