Is Yield Hunting Driving Indian Crypto Users To More Risk?

Depositing a U.S. dollar-linked crypto token with Indian crypto exchanges can earn between 6-12% in annual interest.

<div class="paragraphs"><p>Representations of cryptocurrencies Bitcoin, Ethereum, DogeCoin, Ripple, and Litecoin. (Photo: Dado Ruvic/Reuters)</p></div>
Representations of cryptocurrencies Bitcoin, Ethereum, DogeCoin, Ripple, and Litecoin. (Photo: Dado Ruvic/Reuters)

Despite negative news flow in the global crypto space, Indian investors are still chasing better returns through the 'earn' features on their exchanges.

Popularly known as 'yield farming', the method sees investors depositing their crypto assets into a pool, which is then used by the exchanges to further enter risky ventures. Through these risky ventures, the investors earn anywhere between 6-12% worth of returns.

But what the investors might be missing is that unlike formal financial products where a regulatory infrastructure protects them, crypto exchanges in India are not governed by any authority, greatly increasing their risk, experts said.

The story is different in other geographies. Last week, the U.S. Securities and Exchange Commission charged crypto exchange Gemini and crypto lender Genesis with "unregistered offer and sale of securities to U.S. retail investors", related to Gemini's earn programme run in partnership with Genesis.

In the recent past, international crypto lenders, such as Celsius and Vauld, who offered similar products, have both gone bankrupt and are yet to return funds deposited by customers. 

In India, though, crypto rules are yet to arrive and existing securities laws don't apply because the asset class is yet to be officially classified by the government. Even though earn programmes are "akin to deposits, [crypto] is not a recognised currency", R Gandhi, former deputy governor, Reserve Bank of India, told BQ Prime. 

This leads them beyond the RBI's purview and since the Securities and Exchange Board of India hasn't recognised such assets as securities, they don't regulate them either. Therefore, crypto activity in India is "falling in between stools", Gandhi said. 

The RBI and SEBI did not respond to requests seeking a comment on the story.

The lack of rules, though, hasn't stopped users from jumping in to seek returns. For Indian crypto exchanges BitBns, Unocoin and CoinDCX, users of their 'earn' features stand at about 18%, 20% and 25% of their overall user base respectively, according to the exchanges. 

"Would definitely agree that this will eventually come into SEBI's purview," Sharat Chandra, co-founder of India Blockchain Forum, said. 

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How The Yield Is Earned

Indian crypto exchanges typically depend on three methods to earn yield on customer deposits: 

  • Lending them via decentralised finance platforms.

  • Lending them to crypto hedge funds and market makers.

  • Lending them to other customers for margin trading purposes.

While the first one is straightforward, it yields the least margin, but the other two tend to be margin accretive, according to executives at four Indian crypto exchanges, who spoke to BQ Prime on the condition of anonymity.

Lending to hedge funds and markets used to be the most popular choice, but it has declined since the collapse of crypto hedge fund Three Arrows Capital (3AC) in June 2022. Crypto lender Genesis was also exposed to 3AC and has filed claims worth $1.2 billion against the hedge fund. 

Lending customer deposits to crypto hedge funds or market makers is still existent in India, but transparency concerns have made the exchanges more cautious, according to one of the crypto exchange executives mentioned above.

For their part, CoinDCX, Unocoin and BitBns maintained that they don’t lend customer funds to third parties.

CoinDCX solely relies on decentralised finance projects to deliver the yield, Mridul Gupta, chief operating officer at CoinDCX, told BQ Prime.

Unocoin, on the other hand, offers 200% collateralised loans to other users via the deposits, according to Satvik Vishwanath, Unocoin's chief executive.

BitBns offers customers margin trading using the deposited funds, according to Gaurav Dahake, chief executive at BitBns.

Queries mailed to WazirX and Zebpay on Tuesday were not responded to.

How the yield is derived signals the level of risk these investments carry, but offering them to begin with is the encompassing grey area on the regulatory front.

"How do you classify virtual digital assets itself is a gray area," Gupta said. The exchange would be supportive of overall regulation in the space, he said. 

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Regulatory Limbo

Although the RBI has publicly aired its apprehensions about crypto on multiple occasions, India is yet to finalise rules governing the asset class. 

"...anything without any underlying whose valuation is dependent entirely on make-believe is nothing but 100% speculation, or to put it very bluntly, it is gambling," RBI Governor Shaktikanta Das spoke of crypto assets, at an event this month. "RBI's position is very clear. It should be banned."

The absence of rules is the best time for funny business because technically no rules are being broken, a former SEBI executive told BQ Prime, speaking on the condition of anonymity.

While the U.S. markets regulator enjoys some level of interpretation power on security laws, SEBI doesn't have the same mandate and hence, cannot act independently, the executive said. 

Users, on the other hand, don’t chase prudence but pursue outlandish yields instead, according to the second executive at an Indian crypto exchange mentioned above.

This can also create a proverbial race to the bottom on risk management as exchanges elbow each other to offer better returns, this crypto executive said. 

But unregulated finance-chasing yields don't also have a track record of ending well on most occasions. In crypto especially, the returns look great till they keep coming, a third executive at an Indian crypto exchange, told BQ Prime. But once they stop—as they did in Celsius' case—there's nothing really that you can do, this person said.

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