The Fiction of Bitcoin Yield

How? Why? What? Dispelling The Prevailing Myth

The Wild World of MicroStrategy and Bitcoin Yields

One of the largest holders of Bitcoin isn’t an individual or a crypto fund - it’s MicroStrategy (MSTR). The company started life as a software business, but today its main focus is buying and holding Bitcoin. In practice, MSTR functions more like an asset holding company, or quasi exchange traded fund, than a traditional tech company.

Essentially, MSTR is a way for people to gain exposure to Bitcoin without themselves needing to be concerned with the complexity of ownership. MicroStrategy buys and holds a reserve of Bitcoin, and those interested in crypto-assets can simply acquire MSTR stock as they would any other equity.

So the value of MSTR ought to equate to the value of its Bitcoin reserves, but it doesn’t. Through a combination of social media hype and hysteria created by MSTR CEO Michael Saylor and the financial naivety among crypto-currency speculators, MSTR’s stock trades at a significant premium compared to the actual value of the Bitcoin it holds.

This is all part of its strategy. It raises money from new investors at inflated prices, then uses that money to buy more Bitcoin. Since MSTR buys Bitcoin at a lower cost than the "implied Bitcoin value" of its stock, this is dilutive to new investors but accretive to existing investors.

Michael Saylor calls this accretive return to existing investors the "Bitcoin yield." But since Bitcoin itself doesn’t generate yield, this metric is really just a way of measuring how well MSTR's financial strategy, some might say Ponzi-like mechanics, is working. And lately, it's been working quite well.

MSTR is not the only snake-oil salesman in town. There are others playing a similar game, but MSTR is certainly the most prominent.

The Leverage Game: MSTU and MSTX

If MSTR’s strategy seems extreme, things get even wilder with leveraged single-stock ETFs like MSTU and MSTX. The leverage amplifies gains (and losses) on the underlying stock and this is how these ETFs aim to double the daily return on an investment in MSTR.

Aggressive traders prefer these leveraged ETFs over traditional margin debt because they provide leverage without the risk of a margin call. However, there’s a major flaw in how these ETFs work:

To maintain 2x daily returns, they must rebalance every day - buying more MSTR stock when it rises and selling when it falls. If MSTR’s stock keeps climbing, this strategy works well. But if MSTR’s stock swings up and down, these ETFs end up buying high and selling low, which destroys returns over time.

If you thought that was bad, it gets worse.

Most leveraged ETFs achieve their leverage by buying swaps on the shares from large investment banks. Being levered assets, these swaps are debt funded, typically at SOFR + a small spread, so a part of the return is lost to financing costs. However, due to MSTR’s extreme volatility and its Bitcoin-heavy balance sheet, banks limit the availability of swaps.

To get around this, the operators of MSTU and MSTX have turned to call options on MSTR instead. But here’s the catch: MSTR stock is highly volatile, making its call options incredibly expensive. While swaps carry financing costs in the single digits, the cost of using call options to achieve leverage on MSTR can exceed 75% annualized.

With sky-high financing costs and a structure that forces them to buy high and sell low, these ETFs stand little chance of delivering on their 2x daily return promise. Instead, they’re likely to gradually bleed out their capital.

The Illusion of Yield and the Real Bitcoin Winners

MicroStrategy’s claim that its Bitcoin strategy creates a yielding asset is pure fiction. In reality, it has only heightened the risk of what is already a highly speculative endeavour. The introduction of leveraged ETFs like MSTU and MSTX has amplified these risks, making the game even more precarious for retail investors.

But while many are caught up in the frenzy, savvy hedge funds have found a way to profit - not by extracting value from Bitcoin itself, but by exploiting the naivety of speculators chasing easy riches. These funds are taking advantage of an arbitrage opportunity: shorting these flawed ETFs while simultaneously holding MSTR as a hedge.

This strategy has already proven to be profitable, showing that the real money isn’t in Bitcoin’s supposed “yield” but in recognizing and capitalizing on the missteps of overleveraged dreamers. In the end, it’s not about Bitcoin’s value - it’s about outsmarting those who believe in the fantasy of effortless wealth.