The latter token allows people who own ETC to “participate in Ethereum-based decentralized finance (DeFi) services,” according to Coindesk.
One such service, Celsius Networks, pays interest on investors’ cryptocurrency holdings.
At the time of the announcement, Decrypt contributor Connor Sephton wondered what the point was of creating Wrapped ETC. After all, for those who wanted to participate in DeFi, Sephton argued, wouldn’t it make more sense to buy Ethereum?
As someone who’s trying to become crypto-literate, I’m wondering the same thing. From where I sit, I don’t believe that Wrapped ETC is DeFi nirvana.
To illustrate why I feel this way, I’ll take a look at Celsius Network, one of the largest crypto lenders on the planet.
DeFi and CeFi
Celsius Networks has more than 786,000 members and $21.3 billion of community assets. It has processed more than $8.2 billion of loans since launching its lending operations in July 2018.
In April, Benzinga published an article about the best brokers that pay interest on uninvested cash.
Interactive Brokers was one of the names on the list. It has a tiered, blended-rate system based on a combination of the cash in brokerage accounts and the net asset value of accounts. According to Benzinga, an Interactive Broker customer with a $50,000 account balance and $13,000 in cash would earn interest of 0.219% on the entire $50,000.
Celsius’ offering is similar to that of Interactive, but the annual percentage rate that investors receive on their cryptocurrency is generally much higher.
For example, if an investor owns two Bitcoins (CCC:BTC-USD) through Coinbase.com — currently worth around $35,775 per Bitcoin or $71,550 for the two — and transfer them to your Celsius Wallet, they are then in line to earn 6.2% interest over a 12-month basis.
Celsius does a good job explaining how it can pay such high interest rates on its Bitcoin deposits. Just like the Interactive Brokers account, the amount of interest that investors receive from Celsius will vary based on the value of Bitcoin.
The Risk Associated With Crypto Lending
Hypothetically, if Bitcoin went to zero, its owners could lose their investment and any interest they were paid on those coins.
When it comes to using Bitcoin as collateral for loans, because the collateral provided by borrowers is generally greater than the loans, the risk of default at present isn’t very high.
For example, if one were to use two Bitcoins as collateral for a $25,000, 1%, three-year loan, he or she would have to put up an additional 0.8018 Bitcoins, or $28,684. That’s a 25% loan-to-value (LTV) ratio.
If the interest rate is increased to 8.95% over three years, the collateral drops to 1.4009 Bitcoins, equaling a 50% LTV. If the borrower fails to pay interest on time, Celsius will use the collateral to pay down the loan.
The risk of such loans is minimal when the value of cryptocurrencies is rising. However, given the volatility of Bitcoin and all the other cryptocurrencies, including Etheruem Classic, a 50% LTV could quite quickly become a 100% LTV during a flash correction like the one that happened in May.
But as Celsius rightly suggests, the banks could give savers higher interest rates, but they don’t.
“Most banks typically have between 14–25% return on their capital, so by paying customers 1% in interest, they’re keeping over 80% of the profits and distributing these earnings to their shareholders, usually in the form of dividends and share buyback,” Celsius wrote in 2019.
Crypto lending, while possessing risk, could become a more efficient peer-to-peer lending facility than what exists today, making this kind of DeFi very compelling.
Ethereum Classic 2.0
As I continue to remind readers, I’m on a journey to become crypto literate. By no means am I an expert.
So when I was asked to write about Ethereum Classic, I immediately jumped on the concept of wrapped tokens and their use in DeFi. And while I get the idea of using a wrapped Bitcoin token to facilitate smart contracts, etc., I have a much harder time understanding why I would want to own Ethereum Classic, wrapped or unwrapped.
With so many different cryptocurrencies available that can be deposited with Celsius, I have a hard time understanding why I should buy Ethereum Classic, the 22nd-largest by market cap.
In 2016, as Sephton mentions in his article, Ethereum Classic and Ethereum went in separate directions due to a multi-million-dollar hack.
Today Ethereum is pursuing a proof-of-stake consensus algorithm, which I like from an environmental standpoint, while Ethereum Classic is staying true to a proof-of-work concept.
As I search for DeFi nirvana, to me, it’s almost like receiving top-notch customer service. I’ll know it when I see it. Wrapped Ethereum Classic is definitely not it.
On the date of publication, Will Ashworth did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Will Ashworth has written about investments full-time since 2008. Publications where he’s appeared include InvestorPlace, The Motley Fool Canada, Investopedia, Kiplinger, and several others in both the U.S. and Canada. He particularly enjoys creating model portfolios that stand the test of time. He lives in Halifax, Nova Scotia. At the time of this writing Will Ashworth did not hold a position in any of the aforementioned securities.