The realm of digital ledgers has seen an impressive surge in active private loans, escalating by 55% since the onset of 2023, reaching approximately $408 million as of November 28th, as per RWA.xyz, a platform specializing in debt tracking. Despite this notable uptick, it remains below the pinnacle of nearly $1.5 billion recorded last June, and is merely a fraction of the thriving $1.6 trillion traditional private credit market.
Diverse borrowing costs define these transactions, with certain blockchain protocols imposing charges of less than 10%, while their traditional counterparts demand double-digit rates, based on insights from RWA.xyz and private-credit lenders.
Advocates of digital ledgers extol their capacity to render deals and repayments transparent, leveraging the openness of blockchains to public scrutiny. They highlight the role of smart contracts, software adept at monitoring stress factors and autonomously recalling loans or collateral.
Agost Makszin, co-founder of Lendary (Asia) Capital, an alternative investment management group, emphasized, “Increased transparency and onchain liquidation mechanisms have mitigated lending risks.” He attributed the lower borrowing rates to this enhanced transparency, contrasting it with the slower and more protracted liquidation process of traditional private credit.
Critics have labeled traditional private credit as excessively opaque, a sentiment echoed by entities such as bond giant Pimco and the European Central Bank. Despite this criticism, the industry has tripled in size since 2015, catering to smaller companies, buyout financing, real estate, and infrastructure, thereby attracting investor interest.
In the blockchain realm, protocols like Centrifuge, Maple Finance, and Goldfinch enable pooling or access to investor funds, predominantly leveraging the Ethereum blockchain and stablecoins such as USDC pegged to the dollar. Borrowers access these funds based on terms encoded in smart contracts.
To bolster investor confidence, protocols employ strategies like structuring loans or collateralizing them with real-world assets. RWA.xyz data highlights that sectors like consumer goods, automotive, fintech, real estate, carbon projects, and crypto trading dominate the active loans by value.
Sidney Powell, co-founder of Maple Finance, underlined, “We aim to leverage blockchain and smart contracts to streamline our loan management, reduce costs, and expedite loan funding, thereby gaining a competitive edge.”
Turbulent Past and Ongoing Challenges
The crypto industry experienced upheaval in the wake of last year’s $1.5 trillion crypto downturn, causing turmoil for entities like Maple Finance within the digital-asset sphere. The crash led to the bankruptcy of numerous businesses and the liquidation of leveraged positions in the crypto ecosystem, tarnishing the image of crypto lending, although the losses primarily stemmed from decentralized lending across digital-asset projects rather than real-world enterprises.
While decentralized lending has surged 120% year-to-date to around $22 billion, it remains below the record high of $54 billion in April 2022, according to DefiLlama data.
The industry’s recovery from last year’s tumult is marred by challenges such as limited access to banks, primarily due to apprehensions about crypto’s involvement in illicit activities. This skepticism complicates the conversion between tokens and fiat currency. Furthermore, traditional finance remains wary of digital ledgers due to potential security risks associated with the novelty and complexity of blockchains.
An additional hurdle in the crypto lending market is the absence of a credit rating system, unlike traditional finance, hindering a comprehensive understanding of associated risks, as highlighted by Tom Wan, a researcher at digital-asset fund provider 21.co.
Despite these challenges, there has been an uptick in activity. Maple Finance and AQRU facilitated Intero Capital Solutions LLC in accessing $3 million in stablecoins from a blockchain-based credit pool. Similarly, Goldfinch provided its first callable loan of $1.35 million in stablecoins to Singapore-based fintech firm Fazz, with Intero pledging its US federal tax rebates as collateral. This move enabled quick access to capital at favorable rates, showcasing the advantages of transparent and predictable transactions in a blockchain environment.
Distinguishing Features and Future Prospects
A notable distinction between blockchain-based private credit and traditional non-bank lending lies in the prevalence of fixed-rate offerings in the former, while the latter typically offers variable rates. Additionally, digital ledgers minimize manual back-office layers, reducing costs, and enabling issuance of lower principal sizes, especially for complex financing structures.
The potential for substantial flows of private credit across blockchains remains uncertain. Tokenization, the creation of digital representations of real-world assets, could amplify collateral for lending. However, this potential is contingent upon the crypto sector’s ability to restore its credibility, a factor that has been marred by previous setbacks.
