On May 17, some customers of cryptocurrency lender BlockFi noticed something unusual: huge Bitcoin deposits in their accounts. These deposits—in one case more than 700 BTC according to a Reddit user (worth $29 million at the time)—were expensive mistakes that BlockFi later owned up to. In a promotional campaign gone wrong, the company had sent rewards denominated in Bitcoin, rather than in GUSD, a $1-pegged stablecoin created by the crypto exchange Gemini.
Because of its error, BlockFi has had to chase after customers who received the extra Bitcoin and has offered rewards of up to $1,000 for the return of its funds. As of May 19, BlockFi’s remaining exposure from the mistake was about 200 BTC, or $7.3 million.
BlockFi wrote in a statement that it accidentally credited “fewer than 100 users” with crypto “associated with a promotional payout.” Though BlockFi says the incident “does not affect any of BlockFi’s ongoing operations,” it raised serious concerns among customers about the safety of their assets held with the company.
In spite of this embarrassing mishap, many still see BlockFi as a respected player in the crypto market—particularly (and unsurprisingly) the investors who’ve sunk money into it. BlockFi declined to comment for this story.
Founded in 2017 by Zac Prince and Flori Marquez, BlockFi offers several services to its customers: crypto investing, trading, and borrowing cash on their crypto assets. The company has raised $450 million and boasts a $3 billion valuation. It has attracted 265,000 retail clients and more than 200 institutional clients, TechCrunch reported in March, putting a mistake that affected fewer than 100 customers in perspective.
BlockFi’s biggest allure is its promise of high yield rates. Customers can deposit as little as they want and can get up to 9.3% APY (annual percentage yield) on certain cryptocurrencies. Stablecoins come with the highest APY (9.3% for USDT, 8.6% for USDC, GUSD, and PAX), while APY starts at 5% for deposits of up to 0.5 Bitcoin, and goes down to 2% for holders of 0.5 to 20 BTC.
This is roughly on par with similar crypto lenders in the DeFi (decentralized finance) space, which has recently exploded. Celsius Network, Nexo, Eco, and Gemini Earn all use a similar model—deliver high yield on your crypto by lending it out to other firms—and tout much higher yields than traditional banks and “high-yield savings accounts” like Ally and Marcus By Goldman Sachs, both of which offer just 0.5% APY these days. (Eco, the newest of the bunch, attempts to assuage concerns with a page on its web site that starts by asking, “How is this not too good to be true?”)
BlockFi uses third-party custodians like Gemini, BitGo, and Coinbase, which held 43% of its customers’ assets as of the first quarter of 2021, the company reported on its website. The rest is in liquid investments or loans.
Naturally, the eye-popping yields come with heavy risks.
BlockFi does not insure your investments. If it loses customers’ cryptocurrency due to “cyber attacks” or “technical difficulties,” it owes those customers nothing. And its seductively high rates are subject to change based on the unpredictable crypto market. As a result, BlockFi’s rates on Bitcoin and Ethereum deposits have dropped twice since March. In a CNBC “Squawk on The Street” segment last year, co-host Sara Eisen asked Zac Prince, “How do I know that the money is safe?” He answered, in part, “There is more risk here versus a savings account with FDIC insurance or a traditional brokerage account with SIPC insurance. But you’re compensated for it with the high yields.”
BlockFi’s lack of insurance is particularly problematic in light of its history, which includes other lapses that date back before its May 17 payout fiasco. In May 2020, BlockFi experienced a data breach caused by a SIM swap attack against a BlockFi employee. It affected fewer than half of the company’s retail clients, according to The Block, by exposing their account activity and contact information, but no customer funds were lost.
This past March, BlockFi came under attack again, this time by someone who “spammed” the platform, according to CoinDesk, with false sign-ups using racist language. The attacker registered accounts using real email addresses of BlockFi users but again, it did not affect customers’ funds.
So how can consumers trust a four-year-old entity operating in a famously volatile market, knowing that their assets aren’t insured, especially after its most recent display of fallibility?
“If you’re getting that type of return, there’s all types of risk”
As with any speculative investment, it’s a risk vs. reward calculation. Whether the reward is worth it depends on whom you ask. Traditional stock analysts advise extreme caution, professional crypto investors see a future for BlockFi in their space, and customers are just trying to make the best decisions for their money.
Financial consultant Tyrone Ross Jr., CEO of Onramp Invest, first heard about BlockFi in 2018, after a few clients asked him about its astoundingly high yields. Their questions prompted him to visit the company’s Manhattan office. There, he met CEO Zac Prince, whom Ross describes as “even keel” and who answered all of his questions about BlockFi’s business directly. Ross left with some BlockFi swag and confidence in the company.
Today, Ross admits he’s biased when talking about BlockFi. He and Prince have become friends, and he’s had “preliminary conversations” about possibly working with BlockFi in the future. But he still advises caution to potential retail investors.
“Nothing in life is free,” he says. “So if you’re getting that type of return, there’s all types of risk—smart contract risk, counterparty risk, systemic risk… that’s just the way it is.”
Big names in both crypto and traditional finance have lent BlockFi credibility. J. Christopher Giancarlo, the former CFTC (Commodity Futures Trading Commission) chairman, joined BlockFi’s board in April. Other board members include investor Anthony Pompliano and Galaxy Digital investments chief Chris Ferraro.
Endorsements go a long way in building consumer confidence—maybe even more so in crypto, where a handful of big names wield outsized influence. As BlockFi customer Michael Elliott, 34, in Santa Rosa, Calif., wrote to Decrypt over Twitter DM, “I trusted Blockfi because of the ties to Gemini and the Winklevoss twins.” (They’ve invested, and Gemini custodies some BlockFi assets.) BlockFi customer Bo Biddle, 40, in Nashville, says he bought in after he heard crypto YouTube influencers Lark Davis and Crypto News Alerts endorse BlockFi.
Though the company doesn’t offer insurance on user investments, it is transparent about its backing. As of March, BlockFi reported holding about $14.7 billion client assets on its platform, a 3.3x increase from December 2020.
The counterparties for BlockFi’s loans, though not made explicit on the company’s website, impressed Ross when he first learned of them in 2018 (he declined to name specifics). BlockFi says their institutional clients include “proprietary trading firms and hedge funds,” and lists their equity investors to show “the type of institutions we work with,” which include Consensys (which funds the editorially independent Decrypt), Coinbase Ventures, and Winklevoss Capital.
Another reason some can stomach the risk is the crypto market’s upside potential. With Bitcoin having tripled in value from December to March, cryptocurrency investing is more mainstream than it’s ever been.
Scott Stornetta, chief scientist at blockchain venture capital firm Yugen Partners (whose work is cited in the Bitcoin whitepaper) points out that the crypto space has undergone major changes in the past six months that have helped “integrate Bitcoin,” he says, “into the world’s institutional and traditional financial systems.”
For instance, the U.S. Federal Reserve is looking into regulations for stablecoins while taking its time to consider central bank digital currencies (which Stornetta sees as “close to being an endorsement” of stablecoins). In the past year, PayPal said it would let users begin paying with cryptocurrency, while Square and Tesla both loaded up on Bitcoin for their corporate balance sheets. Notable Wall Street hedge fund titans from Stan Druckenmiller to Paul Tudor Jones have changed their tune on Bitcoin. These changes all bode well for any company offering bank-like services to crypto holders.
Stornetta declined to comment specifically on BlockFi because Yugen Partners is involved “in certain dialogue that precludes me from commenting in any institutional way on individual players.” In other words, BlockFi’s connections in the crypto space are rapidly multiplying.
“Do you really need to jump out the window for another six percent?”
Many BlockFi users are comfortable with a higher risk level than your average investor. After all, they’re already invested in a volatile asset. One of the most pronounced concerns among BlockFi users so far has been the company’s two recent rate decreases. They make customers’ risk-to-reward ratios a little lighter on the reward side.
BlockFi customer Calvin Saunders, a 25-year-old chiropractic student, first put his Bitcoin in BlockFi when the company offered 5% APY on his holdings. Since then, that APY has decreased to 2%. “I call it kind of sketchy, because essentially they’re trying to not be like banks,” Saunders says, “but now they’re trying to fluctuate their APY while you already have your assets in there.” The adjustment prompted him to start looking at alternative crypto investment platforms. Since we first spoke in early May, he’s moved all of his crypto out of BlockFi and into competitor Nexo, which he says allows him to invest a wider variety of crypto assets.
And while Saunders did like that he could trade between different coins on BlockFi “pretty instantaneously,” exchanging USD for crypto on BlockFi took longer. “I missed out on a massive Bitcoin run because it took five days for the funds to reach my account,” he says. He could have gained between $6,000 and $8,000, he says, if it hadn’t taken that long for BlockFi to process his funds.
If Bitcoin and other tokens provide such great returns already, why take the additional risks that BlockFi presents? “If you look at how Bitcoin has performed, if you look at how ETH is performing now,” Ross says, “do you really need to jump out the window for another six percent?”
If you ask David Trainer, CEO of stock research firm New Constructs, the whole point of blockchain technology precludes needing intermediaries like BlockFi. “That’s what smart contracts [and] automated market makers are for, to execute the transaction of assets without the risk and conflict of interest of having humans involved,” he says. For companies like BlockFi, he adds, “their survival is entirely dependent upon people not really understanding yet what blockchain is aiming to do.”
But BlockFi has big plans that go beyond its current investing services. The company has opened up the waitlist for its upcoming credit card, and based on Decrypt’s interviews with investment experts, it has more partnerships or projects in the works. From that perspective, BlockFi’s survival depends less on people understanding blockchain, and more on the wider public growing far more comfortable with crypto investing and its risks.