Celsius and BlockFi, Counterparty Analysis

My whole adult life from 18 to 35, I’ve earned nothing on my cash.

The collapse of interest rates due to easy money from central banks killed the traditional savings account. In the early 1980s savers had access to double digit yields but now the average savings account pays .05%.

Bitcoin has proven to be an efficient store of value, leading to broader acceptance. One of the results of its increasing adoption is that platforms are now offering interest on bitcoin with attractive rates.

My current fiat savings account pays .23% interest while most crypto interest platforms provide 4–6% on bitcoin and 10% on stablecoins. That’s over 40x more than my current account.

And I can earn interest in bitcoin. Now I can hold an asset with immense upside, earn interest, and get paid in that same asset. Finally, I have an avenue to take advantage of compound interest and build wealth.

But earning interest doesn’t come without risks. The goal of my research was to learn more about these companies, how they take custody of bitcoin, their risk management experience and who they’re backed by.

Celsius and BlockFi are the two largest of the companies in terms of users and assets under management.

A couple notes:

• My top priority is to feel comfortable that my principal is protected. For example I won’t use a company if they offer a slightly better yield but are less reputable. My research did not consider withdrawal fees, instant withdrawals or app usability.
• I’m a BlockFi customer and have been since November 2020. I’ve considered placing a portion of my interest-bearing funds with another company in order to spread out my risk.
• Both companies use language that allows them to rehypothecate client funds. Rehypothecation allows banks and brokers to lend assets that have been posted as collateral by their clients. It allows them to generate interest and pass that interest along to depositors.

Business Model

Celsius and BlockFi earn interest from fiat and crypto loans to financial institutions and they pass a portion of the interest to their depositors. Each company also collects interest on crypto backed fiat loans to retail borrowers.

Celsius lends to hedge funds, exchanges, institutional traders and family offices.

• The breakdown as mentioned by Celsius is as follows: 35% hedge funds, 40% family offices and the rest are exchanges and market makers.
• BitFinex, an exchange, is a borrower

BlockFi lends to institutional and corporate borrowers including:

• Fidelity
• Susquehanna Investment Group
• Chicago Mercantile Exchange (CME): BlockFi is a liquidity provider for CME bitcoin futures and options which are cash settled. This means BlockFi is providing fiat to CME, not bitcoin.

Risk Management

Celsius and BlockFi thoroughly vet institutional borrowers by going through their balance sheets and trade histories.

Both companies track market moves and their effects on loan-to-value (LTV) of their institutional and retail loans. Large price swings can move the LTV into an undesirable range in which case they notify the borrower. The borrower can either add more collateral, pay back the loan or BlockFi/Celsius can sell all or part of their collateral to get the LTV into a more desirable range.

Both companies emphasize that institutional and retail loans are “over-collateralized”.

In a YouTube AMA the CEO states Celsius doesn’t make uncollateralized loans but that claim is in conflict with a statement from a Celsius spokesperson.

BlockFi has also alluded to making uncollateralized loans. “If, say, JP Morgan wanted to borrow a million dollars from us, we probably wouldn’t need to take any collateral.”- CEO Zac Prince.

BlockFi also answers the question of what happens in the case of their borrowers being liquidated stating, “BlockFi client funds are structured to be at the top of the capital stack, senior to BlockFi equity and BlockFi employee capital. This means BlockFi’s business and client incentives are aligned and BlockFi would take a loss before any client would.”

Custody

Per Celsius, deposited crypto assets go to Fireblocks, a hot wallet using multiparty computation (MPC) security. MPC allows them to share signing responsibility among a group of otherwise non-trusting entities.

• Fireblocks is SOC 2 Type II certified and insured although it does not mention the policy value.
• Celsius has a $10M insurance policy for assets in transit per a conversation with an employee on Clubhouse.

BlockFi uses Gemini as their custodian. Per Gemini, “The majority of your assets are held in our offline, air-gapped Cold Storage system. Only a small portion is held in our online Hot Wallet, which is insured.”

• Gemini hot wallet is secured via Hardware Security Modules (HSM) rated FIPS 140–2 Level 3 or higher.
• Gemini uses geographically distributed Hardware Security Modules (HSM) for their offline cold storage. Private keys are generated and stored at the HSMs for their lifetime. They also use multi-signature security to eliminate single points of failure.
• Gemini cold storage is rated FIPS 140–2 Level 3 or higher and is insured for $200M. $200M is does not cover the entirety of Gemini assets.
• Gemini is SOC 2 Type II certified, undergoes regular bank exams and is subject to the cyber security regulations of the New York Department of Financial Services.

Founders

Celsius

Alex Mashinsky — Co-founder, CEO, Chairman

• On his personal website he takes credit for being the “inventor of VOIP”
• Mashinsky did not invent VOIP. The first VOIP data packet transmitted was in 1973 by Bob McAuley, Ed Hofstetter, and Charlie Radar via ARPANET at MIT’s Lincoln Lab. Mashinsky would’ve been around 7 years old in 1973.
• After researching VOIP history I was unable to find any evidence of Mashinsky. Multiple sources credit Alon Cohen with creating the first commercially viable VOIP application in 1995 and he holds the patent for it.
• Per his website Mashinsky founded Arbinet in 1996 as an exchange for telecom companies to trade unused long-distance minutes. His Celsius bio states Arbinet IPO’d in 2004 with a market cap of $750M.
• Per their SEC filing Arbinet IPO’d for $423M in 2004 and Mashinsky was not listed as a shareholder. He was listed as the founder but not listed as part of Arbinet management as of the IPO date. He was also listed as a consultant who was paid $6,666 per month.

Celsius website

• As part of his settlement agreement with Arbinet, Mashinsky was required to surrender all his shares prior to IPO.
• On his personal website he is shown to have founded Transit Wireless, a company that builds and maintains infrastructure to provide WiFi access for the New York City Subway. The website claims Mashinsky exited the company when it was worth $1.2B. The company was acquired by Broadcast Australia (now BAI) but I could not find any acquisition or revenue information to substantiate this claim.

S. Daniel Leon — Co-founder, President, COO

• According to the Celsius website, Leon is a managing partner at a venture capital firm called Governing Dynamics (founded by Mashinsky). On the front page of their website Governing Dynamics claims credit for the Arbinet IPO which they claim as $135M. Governing Dynamics was not listed as a shareholder at the time of IPO.
• Per Celsius, Leon was CEO of Atlis Labs an online community for local recommendations. It was founded in 2014 and closed in 2017.

Nuke Goldstein — Co-founder and CTO

• Goldstein is the founder and CEO of Sevenpop, an interactive music technology provider for venues including hotels and shopping centers. The business is listed as closed in 2020.

BlockFi

Zac Prince — CEO and co-founder

• Prince was formerly in business development at Orchard Platform (acquired by Kabbage). Orchard was a Broker Dealer and Registered Investment Advisor (RIA) in the online lending industry.
• Prince was formerly in business development at Zibby (now Katapult) a consumer lending business that integrates with retailers at the point of sale. Katapult offers financing to customers with little credit or low fico scores.
• Prince previously held positions at AdMeld (acquired by Google for $400M) and Sociomantic (acquired by Dunnhumby for an undisclosed amount over $100M).

Flori Marquez — Co-founder and SVP of Operations

• Per Marquez’s BlockFi profile she was Head of Portfolio Management for Bond Street (acquired by Goldman Sachs). Bond Street was focused on small business lending and was acquired by Goldman in September 2017.
• She also worked for Oak Hill Advisors a fixed income asset manager. Her LinkedIn profile lists her as an analyst during her time there.

Investors

Celsius

• Initial Coin Offering (ICO) — From March 16–22, 2018 Celsius sold 325M CEL tokens for a total of $50M.
• Alpha Sigma Capital
• Tether. Tether has law suit filed against it in the state of New York. The plaintiffs accuse Tether of issuing their stablecoin, USDT, unbacked by the US Dollar.
• Additional programmatic release of 50M CEL tokens
• Tokentus Investment AG

BlockFi

• Galaxy Digital
• Valar
• Winklevoss Capital
• Coinbase
• Susquehanna
• Several others including Morgan Creek Digital

BlockFi investors

Licenses/Regulations

*Not every state requires a license

Celsius

• Registered as a Money Service Business with the US Treasury
• Does not have state lending or money transmission licenses per Chief Compliance Officer Jeremy Beaudry.

BlockFi

• Registered as a Money Service Business with the US Treasury
• Their website provides a list of state lending and money transmission licenses

Other Notes

In May 2020 BlockFi experienced a data breach which exposed customers’ names, emails, date of birth, addresses and account history.

According to the BlockFi incident report, “Every action the unauthorized third party took with respect to our systems was logged, and BlockFi was able to confirm that no funds, passwords, social security numbers, tax identification numbers, passports, licenses, bank account information, nor similar non-public identification information was exposed as a result of this incident.”

Conclusion

BlockFi has founders with experience in lending and risk management. They’ve gone through the steps to get state licenses, they’ve got investors with a proven track record and partnerships with top institutions.

Peter Theil (founder of Valar, Paypal and Palatir) was one of their largest investors. Susquehanna, another investor, has been around since 1987; you can’t stay in business that long without understanding how to manage risk.

This is evidence of the strength of the team at BlockFi.

Their clients include the Chicago Mercantile Exchange (CME est. 1898) and Fidelity (est. 1946), two of the most well-known financial institutions on the planet.

With Gemini as their custodian, I feel secure in regard to the physical custody of deposits. Given their lending experience, emphasis on security and risk management I will remain a BlockFi customer.

Given the misleading claims by their founder and their lack of experience in lending and risk management I will not allocate to Celsius.