Arthur Hayes discusses the rise of DCG Empire, understanding financial tactics at a glance.

BitMex founder Arthur Hayes published a lengthy article on his blog, following the footsteps of the white boy SBF, where Barry Silbert, the founder of DCG Digital Currency Group, a trusted white figure in the business world, takes the spotlight in this piece. The article elaborates on how DCG, through its subsidiaries Genesis and Grayscale, collaborated with 3AC, a venture capital firm, to stage an exciting financial drama, and how they ended up in a mess that they cannot clean up due to the market reversal.

Introduction to Role Division

Under DCG Digital Currency Group, there are Grayscale, a grayscale fund, and Genesis, a lending platform. Grayscale is responsible for issuing and managing funds such as GBTC, while Genesis provides lending services for BTC, GBTC, and USD.

In early July of this year, Three Arrows Capital, which filed for bankruptcy, 3AC, is reported to have participated in important roles alongside Gemini, an exchange affected by the Genesis incident, and BlockFi, which recently filed for bankruptcy protection.

Financial Cooperation Relationship Chart

Arthur cited an article from DataFinnovation to explain the operational relationship among these companies:

1. 3AC borrows BTC from Genesis as the lender and provides a small amount of collateral.
2. 3AC provides this BTC to Genesis as an authorized participant to create GBTC shares. Genesis appropriately locks the BTC in the trust through Grayscale and returns the shares.
3. Since these shares were previously traded at a premium, 3AC can pledge these shares back to Genesis to obtain a USD loan. If the premium is large enough, this loan is more valuable than the BTC they originally borrowed.
4. Because GBTC was previously traded at a premium, after the six-month lock-up period ends, 3AC can sell its shares at a higher price than the market price of BTC, earn the price difference, repay the loan, and make a profit.

Arthur also mentioned in the article that Gemini and BlockFi play roles similar to 3AC. Gemini's product, Gemini Earn, cooperates with Genesis, allowing Gemini users to earn higher interest by pledging BTC or USD. Gemini then lends its clients' funds to Genesis to carry out the financial operations shown in the diagram above.

From Positive Cycle to Death Spiral

Although this cycle seems perfect with the increasing leverage and profits from GBTC premiums, allowing 3AC to borrow up to $2 billion through this cycle, and generating substantial profits for Genesis and Grayscale with a 2% annual management fee on their funds, what happens when GBTC no longer trades at a premium and must trade at a discount, below the market price of BTC? Or if a sharp drop in price causes GBTC prices to decline as well? 3AC may face margin calls due to the decreased value of collateral, potentially leading to the inability to repay loans. What was once thought to be a fail-proof business turns into a death spiral. Could this also be related to the rumors of 3AC's bankruptcy and GBTC's separation?

In this scenario, the owners of Grayscale and Genesis certainly do not want their partners to face margin calls (as they would then be unable to recover the funds lent to these companies). To avoid this situation, since March last year, DCG has been attempting to prevent further widening of GBTC discount by raising capital and using cash on the balance sheet to buy GBTC on the open market. As shown in the figure below, they have not been successful.

With the bankruptcies of 3AC and FTX, the market turmoil has brought DCG and Genesis's financial issues to the forefront. Grayscale is the only cash cow in the group, with total GBTC assets of $10.4 billion and a 2% management fee, generating $200 million in revenue annually from a single fund. Will the discount on GBTC widen as DCG is forced to sell? Will Grayscale dissolve its trust? Or can you, like Arthur Hayes teaches, take advantage of GBTC discounts for arbitrage trading in the current market?