Emerging Topics Flashcards
Provide the benefits and challenges of Third-Party Custody exposure to Bitcoin
LO 1.1.1
The benefits to third-party custody include institutional grade trading,
relatively low costs, and capital efficiency opportunities.
The challenges include gaps in technical knowledge and experience, fragmented liquidity, and integration with traditional assets.
Provide the benefits of private placement in passive bitcoin funds
LO 1.1.2
Responsibilities of selecting trading and custody partners, as well as making decisions on security and risk, are left to the fund managers.
The tax and reporting benefits, as is the ability to classify the investment as equity and record it at fair value on the balance sheet.
Provide the challenges of private placement in passive bitcoin funds
LO 1.1.2
relatively high costs and
varying redemption mechanisms and frequencies.
How do open-ended private trusts provide exposure to bitcoin?
LO 1.1.2
Open-ended private trusts provide investors with exposure to Bitcoin through publicly traded shares which represent ownership in the trust.
List the benefits of open-ended private trusts as a source of exposure to bitcoin
LO 1.1.2
Benefits include access to investments via traditional brokerage firm channels and avoiding the complex logistics of physical Bitcoin ownership.
List the challenges of open-ended private trusts as a source of exposure to bitcoin
LO 1.1.2
Challenges include high management fees and trading premiums/discounts associated with secondary shares.
Describe the 2 types of regulated futures markets for bitcoin
LO 1.1.2
cash-settled and physical-
settled futures.
Describe Physical-settled Bitcoin Futures
Physical-settled Bitcoin futures deliver actual Bitcoin to buyers upon contract expiration.
Beneficial to those who want to hold the physical asset,
eliminates concerns about spot exchange manipulation that can impact cash-settled transactions. These futures have not produced the same open interest and volume as cash-settled futures.
Describe Cash settled Bitcoin futures
LO 1.1.2
Cash-settled Bitcoin futures offer a regulatory environment, trading
advantages, and the elimination of concerns over custody upon physical delivery.
Price manipulation is a concern with cash settlements and long exposure may be expensive, as cash-settled Bitcoin futures often trade at a premium to spot and
longer-dated futures trade at higher premiums than shorter-dated futures.
Trading costs are a concern when rolling the futures contracts is needed prior to expiration to maintain long exposure.
Discuss why the SEC previously did not approve a bitcoin ETF and benefits of the ETF structure
LO 1.1.2
Securities and Exchange Commission (SEC) has not approved any ETF applications due to concerns about custody, market size, surveillance, and market manipulation.
Three potential benefits of the ETF structure for Bitcoin investments are product acceptance, the redemption mechanism, and accessibility.
Why are Investors attracted to Bitcoin?
LO 1.1.3
Investors are attracted to Bitcoin as a liquid, transparent, and volatile asset that trades constantly and provides a global, real-time ledger with more data available to
investors than traditional investment vehicles.
Which investment channels are most economical for bitcoin investments of $5-$50m
LO 1.1.4
Given various assumptions across all three channels, the results showed that the most to least economical for both the $5 million and $50 million positions were CME Bitcoin futures, followed by spot trading and custody, and then private passive Bitcoin funds.
Name the 5 layers of the DeFi infrastructure
LO 1.2.1
- Settlement - includes bothe the blockchain (which is the foundation layer) and the native protocol asset.
- Asset - includes the native protocol asset and any additional assets (tokens) issued on the blockchain.
- Protocol - incorporates the standards typically implemented as a set of smart contracts.
- Application - includes user-oriented applications used to connect to individual protocols
- Aggregation - serves as an extension of the application layer and connects user-centric platforms to several protocols and applications simultaneously.
Describe Tokenization and tokens
LO 1.2.2
Tokenization is the process of adding new assets to the blockchain, with the token defined as the blockchain representation of the asset. Tokens are highly accessible, easily transferred among participants, and can be stored within smart contracts and used in several decentralized applications.
Describe stablecoins
LO 1.2.2
Stablecoins are digital currency linked to an underlying asset like a national currency (fiat-backed) or precious metals (commodity-backed).
list the backing (collateral) models for promise-based tokens
LO 1.2.2
- Off-chain collateral - underlying assets stored outside of the blockchain.
- On-Chain collateral - collateral assets are typically held in smart contracts and locked on the blockchain.
- no-collateral - the promise is based on trust alone
Describe the positive and negatives of on-chain and off-chain collateral
LO 1.2.2
Although off-chain collateralized tokens can help mitigate exchange rate risk, they can also create external dependencies and counterparty risk.
Although on-chain collateral offers claims secured by smart contracts and high levels of transparency, because the collateral is typically held in a native protocol asset, it will be vulnerable to price fluctuations.
Define decentralized exchanges
LO 1.2.3
Decentralized exchanges are exchanges that facilitate transactions without the
involvement of an intermediary. Users maintain full control of their assets until
trades are executed through smart contracts, which reduces counterparty credit risk.
Define Decentralized order book exchanges
LO 1.2.3
Decentralized order book exchanges settle transactions using smart contracts and use order books which may be on-chain or off-chain. On-chain order books are fully decentralized, with smart contracts storing every order.
Describe a Constand function market maker (CFMM)
LO 1.2.3
Constant function market maker (CFMM) is a smart contract-liquidity
pool which holds multiple cryptoassets in reserve and facilitates token deposits in one type along with token withdrawals of a different type. The exchange rate is based on the smart contract’s token reserve ratio.
Describe a peer-to-peer or over-the-counter exchange protocol
L.O 1.2.3
With peer-to-peer (P2P) (a.k.a. over-the-counter, OTC) protocols, participants use an automated process to find counterparties in the network interested in trading a cryptoasset pair and negotiate the exchange rate in a bilateral manner, with the trade executed using a smart contract on-chain.
Describe a Smart Contract-based reserve aggregation exchange
L.O 1.2.3
Smart contract-based reserve aggregation involves the consolidation of liquidity reserves within a smart contract that serves as the hub for users and liquidity providers.
List advantages of a decentralized lending platform
1.2.4
A decentralized lending platform allows for anonymity for both the borrower and the lender. Anyone can access the platform to borrow money or provide liquidity and DeFi loans are not reliant on trusted relationships.
List the two approaches to protect the lender on a decentralized lending platform
LO 1.2.4
- flash loans may be used and if the borrower does not repay with interest, the transaction and its results are nullified,
- loans may be fully secured using collateral which is locked in a smart contract and released only when the debt is repaid.
List the three variations of the of dentralized lending platforms
LO 1.2.4
- Collateralized debt positions
- pooled collateralized debt positions
- P2P collateralized debt markets
Describe how collateralized debt positions work
LO 1.2.4
Collateralized debt positions (CDP) are loans which use newly created tokens. The number of new tokens created is dependent on the target collateralization ratio, the value of the collateral (the cryptoassets), and the target price of the tokens generated. New tokens serve as loans which are fully collateralized, do not involve a counterparty, and allow user access to a liquid asset with the collateral providing
market exposure.
Describe decentralized derivatives
LO 1.2.5
Decentralized derivatives are tokens whose value comes from the performance of an underlying asset, the outcome of an event, or the development of another observable
variable. The price of an asset-based derivative token is a function of the
performance of an underlying asset. Stocks, commodities, and cryptoassets can all be tokenized.
Inverse tokens where price is based on an inverse function of underlying asset performance offer short exposure to cryptoassets.
What is the relative advantage and risk of decentralized derivatives?
LO 1.2.5
Although this platform offers the advantage of redemption independent of the issuer, users bear the risk associated with their debt position being impacted by others’ asset allocations.
Describe on-chain funds?
LO 1.2.6
On-chain funds provide investors with a basket of cryptoassets (along with myriad investment strategies) without requiring an investor to hold individual tokens. Rather than going through a
custodian, cryptoassets are contained within smart contracts where investors can observe their balances, withdraw, or liquidate them at any time. Fund tokens are issued from smart contracts and transferred into investor accounts. The tokens serve as evidence of partial fund ownership and allow for the redemption or liquidation by token holders of their share of fund assets.
What does closing out of an investment in an on-chain fund involve?
Lo 1.2.6
Closing out an investment involves burning fund tokens, selling the underlying assets through a decentralized exchange, and compensating investors with the ETH-equivalent of their ownership portion of the basket of assets.
What are the most significant opportunities of the DeFi infrastructure
LO 1.2.6
- transparency - all transactions are publicly observable and financial data are publicly available
- efficiency - smart contracts allow for the quick settlement of transactions,
- composability - myriad investment possibilities due to the interconnection of protocols and applications
- accessibility - an open and accessible financial system
What are the most significant risks of the DeFi infrastructure?
LO 1.2.6
- operational security - internal and external attacks from malicious parties
- smart contract execution - security and coding errors in smart contracts.
- dependencies - between smart contracts and decentralized blockchains
- scalability - capacity of a blockchain to meet growing demand for its usage
- illicit activity - related to minimal regulations within a decentralized environment
- External Data - Oracles and the risk of highly centralized contract executions
How does Web 3.0 build upon previous generations of the internet
LO 1.3.1
Web 3.0 builds upon previous generations of the internet by allowing for a read-write-execute interface.
Describe Defi in terms of Web 3.0
LO 1.3.1
Decentralized finance (DeFi) is a component of Web 3.0 that democratizes access to financial services through peer-to-peer (P2P) networks.
Blockchain removes the need for financial intermediaries to be involved in financial transactions. DeFi enables algorithms to automate some traditional finance tasks and users to connect directly with others in an anonymous way.
Describe tokenization
LO 1.3.1
Tokenization is the process of associating an asset with a digital identifier and metadata. Through this innovation, an asset can be broken down into smaller parts to facilitate storage and transferability. Fungible tokens are interchangeable, while non-fungible tokens (NFTs) are unique assets.
Describe the difference between the digital economy and traditional economy in terms of resource allocation
LO 1.3.1
In terms of resource allocation, the traditional economy uses technology to assist humans in allocating resources; while in the digital economy, algorithms streamline the resource allocation process.
Describe the difference between the digital economy and traditional economy in terms of location independence
LO 1.3.1
In terms of location independence, the traditional economy is reliant on physical locations, but the digital economy is free from the constraints of a storefront.
Describe the difference between the digital economy and traditional economy in terms of growth
LO 1.3.1
In terms of growth, the traditional economy has some scalability issues that cap growth; while in the digital economy, growth can be accelerated through better management of data and resource allocation.
Describe the difference between the digital economy and traditional economy in terms of balancing supply & demand curves
LO 1.3.1
The digital economy allows for near-real-time adjustments to supply and demand, while the traditional economy has built-in lags.