Crypto Bonds Are Coming – What Potential Investors Should Consider
The announcement of a $1 billion bond issuance – with significant proceeds to be allocated to purchasing bitcoin – has certainly made headlines, but in the context of broader blockchain and cryptoasset adoption it also raises several questions and considerations that should be addressed.
Cryptoassets, and specifically bitcoin, have become topics of mainstream financial conversations and have burst into the mainstream conversation during the last year or so. That said, and even with the rise of blockchain and cryptoassets permeating financial markets and other aspects of society, one aspect of this technology had remained unaddressed; debt financing. Debt financing is an integral part of how most – if not all – organizations and nations finance continuing operations. The intersection and integration of bitcoin (and crypto at large) with traditional financial markets and market functions looks set to continue unabated as the calendar flips to 2022.
There are certainly quite a few headlines and stories that will invariably accompany such an announcement, but there are several considerations that every potential investor or policymaker should take into account before proceeding.
Pricing. The $1 billion bond that is going to be issued by the nation of El Salvador is going to pay a coupon interest rate of 6.5% once it is issued, which might seem appealing given current interest rate levels. Peeling back layers, however, reveals that this nominal interest rate is perhaps not as appealing as it initially appear; rising inflation rates across the globe will continue to eat into these coupon payments. For any corporation or nation seeking to issue debt collateralized by cryptoassets this is an important factor to consider; will the interest rate payment be able to be adjusted given changes in the business environment?
Like any other financial instrument there are several components and factors that need to be examined prior to issuance, but – especially given the current interest and inflation environment – paying close attention to the interest rates offered on said instrument should be top of mind.
Collateral. Outside of the pricing of a bond or other financial instrument there is also the issue as to how this bond will be collateralized, i.e., how this instrument will be supported. Bitcoin bonds and other related financial instruments might be attracting the most attention in the current marketplace, but only represent one option for interested parties going forward. Cryptoassets have developed fay beyond simply bitcoin and bitcoin related instruments, and this array of cryptoassets are also available to support the issuance of more traditional financial assets such as bonds.
For policymakers seeking to issue or govern crypto collateralized bonds or other financial instruments the decision as to what specific cryptoasset will support the bond is an important one.
Reinvesting. One of the most notable and interesting aspects of the bitcoin bond to be issued by El Salvador is that approximately 50% of the proceeds, about $500 million, will be used at a pre-determined point, to purchase additional bitcoin. The other 50% of the bond proceeds, estimated to be about $500 million, will be used to finance and construct the much-discussed bitcoin city, but there is no reason why every crypto-collateralized bond would have to operate in a similar manner.
One question that should always be asked – and assessed – is what exactly the proceeds of the bond (or other) issuance will be used for. Clearly the utilization of proceeds for the construction of fixed assets should be expected, but adding in the additional potential aspect of reinvestment can further complicate the situation.
The issuance of bonds and other financial instruments with a cryptoasset component is a trend and direction that does not seem to be fading away. On the contrary, the merging and integration of cryptoassets with traditional financial instruments seems well situated to continue to expand and further develop moving forward. That said, and setting aside the hype and excitement that so often accompanies any institutional conversation regarding crypto it is important to remember that financial instruments should be assessed on an objective basis. Crypto bonds offer a unique and differentiated upside for policymakers, and the issuers therein, but also need to be well researched and understood.Source