Redsand Ventures has been entrenched in the data infrastructure and Bitcoin mining industry in the last three years.

2022 was, by all accounts, an excruciating year for crypto across the board. The bear market turned into a deep winter that came fast, cut deep and severely.

In 2022, the industry started strong with ample capital to expand. But high energy prices, increasing competition for Bitcoin blocks and a bear market hit miners, knocking out those with high leverage.

This short blog highlights some of the key challenges we faced with projects as capital allocators as we navigated the turbulence. It will also lead up to our first detailed paper analysing the considerations for the mining industry, as it aims to recover both value and reputation while still managing this unpredictable terrain. 

Economic Risks

Crash in BTC Price

Unlike previous down markets – last year was plagued with market volatility and black swan events, which spread the fear of contagion. In May and June 2022, cryptocurrencies lost approximately $1 trillion in value. Bitcoin experienced a colossal value drop after hitting a peak of around $69,000 in November 2021, slumping to $15,476 a year later.

Many miners acted too deterministically in 2021 and 2022, projecting bitcoin (BTC$20,000. Options are limited in this scenario. One either sells bitcoin, borrows or issues equity.When selling mined bitcoin was barely enough to cover OpEx (operating expenses), many miners opted for debt financing as the equity market turned cold.

Operational Exposure

Miners invested massively into processing power over the last year to boost hashrate, a measure of computing power on the Bitcoin network. But in many cases, those investments didn’t pay off, as companies loaded up on debt to finance the growth only to see the economics of crypto mining break down. 

Bankruptcies and loan defaults shook the market, and this year will likely bring evenmore pain as miners struggle to bolster their balance sheets and operations.

Surging Energy Prices

The price fall for the Bitcoin mining industry was even worse, given the surge in energy prices across the western world. This scenario led to a flood of bankruptcies and loan defaults, which sent a ripple effect across capital allocators in the industry.

Black Swan Events

The unpegging of UST, Terra

The trigger for the fall in bitcoin price came with the unpegging of Terra’s widely adopted stablecoin, UST, which lost its $1 peg on May 9, 2022, moving from its 1:1 USD peg to 0.03:1 USD and hitting its lowest price.

The reasons for this event have been hotly contested and debated in the crypto industry, but the cause remains controversial. 

Unlike other stablecoins, which are pegged to a stable reserve asset such as gold or the dollar, Terra’s stability is based on algorithms tied to its sister cryptocurrency, Luna.

Bitcoin fell to $26,000, down 60% from its November 2021 peak. For many miners – the drastic fall in BTC correlated with a sharp decrease in profitability.

The fall of FTX

The collapse of FTX, once a $32 billion crypto exchange, tore into investor confidence and dealt a severe blow to the industry, attracting the attention of US regulators seeking to tighten regulatory policies to make such situations less common. Bitcoin lost 25% of its value between November 7 and November 8, 2022, as investors struggled to assess the impact of a potential FTX collapse. It dipped below $16,000 several times in the following weeks.

The fall of Silvergate and Silicon Valley Bank

On March 8, Silvergate Bank announced it would close and liquidate its assets. Silvergate was primarily known as one of the most crypto-friendly banking institutions and had many clients within the cryptocurrency industry.At the time of writing this blog, the US banking system is suffering its worst crisis since 2008 with the failure of Silicon Valley Bank (SVB). While tech and startup sectors feel the repercussions of Silicon Valley Bank’s collapse, the crypto markets have also been affected. 

Circle, the issuer of the stablecoin, announced that it has $3.3 billion in deposits at Silicon Valley Bank, amounting to around 8 per cent of the reserves backing the USDC stablecoin. USDC, which is the second largest stablecoin, lost its $1 peg and fell below $0.9, levels that have not been seen even during the collapse of the crypto exchange FTX

For now, it remains unclear whether Bitcoin will face further downward pressure. 

Does Bitcoin mining stand a chance against these unprecedented headwinds?

Never before have investors and miners alike had to apply this level of scrutiny to risk exposure.

Risk mitigation and scenario planning will need to become deeply ingrained in the operational DNA of the industry.

Only the most responsibly capitalised miners will survive, and the capital allocators’role will have to expand to hold operational scrutiny and industry knowledge that surpasses the industry standard.

Our forthcoming insights paper will support industry players and investors for some of this preparation, capability and foresight. This paper will go beyond the anecdotal and showcase our own pain; and lessons learned to be ahead of the market as best as possible.

Look out for it in April 2023, through our socials and via subscription on our website.