A vague tweet by a founder of Three Arrows Capital, an influential hedge fund that has been liquidating crypto holdings as prices plummeted, is stirring fresh apprehension in an already shaken industry.
“We are in the process of communicating with relevant parties and fully committed to working this out,” former Credit Suisse Group AG trader Zhu Su tweeted from his verified account, without providing further details. Zhu and Three Arrows co-founder Kyle Davies didn’t respond to requests for comment.
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Zhu and Davies are thought to be among the world’s biggest crypto holders. Any sign of stress on their operations would be unwelcome news for industry bulls. Three Arrows was estimated in March to be managing around $10 billion in assets, according to blockchain analytics firm Nansen. While information on its trading strategies is sparse, Three Arrows is known to hold stakes in a diverse range of different cryptoassets. It also owned more than 5% of the Grayscale Bitcoin Trust -- the world’s largest Bitcoin fund -- as of December 2020, according to the latest available regulatory filings, though it’s unclear whether Three Arrows has maintained that position.
Three Arrows is among the highest-profile players in decentralized finance, an especially buzzy arena of digital commerce whose hallmark is the use of cryptocurrencies as collateral for major loans and leveraged bets. But when the market goes through rocky periods and token values decline, those positions can be automatically liquidated in quick succession, forcing hedge funds like Three Arrows to either spend more in support or face being wiped out. Mike Novogratz, the billionaire founder of Galaxy Digital Holdings Ltd., said earlier this month that he expects two-thirds of crypto hedge funds to fail during this market rout.
Crypto markets had already witnessed two high-profile blowups since early May, roiling an asset class that was under pressure from tightening monetary policy. First, the Terra decentralized-finance ecosystem collapsed when an algorithmic stablecoin that was a key part of it crumbled from its dollar peg. About a month later, crypto lender Celsius froze withdrawals on a platform where it offered high returns, citing a need to “stabilize liquidity.”
Three Arrows was among investors in a $1 billion sale earlier this year of Terra’s Luna cryptocurrency, the sister token of the TerraUSD stablecoin that lost almost all of its value in May when TerraUSD’s dollar peg broke. But recent attention around the fund has centered around its exposure to a cryptocurrency called staked Ether, or stETH, a token offered by a DeFi app called Lido Finance that has become widely used in the market.
‘Big Haircut’
The stETH token is supposed to be redeemable for one Ether coin after a planned upgrade to the Ethereum network takes effect; Lido offers users an interest rate to lock up their Ether -- allowing them to earn passive income without having to sell their Ether tokens. In exchange, they receive stETH, which they can then lend or trade on other platforms while they wait for the protocol to finish upgrading. Lenders like Celsius make their money by doing this on users’ behalf: taking their Ether in return for a small interest rate, then locking up that Ether on Lido in return for stETH for use in trades and lending. And funds like Three Arrows are also involved in trades like these.
Lately, though, selling pressure has caused stETH to uncouple from its relationship with Ether, creating further problems for users that used it in loans and investments. In the case of Three Arrows, the fund started withdrawing stETH from decentralized platforms last month, according to Nansen. As recently as Tuesday morning, it withdrew more than 80,000 stETH from decentralized lending project Aave in four transactions and then swapped 38,900 of the stETH for 36,700 Ether.
The trade may have resulted in a “big haircut,” said Andrew Thurman, content lead at Nansen.
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Swapping stETH into Ether at lower than 1-to-1 ratio could be an indicator of urgent liquidity needs, market observers say. The price of stETH has tumbled 41% in the past seven days to $1,055.14, while Ether has declined 39% to $1,116.17, according to CoinGecko. The total market value of cryptocurrencies tracked by CoinGecko has plunged to $944 billion from $3 trillion in November.
Zhu said in late April that Three Arrows was planning to move its headquarters to Dubai from Singapore, citing opportunities to expand the business. The fund was at the “early stages of exploring” raising money, he said on the Signal messaging app at the time, without providing details.
©2022 Bloomberg L.P.
