The Future Of Crypto Equity Wrappers

Authored by Omid Malekan,

Co-authored with Frank Cavallo of Motus Capital Management

Crypto treasury companies such as Strategy are all the rage right now. Seemingly not a day goes by without an announcement of yet another public vehicle whose primary purpose is to provide cryptocurrency exposure inside an equity wrapper. While there are benefits to this design, some of these companies lack a unique value proposition and are indistinguishable from each other. Their stocks might not attract a premium during a bear market.

A better approach is to offer a crypto ecosystem company, one that offers comprehensive exposure to the different facets of a specific blockchain by combining operating businesses with targeted and fluid investments. Whereas treasury companies are ultimately little more than crypto market beta, an ecosystem company can provide alpha.

Background

In retrospect, the equity markets and cryptocurrencies were always destined for each other. The stock market is large, liquid, and broadly accessible. Crypto is none of these things, but is an exciting new asset class with greater upside potential. Thus the appeal of putting a long crypto strategy inside a public company wrapper, particularly in markets without cryptocurrency ETFs.

Strategy (formerly MicroStrategy) has executed the plan successfully. It currently holds almost 3 percent of all Bitcoin and trades at over 1.5x times the value of its Bitcoin holdings. As the first — and by far largest — Bitcoin treasury company, it has enjoyed a significant first-mover advantage. Its stock is highly liquid, accessible to institutions and retail investors on countless platforms, and now part of the prestigious NASDAQ 100. That liquidity — along with the premium to its NAV — allows it to keep issuing more shares to buy more Bitcoin. Strategy has also pioneered the use of convertible notes to extend its reach (and exposure to Bitcoin) to the debt market.

Compared to owning Bitcoin outright, the benefits of investing in a Bitcoin treasury company include:

• Simplification of dealing with crypto custody, tax treatment, and reporting

• Getting crypto exposure via equity market infrastructure (custodians, prime brokers, etc.)

• Accessibility by a wide range of accounts and investor types (retirement plans, RIAs, etc.)

• Better tax treatment of equities over spot crypto in certain countries

• Access to a more liquid options market than that of spot BTC

• Investment mandate arbitrage via issuance of convertible senior notes

• Monetization of flexible capital stacks for leverage

Many of these advantages are also provided by spot Bitcoin ETFs, with the added benefit of lower fees and cleaner pass-through structures. Others will be eliminated by greater maturation of the spot Bitcoin markets or new laws that eliminate regulatory loopholes.

The most likely driver of Strategy’s premium to NAV is the market perception that friendly debt markets will allow it to keep acquiring more Bitcoin without dilution. But there’s no guarantee debt demand will continue, and it can always reverse to due market saturation or a bear market. The inability to refinance could lead to existing debt holders being repaid via newly issued equity, forcing dilution at the worst possible time.

This is not to say NAV discounts are imminent or argue that companies shouldn’t engage in leverage, but rather to point out that treasury operations alone won’t necessarily command NAV premiums, therefore crypto equities should look to additional value propositions.

A More Sustainable Approach

One way to distinguish a crypto treasury company is to focus on alt coins that don’t have ETFs. Such a stock would be particularly appealing if the underlying asset is one that doesn’t yet have a liquid spot market. If it’s a coin that can be staked, the treasury company could do so to earn yield with minimal counterparty risk.

But simply buying and holding such a coin might not be enough to distinguish a treasury company as more ETFs come online — including ones that stake. Access advantages diminish as overall access grows.

A more lasting strategy is to turn the treasury company into an ecosystem play, one that represents an all-inclusive bet on an entire blockchain and whatever yield opportunities it presents, now and in the future.

Ecosystem companies can be deployed for any coin, even Bitcoin. They can offer a more comprehensive and diversified exposure to a platform and handle the operational complexity of deploying capital on a new chain. The larger surface area of activity also allows managers to distinguish themselves from competitors who focus on the same ecosystem.

Other advantages of being an ecosystem company include:

• Running operating businesses dedicated to a single chain, such as running validators, offering delegated staking, and launching an L2

• Going beyond simple staking to utilize liquid staking and restaking

• Participating in DeFi and yield farming opportunities

• Using leverage to increase returns on DeFi/yield farming

• Getting preferential treatment from protocol development teams

• Venture investing in new dApps building in that ecosystem

• Providing a one-stop shop for access to the totality of opportunities revolving around a native coin.

• Giving investors the ability to seamlessly move capital from being totally invested in one ecosystem to another, without delay or complexity and at minimum cost.

Ecosystem companies are designed to maximize the benefits of permissionless financial structures where capital can flow seamlessly from one yield-generating opportunity to another. There are countless opportunities on smart contract platforms like Ethereum and Solana, and more will emerge in the years to come.

The equity markets might find this feature of crypto uniquely appealing, given the lack of a TradFi equivalent. But capitalizing on this fluidity — and managing the risks — requires expertise and constant attention, especially for newer chains. Those who execute the strategy effectively can smooth out the inevitable market cycles.

There are diminishing returns to levering up pure treasury companies, and there is no guarantee of being able to raise debt and equity, particularly in difficult markets. Also, tax and access moats are unlikely to persist.

However, ecosystem development companies have features that offer something more valuable (and sustainable) than simple price exposure or leverage. They offer ecosystem convexity. Done right, that is a service the market would be justified to pay a premium for.