Whereas JP Morgan’s CEO Jamie Dimon is notoriously a crypto skeptic, Bloomberg reported (citing sources) that the financial institution will start accepting bitcoin ETFs as collateral for loans to rich shoppers, beginning with BlackRock’s iShares Bitcoin Belief. Moreover, the financial institution will contemplate crypto holdings when assessing shoppers’ internet price and liquid belongings.
The collateral choice is especially fascinating as a result of it navigates advanced Basel Committee rules for banks concerned with crypto-assets. Notably, the financial institution is prepared to accept Bitcoin ETFs as collateral however there’s no point out of straight accepting bitcoin itself.
A bitcoin ETF is legally a inventory
Sometimes, rich shoppers taking out loans would possibly put up their houses, shares or different belongings as collateral. Slightly than transferring the asset to the financial institution, they often pledge it. In the US, there are clear rules for pledging shares underneath the US Uniform Industrial Code (UCC). Nevertheless, if a shopper needed to present bitcoin as collateral, it might be trickier. Whereas the UCC was amended in 2022 to make clear the authorized place for utilizing crypto as collateral, some US states have but to undertake the modification.
The truth that an ETF is technically a inventory turns into fairly related underneath Basel rules. The Basel Committee for Banking Supervision (BCBS) formulated rules that apply to banks worldwide to guarantee minimal capital and liquidity necessities. It additionally created particular rules for crypto-assets, together with tokenized securities, stablecoins and cryptocurrencies. Notoriously, cryptocurrencies carry a 1,250% danger weighting, which means for each greenback of publicity, a financial institution should put aside a greenback in capital.
A bitcoin ETF will not be a crypto-asset?
Technically, a bitcoin ETF will not be a crypto-asset underneath Basel definitions:
“Cryptoassets are outlined as non-public digital belongings that depend upon cryptography and distributed ledger applied sciences (DLT) or related applied sciences.” (SCO 60.1)
An ETF might reference a crypto-asset, however it isn’t one itself. This distinction issues as a result of Basel rules (SCO 60.30) explicitly state that the majority crypto-assets can’t be handled as collateral, aside from tokenized securities on permissioned blockchains. Notably, stablecoins additionally don’t qualify as collateral.
Since a bitcoin ETF is a inventory, not a crypto-asset, it probably may very well be counted as collateral underneath conventional Basel rules.
The Basel calculation dilemma
Right here’s the place it will get fascinating. If I borrowed $100,000 with out collateral, the financial institution would have a 100% danger weighted asset (RWA) publicity. If I pledged $150,000 in conventional shares and the financial institution utilized a 25% haircut, the $112,500 of efficient collateral would greater than offset the mortgage danger, probably decreasing the financial institution’s RWA to zero.
On condition that an ETF is technically a inventory, a bitcoin ETF ought to present related collateral advantages. However there’s an issue.
Basel rules additionally outline what constitutes “publicity” to crypto-assets:
“For the needs of this chapter, the time period ‘publicity’ contains on- or off-steadiness sheet quantities that give rise to credit score, market, operational and/or liquidity dangers.” (SCO 60.4)
That $150,000 bitcoin ETF posted as collateral creates an off-steadiness sheet crypto “publicity” topic to the 1,250% danger weighting.
So the financial institution faces a double burden: 100% RWA for the mortgage plus 1,250% RWA for the crypto publicity. On this situation, the financial institution would truly be higher off not taking any collateral in any respect.
Basel’s security internet
Recognizing this might create perverse incentives, Basel features a essential safeguard outdoors the crypto rules:
“No transaction wherein credit score danger mitigation (CRM) methods are used shall obtain the next capital requirement than an in any other case equivalent transaction the place such methods aren’t used.” (CRE 22.3)
In different phrases, any collateral is at all times higher than no collateral for regulatory functions.
The sensible end result
For Basel functions, banks taking bitcoin ETF collateral are handled as having 100% RWA publicity for the mortgage—as in the event that they took no collateral in any respect. Whereas this is much better than the 1,250% various, it means banks obtain no capital profit from the collateral, in contrast to conventional inventory collateral which might scale back RWA to zero.
The result’s that banks will possible cost shoppers greater charges on loans with crypto ETF collateral in contrast to conventional inventory collateral. They’re not being discriminatory – they’re merely passing on the upper regulatory capital prices to their shoppers.
Broader implications
Off steadiness sheet crypto exposures
Banks can now take substantial crypto publicity by way of ETF collateral whereas avoiding the total 1,250% capital hit that direct crypto holdings would incur. The definitional hole round crypto ETFs creates a pathway for banks to accumulate crypto danger with out proportional capital necessities.
JP Morgan as a trendsetter
As one of many world’s largest banks, JP Morgan’s acceptance of crypto ETF collateral might sign broader trade adoption. If main banks start routinely accepting crypto ETFs as collateral, it represents a big avenue for crypto publicity to enter the normal banking system.
In contrast to direct crypto holdings, this publicity accumulation occurs by way of the “again door” of collateral preparations, probably making it more durable for regulators to monitor and measure systemic crypto danger.
Market dynamics shift
This improvement would possibly essentially alter demand patterns within the crypto market. Rich traders might more and more desire crypto ETFs over direct bitcoin holdings, since ETFs now supply a pathway to crypto-collateralized lending that direct crypto belongings don’t but present.
It additionally provides crypto ETFs a purposeful benefit over direct crypto possession for prime internet price people searching for to leverage their crypto publicity whereas sustaining portfolio liquidity.
Potential regulatory responses and penalties
The Basel Committee might transfer to shut this publicity hole by increasing the definition of crypto-assets to embody devices that “reference” crypto belongings. Nevertheless, such a regulatory repair would possibly create new issues.
If crypto ETFs turned topic to the identical punitive capital remedy as direct crypto holdings, it might drive traders towards even riskier alternate options. Corporations like MicroStrategy (now referred to as Technique), which holds bitcoin on its steadiness sheet, at the moment commerce at important valuation premiums to their underlying belongings. A regulatory crackdown on crypto ETFs would possibly inadvertently channel funding towards these company automobiles, that are arguably far riskier.
There’s additionally a geopolitical dimension to contemplate. The US is already transferring to calm down financial institution capital necessities. If Basel tightens crypto associated rules, there may be stress on US regulators to diverge from worldwide requirements quite than impose extra restrictions on American banks.
Such regulatory divergence might create aggressive benefits for US banks whereas probably undermining the worldwide consistency that Basel rules are designed to obtain. This stress between nationwide competitiveness and worldwide regulatory concord might turn out to be a defining challenge as crypto integration into conventional finance accelerates.
