What I got wrong about crypto: Voyager, Celsius, and Greed.

Meme: “I’m rich! I’m poor!”

For the sake of this article, I’ll cover some definitions first. The promise of cryptocurrencies is to decentralize finance (“DeFi”) and serve as an alternate financial system to traditional banks (“TradFi”). CeFi stands for Centralized Finance, which refers to crypto firms that hold customers’ crypto. Think of CeFi as crypto banks (Coinbase) that help onboard everyday customers into crypto.

I put too much trust in CeFi firms

In crypto, there’s the phrase “Not your keys, not your crypto.”

Keys refers to the private key that you’d use to access crypto if you held it on your own via something like MetaMask or hardware wallets. To hold your own keys represents the purist crypto philosophy of self-custody and not using banks. To hold your crypto with a company is to “give up your keys” because now they have access to – and control- the funds. Just like traditional banks.

I’m feeling the impact of this right now as tens of thousands worth of my crypto are now stuck in Voyager and Celsius, who have both halted withdrawals. Not to mention the recent implosion of Stablegains.

Crypto banks are like normal banks, but without consumer protection

What CeFi firms promise: “Hey, you got crypto that you can custody on your own. But let us hold it for you, and we’ll give you sweet interest rates and a better user experience.”

That sounded fair to me. After all, it’s what I’m used to from regular banking. It’s not unheard of to lose keys to your own wallet. In a truly decentralized world, if you lose funds or access to them, there’s no recourse.

To me, CeFi offered a user friendly way to hold my funds, providing customer support and didn’t make me feel like I was in the Wild West of crypto on my own.

(It’s the same logic I apply to password managers: better to leverage user-friendly tool than manually write and manage passwords on my own.)

I also trusted the business model of the CeFi firms. “Hey, to generate yields we’re going to use your money to make money.” Again, sounds just like what a normal bank does.

The only difference is that most of these crypto firms do not have FDIC or SIPC insurance. So in the event that there’s loss incurred by a financially troubled bank, there’s no recourse. While this is just like most investment products (especially alternative investing), I took this granted. No one thinks they’ll need something like FDIC insurance until something bad and unexpected happens.

It’s about financial mismanagement

This tweet thread by Midas Investments founder elegantly summarizes what happened with these troubled CeFi firms:

Yield is the core driver of the crypto-economy. The 2022 truth is that crypto needs CeFi yield services to increase adoption in retail capital. DeFi is too hard to onboard, so retail liquidity will naturally flow towards the simplicity of CeFi yield….

The core problem of CeFi is reflected in Celsius is the centralised authority that manages assets in favor of itself gathering all long-tail crypto risks giving false simplicity to users through yield.

In less words, some huge crypto firms took on too much risk and things blew up. To be fair, other CeFi firms like Gemini, Nexo and Coinbase are still operating as expected without holding customer withdrawals.

To understand what happened recently in the crypto markets, these two podcasts do a great job of breaking down what happened:

There’s a difference between Lehman Brothers and JP Morgan.

What’s happening now is crypto’s version of the 2008 Great Financial Crisis. While the GFC was connected to the housing bubble, this time it’s the CeFi crypto firms that who engaged in irresponsible behavior and financial mismanagement.

The silver lining

The 2017 crypto crash happened because a bunch of coins flooded the market through ICOs. The crash there was caused less by macroeconomic effects and more from crypto’s own implosion.

Fast forward 4 years later and we have a matured crypto market with interesting utilities:

  • DeFi offers amazing money legos that offers decentralized ways to trade, borrow, lend and do all sorts of interest money legos shit. A lot of the smartest people continue to leave traditional jobs to pursue DeFi.
  • DAOs are becoming a compelling new organizational structure, e.g. coordinating capital in record time to bid on the constitution
  • NFTs are pushing the boundaries of what creatives can do, and is maturing the ownership economy

2022’s crypto bear market is partially caused by the broader economy, bad financial management from CeFi firms as discussed above…but the fundamentals of crypto are much stronger than in 2018. And I think the innovation will only continue.

If you survive a bear market, you’ll be more ready for the next one. And perhaps even profit from it.

Personally, while I continue to diversify, I’m still dollar cost averaging into Bitcoin and Ethereum every week. (Not financial advice).

The lessons I’ve learned about crypto (and beyond)

If nothing else does, this article should serve as testament that my writings are not financial advice. I’m more of a financial guinea pig who experiments with new things and shares about it.

Lesson 1: I was too greedy

This is the domino motivation that drove my recent losses. I wanted the juicy interest rates offered by CeFi firms. I didn’t question deeply enough where those rewards would come from, and how sustainable they were.

Greed lead me to underestimate other tail risks: what if this platform doesn’t have insurance? What if the company goes under? What’s the tradeoff between holding my own crypto vs letting this particular firm hold it?

But I also acknowledge what thousands of other CeFi customers feel: How could I have known?

After all, these were big firms that had tons of funding, social media presence, and a high caliber team. Heck, Voyager is a public company – they couldn’t be that reckless, right?

How much we invest is the primary defense investors have when it comes to new investments and platforms.

Thank God I didn’t lose my entire life savings in crypto. Speaking of which…

Lesson 2: Deeper respect for diversification

“Diversify your portfolio” is such a fundamental concept that it gets ignored.

In my financial annual review I shared how I wanted to diversify more into other assets. Recent events have only accelerated that.

I still believe in crypto and am still buying in this downturn, but I’m slowing down my buying. I’m buying more stocks and REITs, and holding onto more of my cash.

(A bit counterintuitive – diversification allows you to buy things on sale. So because not ALL of my money is in crypto, I can still afford to buy crypto when it’s really cheap, which is right now.)

Diversification not only refers to assets, but also to where you hold those assets.

I’m glad I diversified across different crypto firms so that my eggs weren’t all in one basket. In TradFi terms, if you have $500K and your savings account only offers $250K worth of FDIC insurance, then it makes sense to split that money across different insured accounts.

My next level of growth as an investor is to make better diversification decisions.

Lesson 3: Invest in myself, now

This is more of a life lesson. Losing so much money recently has actually created a surprising new motivation for me to spend more money…on stuff that matters to me like travel, content creation, and new experiences.

Investing is such a long term game and can feel unreal and detached. So when I see that a certain money of money is just arbitrarily wiped out, I’m motivated to think “How could I have invested that money in myself?”

Youtuber TechLead put it best:

“Fundamentally, I feel that for many people (investing) to be a pointless pursuit, where they’re just making money for the sake of making more money…to be invested in the stock market to make more money. And many people don’t use that money for anything interesting in their lives at all.”

In Psychology of Money (read my review), Morgan Housel shared that the nature of surprises is that they’re unpredictable.

“What you should learn when you make a mistake because you did not anticipate something is that the world is difficult to anticipate. That’s the correct lesson to learn from surprises: that the world is surprising.”

Yes, I’ve been surprised many times in 2022 so far. I expect more surprises – good and bad – from the world of investing.

At the same time, there’s a complementary mental model: “It might not be your fault, but it’s still your responsibility.”

Crypto losses and CeFi going under may not be “my fault,” but it’s still my responsibility to manage my money.

“Maybe it was a gift”

I can’t shake the thought of how much more this would all hurt if I were near retirement age.

I find solace that the lessons I learn now about risk and diversification will serve me in the next few decades until I retire.

It’s time to be a more disciplined investor. If you’ve been negatively affected (who hasn’t) by the financial markets, then I wish you well, and hope the lessons stick.

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