BitMEX: Analyzing its New MicroStrategy Debt Instrument STRC – Will It Sell BTC?

Source: BitMEX Research; Compiled by: Jinse Finance

Key Points of this Article

We analyzed Stretch ($STRC), a novel MSTR (Strategy) debt instrument designed to maintain price stability by adjusting the dividend yield monthly based on bond market prices. Therefore, this product is marketed as low-risk and compared to short-term U.S. Treasury bonds. This is yet another attempt by Mr. Michael Saylor to infiltrate the financial system, with the ultimate goal of accumulating more Bitcoin. We read the SEC filings, and based on our understanding, MSTRs can abandon their price stability objective, reducing the dividend by up to 25 basis points per month, meaning the dividend yield could potentially drop to zero in just over three years. Therefore, we believe this product is favorable for MSTRs, and from an investment perspective, its risk is far higher than that of short-term Treasury bonds.

Overview

In November 2024, we published an article about MSTR titled "We calculated the mathematical principles of a Ponzi scheme".

This approach is relatively simple, focusing only on the stocks themselves. Besides stocks, MSTR offers a range of other financial products for investors to choose from. Of particular note is the company's relatively new series of senior perpetual bonds:

This article will focus on what we consider the most interesting of the four products—STRC.

In particular, following our article published in November 2024, STRC has been the product we've received the most questions about. For example: What happens when the music stops and the new funds flowing into MSTR dry up? How will MSTR pay STRC dividends then? Will MSTR be forced to sell Bitcoin? Is STRC a Ponzi scheme? In light of these questions, we decided to write this short article to explain our basic views on STRC. What is STRC? STRC is advertised as the lowest-risk component of MSTR's investment portfolio. In fact, its risk is so low that it's comparable to US Treasury bonds or stablecoins. However, its yield is significantly higher than these low-risk alternatives. The following chart, from a recent MSTR investor presentation, compares STRC to "Treasury credit."

Source: Strategy document

The price of STRC has recently risen to its face value of $100.

This indicates that it has achieved some success, and the price has been relatively stable.

How is the interest rate determined?

STRC's target appears to be maintaining a trading price around $100. Dividends are typically paid monthly, and the company can adjust the dividend amount at its discretion. The idea is that if STRC's trading price falls below $100, dividend payments can be increased, thereby pushing up the price of MSTR. ...> Conversely, if the STRC trades above $100, the dividend can be reduced, which theoretically should bring the price back down to around $100. Therefore, this instrument should be very stable, consistently trading around $100. This makes the STRC a cash-like instrument and an alternative investment to short-term Treasury bonds. A key difference from Treasury bonds is that the funds raised from issuing STRC are used to purchase Bitcoin. This is yet another attempt to infiltrate the financial system to buy more Bitcoin. As far as we know, STRC is a completely new product. There are currently no other similar debt instruments on the market. Debt instruments typically have fixed or floating coupons, and their interest rates fluctuate based on other interest rates in the economy, such as the federal funds rate. We have not yet found any other debt instruments that maintain market price stability by adjusting interest rates. Emboldened by its previous success in exploiting a loophole in the financial system—selling its own stock at a premium to buy Bitcoin—MSTR has devised an even more audacious tactic: issuing bonds to buy Bitcoin. Due to a novel method, these bonds appear to carry the same risks as short-term government bonds. At first glance, this new debt issuance model seems unsustainable for companies. If a company uses a fixed coupon, its liabilities remain unchanged even if it faces difficulties. However, if a company uses a floating coupon, the fluctuation is intended to maintain debt price stability. Therefore, if the company faces difficulties and credit risk increases, it needs to raise coupon payments to maintain debt price stability. This means that as the company faces difficulties, its liabilities also increase. Thus, the company could fall into a vicious cycle, with its credit rating declining until bankruptcy. Therefore, these new instruments can exacerbate corporate instability. For example, a drop in Bitcoin prices could cause a decrease in the value of STRC, which would increase MSTR's monthly payment liabilities, ultimately leading to a vicious cycle. What are the interest rate rules?

Given the above mechanism, it is worth noting the rules for setting monthly dividend payments, not just the goal of STRC share price stability. Particular attention should be paid to the rules regarding coupon rate reductions. These rules are detailed below, but may be difficult to understand due to their somewhat obscure wording.

However, we may not reduce the annual monthly regular dividend rate applicable to any regular dividend period by: (i) not more than: (1) 25 basis points; and (2) (x) the sum of (the lowest of the annual monthly SOFR rates for the first business day of the previous regular dividend period (as defined in the supplement to this prospectus) and (y) the lowest of the annual monthly SOFR rates for each business day from the first to the last business day of the previous regular dividend period (if any); or (ii) a level lower than the annual monthly SOFR rate effective on the business day preceding the date on which we issue the next regular dividend rate notice.

Source: SEC

Note: SOFR is the US market-based overnight interest rate benchmark. It was established to replace LIBOR because LIBOR is more easily manipulated by certain banks.

Our understanding of the above is that, regardless of other circumstances, the MSTR has the right to decide at its own discretion to reduce the dividend yield by up to 25 basis points per month. The dividend yield can be reduced by 25 basis points per month, regardless of the STRC's share price or overall market conditions. This equates to 300 basis points or 3 percentage points per year. Therefore, based on the current 10% dividend yield, at the maximum allowed reduction, it would take three years and four months to bring the dividend yield to zero.

In some cases, if market interest rates in the overall economy are also declining, companies can reduce their dividend yield more quickly each month. For example, if the overnight market interest rate falls by 100 basis points in a month (from the beginning to the end), then the STRC's dividend yield could potentially fall by 100 basis points + 25 basis points = 125 basis points in any given month. This seems reasonable, as the STRC should be able to adjust if benchmark interest rates fall. If the MSTR fails to pay declared dividends, there are complex consequences. In this case, unpaid dividends will continue to accumulate. Our understanding is that the MSTR cannot pay dividends on "any class or series of dividend par stocks" until all unpaid accrued dividends have been paid, unless it also pays STRC dividends, and the STRC dividends constitute at least as a percentage of the accrued unpaid dividends as the other dividend-paying stock classes. In other words, the higher the accrued unpaid dividends, the more difficult it is to pay significant dividends on other stock classes. Therefore, if MSTR starts accumulating unpaid dividends on STRCs, paying dividends on any other stock becomes much more difficult. However, there is currently no guarantee or bankruptcy risk of any kind, and the company can simply choose not to pay dividends to STRC holders if it doesn't want to. Is STRC a Ponzi scheme? Now that we understand how STRCs work, we can explore whether they resemble a Ponzi scheme. Of course, it's not a Ponzi scheme in the strict sense, as it's not based on lies or fraud. However, if a model shares many similarities with a Ponzi scheme—for example, it can provide investors with seemingly high and stable returns, but the maintenance of these returns depends on a continuous inflow of new funds, and once the funds stop flowing in, the entire system collapses—then comparing it to a Ponzi scheme is reasonable. From a cash flow perspective, STRCs are quite expensive. With an initial offering size of approximately $3 billion, assuming a 10% yield, annual dividend payments would reach $300 million. MSTR cannot afford such high dividends without raising new capital or selling Bitcoin, making STRC, in a sense, somewhat like a Ponzi scheme. However, considering the company can autonomously and gradually reduce dividend payments to keep them within an affordable range, it doesn't actually resemble a Ponzi scheme. Therefore, overall, we believe STRC is not a Ponzi scheme. However, we believe that investing in STRC at $100 does not demonstrate exceptional investment insight. In our view, STRC carries significantly higher risk than short-term U.S. Treasury bonds.

Conclusion

If the music stops and MSTR faces challenges, instead of selling Bitcoin, MSTR could completely abandon STRC's strategy aimed at achieving stability. The company can choose any easier option.

MSTR can reduce STRC's dividend yield by 25 basis points per month. At the current 10.5% dividend yield, it would take three and a half years to reach zero. As the dividend yield decreases, the cost of paying dividends also decreases. We believe this is very beneficial for MSTR, making current dividend payments sustainable and affordable. Of course, this means that the price of STRC could plummet, potentially by as much as 87%, down to the present value of cash flows over the next three and a half years. The MSTR story may not be as some skeptics expect. We believe that MSTR's debt will not necessarily lead to a forced sell-off of Bitcoin, triggering a price spiral that ultimately leads to MSTR's bankruptcy. We need to understand that Strategy's debt instruments are highly innovative, not ordinary debt instruments, but specifically designed for its own needs. Saylor is no ordinary player! He is a genius of our time, frequently using unusual mechanisms (whether debt or equity) to raise billions of dollars for his companies. MSTR remains unaffected by Bitcoin prices or capital flows. Conversely, investors may be dissatisfied when everything comes to a standstill. We believe STRC is a perfect example of this phenomenon.