Bitcoin Stablecoins: Everything You Should Know with Jakob Schillinger - CEO & Founder of Hermetica

Jacob Brown (00:02.196)
Jacob, how you doing there my man?

Jakob (00:05.733)
See you Jacob.

Jacob Brown (00:07.15)
Likewise, always good to connect. I want to just open up with a banger question. Partially philosophical, I think, around store value versus medium of exchange. know, everyone talks about like this kind of trajectory of money. It goes through like these three phases. different subsets of Bitcoin focus on different parts of it. A lot of us...

focus on the MOE part, like using Bitcoin for money, but others just like treat like digital gold, collateralize against it. That's how people are gonna use it. What's your current kind of stance? How do you see Bitcoin playing out on like a longer time horizon of these two things?

Jakob (00:54.362)
Yeah, I think that what you mentioned there is a, there's an adoption curve to money. And that's how I see it. I think.

if you want to transfer value, something first has to actually hold value. And so it has to become a store of value first. And I think that is what Bitcoin is in the process of doing and it's somewhat custom built for, right? It's like custom built to be the best store of value in the world because it's limited in, it's strictly limited in supply like nothing else there is and completely fungible. And so I think that

We're in the adoption phase of Bitcoin as a store of value asset. It's probably going to take some more time. More institutions, more people around the world are realizing that it is the best place to hold value for the long term. And I convinced that Bitcoin will become the medium of exchange and unit of account of the world. Like we're going into a hyper Bitcoinization where we fully adopt Bitcoin as

as a medium of exchange unit of account, but that is I would think decades away and and so it doesn't really make sense to jump the gun and in my opinion use Bitcoin for payments or for transferring value right now at least not at scale because it is not the unit of account The unit of account is still the dollar globally

And obviously that there's a lot of changes happening also as we speak, but that is what folks denominated their portfolios in. That's what they denominated their expenses in. That's what they denominated also their loans and financial products in. And so that's what they want to transfer. And we're seeing that, right? And we'll get into stable coins and the adoption of stable coins. We're seeing stable coins as the killer app for payments, for remittances, for a lot of these use cases.

Jakob (02:49.564)
not Bitcoin. And I think it's not really a debate at this point. If you just look at the market data, like I'm a fan of just looking at the market. What is the market telling us? The market is telling us Bitcoin is being adopted as a store of value. Stable coins and dollars are adopted for medium of exchange and the unit of account. So that's how I see it.

Jacob Brown (03:12.002)
So you think and yeah, the market seems to bear that out So you think a lot of the cuz I'm looking at you know I spend most of my time talking to founders and looking at kind of like where adoption is gonna come from and it seems like you do have you know BTC pay server making it easy to accept Bitcoin on your website and It works well to be well or lightning like if you can set up your channels, it works well to be well

But I can't help shake the feeling that we're over optimizing for MOE on Bitcoin too early. And maybe we should be going in the kind of like what Stripe has recently announced where like they're getting pretty heavy into the crypto side, probably through stable coins. Do you agree with that sentiment? Like maybe in the interim, we should see more companies leaning into getting off of TradFi rails and do stable coin rails as like a way to go into BTC MOE.

Jakob (04:08.764)
Yeah, absolutely. That's how we see it too at Hermetica. We see it as, in the interim, we'll have stable coins or dollars as the medium of exchange. so fully lean into that and actually build stable coins that are actually backed by Bitcoin and are running on Bitcoin. That's what we have brought to market.

And yeah, mean, Stripe just acquired Bridge for $1.1 billion, which is basically Stripe for stablecoins. And so it's pretty obvious, Paypal has launched their stablecoin. It's pretty obvious that a lot of folks are really excited about stablecoins because if you look at the data and you look at emerging markets, especially, there's a really cool report that came out from Castle Island Ventures a couple of months back that looks at emerging market adoption for stablecoins. Highly recommend to read that. And it's fascinating because...

A lot of folks think that stablecoins are used to get into crypto and that is certainly a use case. Like folks want to get stablecoins so they can buy Bitcoin or other crypto assets and interact in those economies.

But what that paper shows is that there's a pretty big adoption outside of that use case, which means it's actually completely unrelated to DeFi and the crypto ecosystem. It's just folks want to hold dollars. And if you are not in the Western world, you don't have access to dollars, at least not in an easy way. I'm...

Maybe you can talk a little bit about my background at some point, but I had a very visceral experience of that because I worked in Africa for a while and nobody has access to dollars.

Jakob (05:43.411)
But now you can, and you see that in Nigeria, there's a ton of adoption of folks that want to hold dollars in their wallet as a replacement for bank account. And then they can then transact with that, send it abroad, send it to their family, settle trade, all that good stuff, and then also earn yield and save. So it's really a replacement for bank accounts. And I think that is, I mean, that's the biggest financial product in the world.

Jacob Brown (06:11.03)
Yeah, so this is actually super something I think about as well. It's super interesting is We talked to normies about Bitcoin like one they'll be like, this guy don't please please don't I'm not ready for this like they Don't want to hear about the scams NFTs all this stuff But one thing that hits you when you start to talk about like the financial system and the Fed is like nobody thinks They think about the dollars in their account. I need more of them. They don't think about the money it like

What is the money in their account? That's this whole separate question that they don't have a time to think about And that got me thinking like there's something about stable coins and as you mentioned like people want a dollar They want the brand that is the dollar at some level because if you have your current currency you have the dollar Then you have these other random assets. They're super volatile. I just want to get out of the volatility That is my current currency and something more stable

Jakob (07:07.899)
Exactly.

Jacob Brown (07:08.002)
But no really talks about that. They don't really talk about the dollar as a brand or like people don't just want a stable coin. They actually want a dollar because it's this kind of like reserve currency that they could trust.

Jakob (07:22.164)
Yeah, and they can transact with it worldwide. Everybody accepts it. And as you said, their local currency is getting inflated. They don't trust their government. so trust another government, even though that is probably not the...

absolute best alternative, but is a lot better than trusting your Nigerian government or Argentinian government that has inflated the currency at like over 100 % year over year, right? And the dollar is not inflating at 100%, at least not yet. So it is, and it's just like, I don't think it's much of a debate. It's just look at the data, that's what folks are doing, and it makes a ton of sense. I would want to do that. If I wasn't in emerging markets, I would want to hold dollars, not my local currency.

Jacob Brown (07:45.87)
Yep.

Jacob Brown (08:04.94)
Yep, it's the rational thing. Now this is cool. Then, actually I do want to touch on your background a little bit, because you have a pretty interesting background, you've an entrepreneur for a while. Give us some color on your background and like leading into how you got into Bitcoin.

Jakob (08:22.738)
Yeah, yeah, I I guess I'll.

I'll take a little bit of a longer tour because we have some time here. I've always been an entrepreneur, actually. There's stories from my mom that I was buying and selling things when I was in the six, seven years old. But really started my first business, I think, when I was 13. I had long hair. I think you remember me with long hair, right? I had long hair. I have rich locks. And I was playing soccer as a 13-year-old. And so I bought like...

Jacob Brown (08:46.101)
Mm-hmm. Yeah.

Jacob Brown (08:51.298)
You pull off both well by the way.

Jakob (08:53.652)
Thank you. I bought like a headband to like hold back my hair when I play soccer. And when I looked at it, I was like, this is just an elastic band that is sewed together. I can do this myself. I can produce this. So I asked my mom to show me how to sew and bought some elastic bands and I produced headbands in my bedroom and sold them on eBay when I was 13. And that was my first business was actually quite successful. Made like a couple hundred dollars. I was super happy about it and learned about, you know, copywriting, like get the headband, like

the soccer superstars and did some accounting and that was always had that know that bug of wanting to build stuff and sell it and then actually had to shut it down at some point because I got tired of sewing headbands and I asked my sister if she wants to like wants to work for me and she was like too expensive. I ran the numbers I was like that's not gonna work.

Jacob Brown (09:47.118)
You

Jakob (09:51.135)
I had to shut that one down. then, you know, did like other, I was arbitraging the first iPhone when it came out. I was buying it in the UK and importing it to Germany and selling it for $200 more, a pop.

So I did that a couple times and bought my first iPhone that way. And that was really cool. And yeah, so always had a little bit, side hustles on this going. I went to engineering school at some point. That was like the least entrepreneurial time of my life, I guess.

But then in 20s got involved in 21, 22, I got involved in a project that brought me to the emerging markets. We had technology to produce very cheap eyeglasses that we brought into Africa, South America, Bangladesh, and produced eyeglasses for a dollar in those countries and then sold them locally, prescription eyeglasses. And since there's really almost no eyeglasses in the developing world.

like basically non-existent. We were able to sell a lot of them and distribute them all over the world. I sold over 250,000 eyeglasses. And the really cool part was that it brought me to like some of the most remote places in the world. We would like do outreaches and go into the wilderness in Burkina Faso, in like the Sahara essentially. And it was, I was like 22 year old white guy and it was, I didn't see a white person for like weeks. And it was like just amazing.

amazing people and then seeing these kind of folks, like folks that literally live in huts and bank account, what is this? Like what are you talking about? They're sending money on their phone actually, right? They actually have a form of bank account which is the credits on their phone which they're to their neighbors or to other people in the city. But it allowed me to see economies that are much less developed, financial systems that are much less developed but also much more controlled by...

Jakob (11:47.884)
other entities in Burkina and West Africa, the currency is controlled and issued by France. And so it's like...

Interesting, right? There's definitely power structures that exercise control over the financial system. And you can read that in a textbook, but if you see it viscerally, if you go through the city and everybody living in poverty, but then you go into the city center and the restaurants are all full of white French people, it's like, okay, interesting. You start putting one and one together. So that gave me, I think, very good...

background for rocking Bitcoin very quickly. So when I found Bitcoin 2016, it it clicked very quickly and obviously, you know, it's like interesting from an engineering perspective, super interesting how you can build this and like distribute it and it's not controlled by anybody. But then also on the economic level, this can actually be a technology that can serve these kinds of economies and people to bring them into a financial system that is not controlled by

another country outside of your reach in Europe.

for example. So fell in love with Bitcoin really and still am in love eight years later, nine years later. And dedicated myself to first studying it because I think there's so many things and you know do this super well in your podcast to like just look at all the different facets of Bitcoin. There's so many facets of Bitcoin you can like spend years just talking about it and learning it. So dove into a bunch of different elements of it, studied cryptography, studied the Bitcoin core node, started a mining company because I wanted

Jakob (13:24.537)
understand what mining is which was quite interesting business lesson as well and then got into trading the asset trading the futures markets and ended up working at Kraken the exchange for a while where I got exposed I would say to the rest of crypto Kraken obviously is a Bitcoin first company or at least was founded that way but now it's

in everything, any crypto assets, any blockchain. So I got exposed to Ethereum, DeFi, Solana, NFTs, all that fun stuff. And that really also then exposed me to the idea of building on Bitcoin or building a decentralized financial system on Bitcoin. Stacks, Rootstock, those projects really inspired me, which then...

finally led me to leave Kraken 2022 and start Hermetica and that's what we are today. And that's our goal, to build on Bitcoin.

Jacob Brown (14:20.174)
Dude, that's a hell of a journey. Very cool. I definitely feel a kinship to the eBay life. For a while, was hitting up real estates in my local area and then just flipping shit on eBay for buying a VCR DVD combo player for 20 bucks and then flipping it for 200. So I made my first like...

Jakob (14:39.761)
Yep, it's a good business.

Jacob Brown (14:44.332)
You know 40k or something doing that and I'm like, actually don't want to have like a basement full of just random shit that is like Might or might not sell so Let me go into this tech thing But yeah, no, no, and I felt I stuck. I was like, is an anchor I got a carrier thing wherever I go. I want to live laptop life. So maybe Bitcoin So that's cool I want to start to touch in like

Jakob (14:46.821)
Nice.

Jakob (14:54.232)
Yep. Yeah, it's not scalable, basically.

Jakob (15:07.474)
Yep.

Jacob Brown (15:12.366)
deep dive into hermetica, but I want to go about it kind of roundabout way because it's super interesting when you talk about like city life, French, different connection to even going, you know, 30 minutes out and like how different people like kind of like in the rural areas might live. And I see that it's all over the place and everywhere. Like you see it in politics, you see it in Bitcoin where it's like stable coins are stupid just by Bitcoin dumbass. And it's like, well, sure. In your perspective, that makes

perfect logical sense, but you're in your little bubble when you can't expand like your perspective to include other views that would be contrary to yours. all that to say like, give us a little more color on like through that lens of like Bitcoin and stable coins, cause I do agree stable coins have reached pretty good product market fit, but like certain subsets still viewed as just like a wasted effort, stupid.

And it seems like part of it is that, like, they just have their worldview. They're the French in the city. So they can't relate to the other perspective. Any thoughts on that framing?

Jakob (16:22.226)
Yeah, I think there's always folks that think things are stupid and obviously they're entitled to their opinion. But I think at the end of the day, what is important is what people do, not what people think. Like we can sit around and philosophize all day and that's interesting for a little bit. Not that interesting to me actually, but if you look at what people do, if you just actually look at the on-chain data, it's 50 % of on-chain transaction volume is stablecoins. So...

Proof is there, proof is in the pudding. is, if you like it or not, it is a product and an asset that has found product market fit and it is being used in the billions of dollars by tens of millions of people all around the world and most importantly, is solving real problems. Like it's not.

I mean, the real problem of managing portfolios, making more money, asset management, this is a real economy, very important economy. There is the, some people say it's not really that important. I think it is, but the real problems of how can I save my energy? How can I save my money in order to pay for my family, pay for education, know, put my kids to school, feed my family? That is what stable coins are used for. That's what stable coins

are used for mainly in emerging markets where it's essentially a replacement for a bank account. I think that Bitcoin obviously is a fantastic technology. I think there's a lot of elements to it that are fascinating. One, it's the asset. One is as a settlement layer in a network.

The other element that is super fascinating to me, that's why I'm building a stablecoin, is stablecoins because they have that use case that actually can produce real value to folks. And if you can combine them, and that's what we've done, that's what we're doing, if you can actually have a stablecoin that is backed by Bitcoin and settles on Bitcoin, essentially transacts on Bitcoin, I think you have the best of both worlds where you have a product market fit product like the stablecoin that people wanna use, but you're also still inheriting those really awesome

Jakob (18:29.357)
primitives of Bitcoin that makes it very secure, very censorship resistant and the asset Bitcoin itself is the new digital gold standard and so that we're essentially going into a world where reissuing dollars on the gold standard. We went from the gold standard into the fiat world and now we're going back in my opinion. That's what we're after.

Jacob Brown (18:51.276)
that yeah and you tease out some things of like a Bitcoin backed stable coin has some advantages but I want to make sure people have a good view of the current landscape of stable coins because there's like three main varieties is my understanding your fiat backed which is by far the largest currently collateral backed so like you put up at asset you mint against it and then these new kind of like trading strategy style ones that hedge to keep the peg

Give us some color on like the different types of stable coins because like they're all not built equal

Jakob (19:29.05)
Yeah, there's a lot of cool experiments, but there's really three buckets. As you mentioned, there's fiat-backed, RWA-backed stablecoins. You have collateralized or crypto-collateralized stablecoins, which actually delta-neutral stablecoins are also crypto-collateralized. They just add an element to it. And then there's algorithmic stablecoins, which don't have a backing in itself. Things like Terra Luna and some others that I think we all now know don't work.

and our failed experiments. So there's really two big buckets. There's RWA backed stablecoins and collateralized stablecoins. They're both collateralized. It's just what you collateralize it with, right? The RWA collateralized stablecoins, you tether your circle or collateralized with fiat in a bank account or treasuries or reverse repo agreements. And so they are essentially collateralized by assets in the fiat system.

that are as you mentioned that's the by far number one amount of stable coins in circulation. Tether is 140 billion dollars I think and they have a lot of liquidity, a lot of product market fit, network effects and are very scalable because there's just a lot of liquidity in the fiat system and so you can just on and off ramp that quite easily.

They are though still tethered in the fiat system. And that is the downside. They're still actually dependent on that fiat system. Want to operate efficiently. If a bank goes down like we saw last year in March I think or April when SVB went down, that was not good for Circle. It depegged by think 12%. So there's a real risk of something outside of actually the company Circle influencing depeg and quality.

of that product. And then the other, obviously the other big risk is regulatory. The fiat system can run well, but if the government doesn't want a specific product to exist, they can shut it down. There was actually the CEO of Tether, Arduino I think is his name, he had an interview a couple days ago in CoinDesk where he said, yeah, if the US government wants to shut down Tether, they can do so with a click of a button. Which is just the reality that he acknowledges.

Jakob (21:47.868)
So that's fiat backed stable coins. Obviously very, very interesting and we all use them every day, including myself.

The other, if you want to get out of the fiat system, the way to do it is instead of collateralize it with fiat, you collateralize it with a crypto asset. So there's really two main ways to do that. One is you over collateralize the system. So you take Bitcoin, Ethereum, and you lock it up in a vault, in a smart contract, and then you mint a stable coin, essentially borrow a stable coin against it at a lower value than the Bitcoin. Like say you put a thousand Bitcoin in, you borrow $500 out of that.

the stable coin that is backed by Bitcoin that you can transact, the Bitcoin still exists, and you can redeem it back to the Bitcoins or Ethereum. That's the over collateralized approach. think the first big one that brought this to market was actually MakerDAO with DAI. Back in the days, I think it was like 2017, something like that. And there's other...

projects that do this in the Ethereum Solana world. Liquidy is another one that is quite prominent and there's a lot of them being built right now in the Bitcoin ecosystem. They are good. I think they're really interesting stablecoin approaches because they are very decentralized. You hold the crypto assets on chain in a vault, in a smart contract.

They do come with a lot of drawdowns, and the main drawdowns are that they're not capital efficient, meaning that you actually have to lock up a lot more crypto assets than you can use as a stablecoin, is not, finance likes efficiency, right? If you have capital sitting around idle and it's not doing anything, it's not really that scalable, it's not that efficient.

Jakob (23:35.6)
The other element is that you're introducing a leverage point, right? Like since you are borrowing the stable coin into existence, you're actually creating leverage. And with leverage, you create a liquidation risk. Because if the Bitcoin price falls, let's say you borrow 50 % and the Bitcoin price falls by 50%, now the system liquidates your Bitcoin position.

And that as a user, speaking from experience, can be quite stressful. It's like creating a leverage trade on the futures market, for example. And so in a stablecoin, if I want to hold a stablecoin, I don't necessarily want to create leverage or worry about a liquidation risk. So there's a UX problem there.

The other element is that maintaining the peg or arbitraging the peg is not straightforward because if there's a multitude of different users that create these vaults and borrow the stablecoin into existence, if you want to arbitrage the peg, can either have a vault, so everybody can arbitrage their own vault, but most people don't want to be market makers and arbitrage a peg. So what happens is that you have redemptions on all the vaults, which means that some of the people sell the crypto assets

at whatever the redemption, whenever the redemption happens, some of the assets get sold, which again is a bad user experience because if you lock up your Bitcoin, you don't necessarily want it to be sold at random times. You actually don't want to sell it at all, most likely. So there's some critical issues in our opinion.

that make that approach less scalable and therefore less attractive to build actually a stable coin with. And the other Bitcoin collateralized approach is the Delta neutral approach where you still collateralize the system with Bitcoin, but you add an element to it which takes away the downsides that you have in the over collateralized system. And that is you you couple this spot position with a short on the futures market. So you hold Bitcoin and you short it

Jakob (25:36.093)
on the futures market one-to-one, meaning you take out all the price exposure, essentially. You hold Bitcoin, you short the same amount, so no matter where the price goes, the dollar value of that Bitcoin stays the same. And if you do that, now you can actually represent 100 % of the value of the Bitcoin as a stablecoin, because you basically lock in the dollar value. So it's very capital efficient. And...

The other element is that you don't have a liquidation point. If you say futures markets, you think of leverage, you think of getting liquidated, but we actually use the futures market to take out the price exposure. So there's no liquidation whatsoever. There's no change in value due to the price. It's delta neutral in trading terms.

And so you have no liquidation points, a better user experience, and arbitraging the peg is a lot easier because there's only one vault, essentially. So arbitraging that is very clean. There's not multiple different vaults that are each linked to a specific person.

And then as a cherry on top, you actually get paid to do so. You get a yield in the system. Whereas in the over collateralized system, in most cases you have to borrow the stable coin, you actually have to pay to do that. In our system, you get paid to hold the stable coin. So there's another cherry on top as we see it, because it's really a side effect. And we can obviously dive into how that works and why that yield is not a rug. But that's it, that's the taxonomy.

Jacob Brown (27:11.918)
This is just effortlessly just broke down the entire stablecoin market. I'm just going to clip out this 10 minute section and make it the pod. That was by far the best breakdown I've heard. So thank you for that. Then yeah, I have a bunch of follow-up questions, but actually let's do it through the lens of Hermetica and USDH and we can pull out specifics. So yeah, give us the overview of

Jakob (27:20.571)
you

Jakob (27:27.227)
Appreciate that.

Jacob Brown (27:41.73)
What is Hermetica? What is the purpose of building Hermetica?

Jakob (27:45.807)
Yeah, I so our main mission is to build a decentralized financial system on top of Bitcoin. I believe that if we want to have freedom and prosperity for the human race in the long term, we need a financial system that is built on Bitcoin as the settlement layer, because that is, in my opinion, the only decentralized, actually decentralized settlement layer that we have. And so that's our mission as a company. And in order to do that, there's obviously a different building blocks that need to be put in place

for a decentralized financial system, trading infrastructure, money markets, different financial primitives. And one of the most important ones is actually a stable coin, meaning a dollar asset that can be represented on the Bitcoin blockchain that can then be used in the different applications, can be held by folks in their wallet. And that's what we have.

brought to market. USTH is that stablecoin, is a stablecoin backed by Bitcoin. We use the Delta neutral Bitcoin collateralized system. So we hold spot Bitcoin. We short the futures market one to one and we rep that locks in the value of the Bitcoin in the protocol. We represent that on chain. It's live on runes. It's live on stacks. So Bitcoin L1 and Bitcoin L2. We represent that dollar value on chain as a stablecoin. And then you can use the stablecoin to also earn yield. You can stake the stablecoin.

is Siva liquid staking token that accrues the value from funding rates, which is the mechanism that generates the yield. We can dive into that a little bit more. Paid out daily just by holding the stable coin, the liquid staking token. So there's a stable coin, there's a liquid staking token. So essentially a dollar asset that is still Bitcoin and then a Bitcoin native yield instrument.

Jacob Brown (29:34.062)
Excellent. Just taking some notes.

Jacob Brown (29:40.238)
And so let's talk to the specifics of the stable coin piece first. The yield part's also super interesting, but the, you mentioned like there's the collateral type, which is usually like a smart contract. You lock up your whatever you meant against it. There might be some redemption aspect, but that can all kind of be handled at the smart contract level. Maybe it's mostly self-custodied ish. This introduces this, this fun, this trading element where it's going and taking a position.

When you first hear about it, feels like it's interacting with the TradFi world. Like I'm not a finance guy, so that's just like big brain and giga-chad stuff to me. like, this help me understand like what is on chain and in a smart contract? What is on crypto whales, but not in the smart contract? What is TradFi? Like any clarity there would be helpful.

Jakob (30:33.055)
Absolutely. Yeah. And so, I mean, I talked about all the benefits of the Delta neutral approach. There's no free lunch usually, right? So what is actually, what's the drawback? What's the trade off? The trade off is that in order to access the liquidity for the futures markets, which is 95 plus percent at this point in CIFI. So when you like Binance, OKX, Deribit, Bitget, et cetera, in order to access that liquidity,

you have to play in the C-File world and you can't hold the asset on chain in smart contracts. Not that there is any smart contracts on Bitcoin, but you can't hold it into vaults.

So what we need to do and what we're doing is we hold the Bitcoin in institutional grid custodians, namely Seifu and Copper, and they allow us to hold Bitcoin in custody while at the same time making those Bitcoin available as margin on centralized exchanges. So you can think of it like this. You hold the Bitcoin in cold storage.

And then at the same time, they become available on the exchange as margin without being on the exchange. So the coins never actually end up on the balance sheet of the exchange. And that is very important because if the exchange goes bankrupt, which we certainly have seen, the coins, our coins are not part of the bankruptcy claims, right? They're outside of that. So it allows us to trade on the exchange while reducing our counterparty risk. And so...

That's what we're doing. Then there's a settlement between the exchange and the custodian every day to make sure that the P &L is distributed accordingly. That's what we're doing. We hold the coins in custody. We trade on decentralized venues, which allows us to tap into billions of dollars of open interest, which we need in order to make it a scalable system. yeah, we essentially just hold the Bitcoin. We short it on the centralized exchange one-to-one. There's no leverage. We lock in the dollar value. And that is off chain. That has to be off chain.

Jakob (32:35.652)
that can be brought on chain in the future. If there's markets that develop on chain, we can bring this on on chain in the future and decentralize it more. It's just not there. The infrastructure is not there yet, especially not on Bitcoin.

And what is on chain is essentially our token contract. So the token that we issue is represented on chain. That is on the rune side, just a simple rune's token, very simple setup. No smart contracts there. On the stack side, that's a SIP 10 token. And then the staking element is also on chain. So you can go...

On stax is on chain, on Ruins is it can't be on chain because there's no smart contracts. But on stax you can come to a smart contract, you can stake your stablecoin, you get a liquid staking token automatically back. And then every day we essentially represent the P &L, whatever we have harvested from the funding rate, we represent that on chain and the value of the liquid staking token goes up.

Jacob Brown (33:34.698)
Okay, that's super helpful. On the topic of getting into this stablecoin, like for the ones that are backed by collateral, it's pretty straightforward. Like you have BTC ideally, and then you lock it up and you get this minted stablecoin. What's the like user flow for interacting with USDH currently?

Jakob (33:57.815)
Yes, so as a normal user...

You can buy USDH on the open market. It's listed on Magic Eden. There's a pool on DotSwap. So you can show up with your Bitcoin and just buy it, swap it for USDH and now you hold USDH. So there's no interaction actually with the protocol itself. It's all on the open market, on the DeFi markets. Same on Stacks. You can take any SIP 10 asset, any Stacks asset and swap it for USDH on BitFlow and Velar. That's where we're live today. And then come to our website.

either on runes or on stacks. So can come to the website and then stake the stable coin, get the liquid staking token and accrue the value over time. There is another primary user, we call them, which is people that can mint and redeem. These are institutional players, high network individuals that are actually interested in depositing Bitcoin and or redeeming Bitcoin out of the protocol and essentially arbitrage the peg. So they can buy USDH below peg, come to us and get always one.

dollar worth of Bitcoin or any other crypto assets back for that USDH, if that makes sense. But that is not the general public.

Jacob Brown (35:11.335)
Also, I'm gonna pause the podcast for a second here. This is a sidebar. My laptop is not charging properly for some reason. So I'm at, I was at seven now I'm at six, even though I'm plugged in. So if I go dark, I got rugged, but we'll see how far we get. We'll just push on until that happens. No, that's super interesting. Yep, exactly.

Jakob (35:21.005)
Shit.

Yeah, got it.

Jakob (35:31.725)
Got it. It's saved online, right? Yeah, it's saved on Riverside.

Jacob Brown (35:39.374)
Yeah, so it'd good to go there. Cool. And then talk to me about the staking side, because one of the big benefits for Tether is that when you deploy into them, they can then go do fun treasury stuff with the government and get that yield. And it doesn't get passed down to the users. So the staking side feels like a pretty big.

UX improvement and like benefit for users to actually like hold the dollars but also get yield in the dollars outside of touching TradFi. So yeah, talk about that.

Jakob (36:17.143)
Yes, no, absolutely. And I think it's one of the most attractive ways to earn a sustainable yield on your dollars if you just want to hold Bitcoin. Because at the end of the day, if you hold USDH, you're still holding Bitcoin, right? You're holding one dollar worth of Bitcoin.

And how the yield works is it's pretty straightforward. Since we are short the futures markets, there is a funding rate that we collect. So futures markets need to balance the supply and demand of the futures, like longs and shorts in the market. And since the crypto markets have a structurally are structurally prone to be long, like folks want to belong the assets that they want to have long exposure to the asset. And we are essentially providing

that long exposure to folks. We're selling futures to them and they are willing to pay us for that privilege. That's how you can think of it. And that is expressed through an interest rate that is paid between longs and shorts every eight hours in the futures markets called the funding rate. And since we're short on the futures markets, we collect that funding rate every eight hours and then pass that on to people that stake the stable coin. Now,

How sustainable is this, right? That's the question. If you look at the historical data, 85 % of funding rate environments are positive, meaning shorts get paid and 15%, when it gets really bearish, like when FDX collapse or there's a big bear market, it can go negative. And then we have to pay to hold the position open. What we do is we take 25 % of the yield that we generate in positive funding rate environments, and we set that aside in a reserve fund. And that reserve fund is then used to buffer out

negative funding rate environments. And so yeah, it's a crypto native yield that we don't touch any trash fly instrument. We just hold crypto on institutional grade custody and trade on sexes and then pass that yield on to folks at stake to stablecoin. It's pretty straightforward.

Jacob Brown (38:16.814)
That's super cool. Yeah, the more I hear about this finance stuff, it sounds so scary at first, but when it gets broken down, maybe you're just good at this. I gotta keep giving you your flowers. It makes a lot of sense. yeah, the funding rate has some kind of downside, which as you explained is like historically it could be 10, 20 %-ish will be in that negative, but then you just account for that. Plan appropriately and you'll be good to go whenever rain.

arrives. So, yeah.

Jakob (38:47.607)
Exactly, but also the calculations how they're done like if you look at the formulas on the exchanges how they're done they skew positive because there's a borrow rate in there. That's like a cost of capital essentially in that formula which means that on average over the last five six years the funding rate has been around 12 percent and in bear markets it can I think in the last bear market it was around 3 percent and in bull market it can go as high as 25 percent.

Jacob Brown (39:17.528)
Hmm.

Jakob (39:17.685)
So it's quite a sustainable, pretty rich yield.

Jacob Brown (39:21.294)
Got it. Now this is super cool. It makes me want to definitely get my hands on some USDH and move a little bit of my Bitcoin out of that. What's the, you know, stable coins at some level are like only as good as they are liquid across where people are actually transacting? So, ruins and stacks is what you currently mentioned, but like how you guys thinking about...

A rollout plan to be everywhere if that's the plan

Jakob (39:52.171)
Yeah, absolutely. I think as a stable coin, you kind of have to be everywhere. And we are seeing, I think Bitcoin DeFi slowly make baby steps forward. I think Bruins and Stacks ecosystem both are very small, very nascent, some very cool users, you very ardent people that really love the ecosystems, but there's definitely a lack of liquidity, especially on the stable coin side. And that's what we're tackling and bringing more liquidity in.

We're very keen on a lot of other L2s. There's, and you probably have a much better even overview than me, but there's a lot of them at this point, probably too many. But there's a lot of really cool ones and really good teams building. we're in conversations with them and some of them have not deployed yet to test net or even main net. And so we're waiting for that to develop and we'll be there where the users will be. We're Bitcoiners. We want to serve Bitcoiners.

and there's going to be lot of venues to do that.

Jacob Brown (40:53.006)
Very cool. And certainly agree there's too many L2s. And we'll see what makes the ecosystem, certain ecosystems pop. there's certain ones that do better than others narrative wise or community or the tech. One question on that, cause a lot of the L2s are like global state kind of smart contract blockchains. So the off chain style, like a lightning or an arc or whatever.

don't get in the mix as much. And it could just be because it's to program for, but like is off-chain stuff at all on your guys' radar?

Jakob (41:32.599)
like lightning and arc. Yeah, I mean, everything is on our radar. Everything is interesting. I played with lightning back in 2019, 2020, and I think it is a very pure technology in that it's like.

Jacob Brown (41:34.157)
Yeah.

Jakob (41:46.795)
very Bitcoin aligned, very simple. I think it has UX problems and it hasn't seen the adoption that you would expect, right? Like there's still the same discussions that were going on four or five years ago. So I would love that to see more adoption and then we're very keen on being part of that ecosystem. I just don't see the adoption right now. And I don't know if there's a fundamental UX problem because managing lightning channels and how that whole system works is...

is not super intuitive and not super user friendly, in my opinion. But yeah, I'm technology open. I love all tech, especially if it's built on Bitcoin. And so we're open to everything.

Jacob Brown (42:28.814)
Got it. And then, yeah, so we're in the high experimentation phase of L2s. I feel like we're also in that with stable coins. We're getting a lot of new entrants to the market. Do we have too many stable coins? How do you see experimentation and longer term? Is there going be consolidation? How do you see the market going?

Jakob (42:50.773)
I think it's a classical adoption of technology where it's just a lot of experimentation, a lot of ideas, a lot of teams, a lot of good projects, some not that good projects. And that's where we're in right now. There's probably like 20 different stable coins that coming to Bitcoin. And Bitcoin is a stable coins are network effect business. So we will certainly see consolidation over the years and a couple of winners emerge. Who those will be? Who knows?

where it's not the time to see that. It's so early, so it's gonna be years to really see that materialize.

Jacob Brown (43:33.037)
What's on the roadmap for Hematica say the next 6 to 12 months?

Jakob (43:39.211)
Yeah, I mean for us always be making the product better. We're going through a whole UI UX redesign, which is a big focus of mine right now actually. And then deploying to other L2s as they come online and being active in those ecosystems. And then obviously there's a big focus on decentralizing our protocol and potentially launching a token with that.

And lastly, and this ties back to the beginning of our conversation is the adoption in Bitcoin DeFi is super interesting to us because there's emergent new ecosystem in crypto. But there's also just real adoption in emerging markets that is fascinating for me specifically and very relevant for stable coins. So we're looking at

those markets, emerging markets in Africa and Latin America and Asia, where we can find partners and distribution to actually bring our stablecoin and our yield solution to those folks because there's a lot of opportunity to serve those people. That's what we're really excited about.

Jacob Brown (44:39.544)
Very cool. Question just came to mind, because a lot of apps that go cross-chain, especially in the DeFi world, have a big issue with fragmented liquidity. Like, you go to a new ecosystem, no one knows you, your brand is over on some other ecosystem, and so you have to almost start fresh and try to get those people to trust you to put their money in there. But it seems like the way you have this constructed, you don't have as much of those kind of like headaches to deal with.

Is that, am I hearing that correctly or like think about that right?

Jakob (45:13.587)
I think that it is a big issue fragmenting liquidity is it because you also create like DeFi pools that are specific to a specific token standard and are locked into that ecosystem and that liquidity just sits there right and can be accessed from other L2s. I think it's a massive issue to be honest and I think there's not a really clear good solution yet to that and we'll have to figure it out as we explore as we expand the ecosystems. I think there's some cool cross-chain stuff like beyond just came out that

is using layer zero technology to do interoperability across a lot of different L2s, which is, think, super fascinating. And at the end of the day, that's probably the end game, where it doesn't really matter where you... At the end, the end game is really that the user doesn't even know what chain they're on and what token standard they're using. It's just abstracted away and stuff like Beyond and other interoperability tech is behind the scenes. So I think it's just like we're in the first 10 % of adoption or even less.

and it's all clunky and weird and not efficient and as we adopt more we'll probably get that sorted out or we have to get that sorted out for mass adoption.

Jacob Brown (46:23.094)
Yeah, so does USTH have that same issue in the sense of like you have these high net worth people

it towards somewhere and they're are they in the backup background kind of like the market maker so they're being the liquidity pool that if you're gonna go put it on you know rootstock for example a certain subset of that treasurer as we put towards rootstock to then trade against

Jakob (46:48.331)
Yeah, you can think of it essentially as there's Bitcoin in the protocol on the asset side and then there is the stable coins on the liability side that are either issued on runes or on stacks right now or in the future on root stock and other L2s. So those assets can be interoperable and we're working actually on an in-house solution to make them bridgeable without actually using a bridge, just through us.

But in general if a token is on one equal like if there's a ruins USDH Then and that is sitting in a pool on dot swap for people to trade against that liquidity is siloed from the liquidity on stacks, right? They're not like they can't talk to each other they can't interact with each other at least not yet and that is it's not capital efficient, right? because if there's a lot of liquidity here, but you're trading over here and there's not a lot of liquidity then that is a you at user problem and

Yeah, we need to fix that at some point. But I don't see a good solution there. I don't know if you have any startups that do that. Maybe that's a startup idea.

Jacob Brown (47:47.042)
Mean beyond is doing good work. Like it's always you just move trust assumptions around you're playing trust assumption ping-pong at some level Like it's you trust layer zero you trust something else. So like there's no perfect solution in my mind yet But yeah, so we'll see it's it's a so much it's a big enough problem There's nothing money to be made if someone solves it someone will it's gonna happen But you got me thinking

because there's a big topic in Bitcoin around decentralization, obviously, like censorship resistance. And I'm of the view now in 2024 that like it's a good target, but perfect is the enemy of good for a lot of these products where it's like just build what's useful first. So we're not lagging behind TradFi and the ETFs taking all of it.

And as I'm sitting here, like you've definitely sat in the middle of that of you're partially centralized on part of your stack, partially decentralized on like the smart contract side of like where custody is. like when you're thinking about, how to build for usefulness and utility while like towing that line, how, did you think about it when you're building this?

Jakob (49:02.505)
Yeah, I think it's an excellent question. I fully agree with your sentiment in that I think decentralization has to be our North Star and has to be what we thrive to do in the long term because that ensures that the systems actually stay independent and can serve people in the future. But in order to move quickly and bring products to market that actually then create that virtuous cycle of actually becoming better because they're used and they're not just ideas in people's heads and get like over optimized, which

a lot of people I think fall into that trap. In order to do that quick iteration and bring products to market, I think having that scale go further into centralization and have some elements that are centralized is probably better actually because it allows you to have that quick feedback loop and...

If I'm quite honest, I mean, I'm a Bitcoiner. I love decentralization. I love Bitcoin. And I think that's what we should strive for. But if you look at the general public, I don't think they care, to be honest. I think most people don't care about centralization. I mean, you see that with stable coin adoption. How centralized are stable coins? 100%. It's like centralized in the entity and centralized by being backed by the US government, essentially. So like, doesn't get more centralized than that. Massive adoption and lots of use cases and very useful.

use cases for a lot of people all over the world that are actually getting real economic value out of these things. So I think we have to be very careful as an ecosystem to not, as you said, over optimize for decentralization and then get caught in our like internal little feedback loop that is screaming on Twitter, which then actually prevents us from building products that are useful, that get feedback and can iterate. And yeah, so I fall definitely into the let's do a compromise camp.

Jacob Brown (50:49.684)
And thank you for that. We need more thinking like that. So, partially I'm trying to call it out because, yeah, you get shouted down on Twitter if you say this, you're a heretic, all these things. How could you? You're just trying to be Fiat again, clown world, and it's like, come on, bro. We're trying to build useful shit. Get off my ass.

Jakob (51:09.084)
And you can decentralize over time. Like you can start out less decentralized and then bring it into that over time. And that's also what we're aiming for.

Jacob Brown (51:11.694)
100%.

Jacob Brown (51:18.326)
Love it. Love it. That's very good. Very cool. Cool man. The last question I always end on a high note of like, what are you most excited about in Bitcoin? It could be your own product. It could be some new tech or just something you're excited about in the world. What's got you hyped right now?

Jakob (51:35.72)
I mean, there's a lot of things I think to be hyped about on the product side. I'm really excited about Bitcoin staking and stuff that Babylon is building. I think that is a really cool primitive that is actually really interesting to us because we can implement like a

a yield on that level, like a risk free rate essentially into our protocol as well. And I think it will like really make the whole ecosystem better. And it makes fundamental sense to me to use Bitcoin's most, one of its most prevalent characteristics, which is high security budget and use that across other ecosystems. Like that makes fundamental sense. And so I'm excited about that product and how it's going to be rolled out. Obviously still very early days.

there is a palpable, on a different note, there's a palpable change in the regulatory and legatorial landscape, especially in the US. With Trump and people around that, I think people are fed up with basically being stonewalled by nonsense and really want to create innovation also through the US. I think that is exciting and hopefully will be coming more in the coming months and years.

Jacob Brown (52:50.402)
Fingers crossed. Fingers, please give us vagatory clarity. That would be so needed. Excellent. Any topics that I didn't ask that you want to close on.

Jakob (52:57.32)
Yes.

Jakob (53:06.332)
No, I think we talked about most everything. Really appreciate it. Great conversation. I love your podcast. I've always been a listener for actually many years.

Jacob Brown (53:16.888)
Thank you so much. And thank you for coming on, dropping knowledge. My work has cut out for me to cut out all the banger clips and bombs that you dropped. So yeah, I think the people are gonna enjoy this one. Thanks for coming on, man.

Jakob (53:31.656)
Yeah, thanks for having me. fun.

Jacob Brown (53:34.382)
All right. Boom.