This article was also published on e27.
As a burgeoning digital asset class, cryptocurrencies attract a colourful cast of investors. These include those who dabble for fear of missing out, traders looking to flip tokens for short-term gains, as well as “crypto whales” who buy as much as possible and sit on it long-term.
For investors who plan to hold (or rather, HODL) their Bitcoin holdings for the long haul, the key challenge is probably the lack of immediate benefit. After all, it could take years before you realise your investment gains.
Fortunately, with the rise of crypto loans, it’s now possible for buy-and-hold investors to generate cash flow from their crypto holdings.
This article will explain how such loans work, who might want to consider them, and their benefits and risks.
How does a Bitcoin loan work?
For simplicity, let’s talk only about Bitcoin loans. As the grandfather of all cryptocurrencies, Bitcoin enjoys the most institutional acceptance and offers the most options for crypto loans.
A Bitcoin-backed loan works a lot like a traditional secured loan such as a mortgage or car loan. You borrow a lump sum of cash and pay it back, with interest, over a stipulated period.
Meanwhile, the lender holds your assets as collateral to reduce the risk of you defaulting on the loan (not that you would!). You remain the rightful owner of your Bitcoin. However, as long as you still have the outstanding fiat loan, you can’t freely trade or sell the BTC that is held as collateral.
This arrangement results in liquid fiat money for you to use or invest, without requiring you to sell your Bitcoin. Thus, you retain the potential long-term upside of your crypto assets.
3 reasons to take a Bitcoin loan
If you have a significant amount of Bitcoin in your name with no plans to use or sell it anytime soon, a crypto loan could be worth considering.
Generally, borrowers get Bitcoin-backed loans for the following reasons:
For investment purposes: Many crypto natives and investors use the fiat from their Bitcoin loans for other investments such as crypto trading. Crypto trading — especially arbitrage trading — is lucrative, but fiat-intensive since each trade has to be fully settled in fiat. If the potential upside from trading outweighs the loan’s interest rate, it may make financial sense to take a Bitcoin loan.
To fund mining operations: While Bitcoin mining remains lucrative, its operational costs can be prohibitive — all the more so since electricity bills and computer hardware need to be settled in fiat. Miners pledge their Bitcoin holdings as collateral in loans on the assumption that their earnings would exceed the interest rate of the loan.
For business or corporate use: BTC-holding corporations or other entities also take on crypto loans as working capital or for investment purposes. An example of this is MicroStrategy borrowing US$205m from Silvergate Bank to “further execute against [its] business strategy.”
How much collateral do I need for a Bitcoin loan?
Bitcoin loans typically have a loan to value (“LTV”) ratio of 50%, meaning you can borrow up to 50% of the value of the BTC you offer as collateral.
To calculate the amount of collateral needed for a Bitcoin loan, simply double your desired loan in fiat. For example, if you need to borrow US$10 million in fiat, you would need to offer US$20 million in BTC as collateral.
A 50% LTV ratio is commonly practised by most loan providers to manage the volatility risks around cryptocurrency. It ensures that the loan’s value is still covered even if the price of BTC falls suddenly.
What happens if the price of BTC falls?
Should the price of Bitcoin fall below a certain threshold while you still have an outstanding crypto loan, you may be obliged to top up the collateral such that the LTV ratio remains at 50%. This requirement is known as a “margin call”.
Due to the volatility of the asset type, margin calls are a real possibility. Borrowers should be mentally and financially prepared for them. That means you should not pledge your entire BTC portfolio for a loan — you’ll need some BTC in reserve in the event of a margin call.
At Fintonia Group, our crypto loans have suitable margin call thresholds where you need not worry about every single price fluctuation. Margin calls are triggered only when LTV is at 70% and 80%. At 85% level, borrowers may face auto liquidation.
Note that borrowers who fail to comply with margin calls or default on their loans may forfeit their collateralised Bitcoin.
Will my collateral be safe?
Security is a huge issue in the crypto space. Any savvy investor ought to be wary about theft, hacking, and fraud, which are commonplace in the crypto ecosystem — and the same concerns extend to crypto loans.
Borrowers depositing a significant amount of crypto as collateral should run background checks on their providers and consider the security measures in place.
At Fintonia Group, we work with a fully-insured third-party custodian who utilise state-of-the-art security measures that reduce the risk of theft or loss of your assets.
Why take a Bitcoin-backed loan with Fintonia Group?
As one of the only crypto liquidity providers that’s regulated by the Monetary Authority of Singapore, Fintonia Group is a cut above the rest. Be assured that your Bitcoin holdings are managed by a financial services provider that complies with stringent regulatory standards.
Borrowers can choose crypto loan amounts ranging from US$1 million to US$50 million, typically at an LTV ratio of 50%. It is possible to obtain a larger loan, subject to individual assessment. Loan tenures range from 1 month to 12 months, depending on your needs.
With Fintonia Group, it’s possible to gain fiat liquidity while retaining the long-term upside of your crypto portfolio, so you can have your cake and eat it too.
Click here for more information on crypto loans with Fintonia Group.