Unveiling the "Treasury Bond-like" STRC: Who's footing the bill for Saylor's Bitcoin gamble?

Source: BitMEX Research; Compiled by: BitpushNews

Any views expressed here are the author's personal opinions and should not be used as the basis for investment decisions, nor should they be interpreted as recommendations or advice to participate in investment transactions.

Summary:

Let's take a look at Stretch ($STRC), a very new MSTR debt instrument designed to achieve price stability by adjusting the dividend yield monthly based on the market price of the debt.

Therefore, this product is advertised as a low-risk product and compared to short-term US Treasury bonds. This is yet another instance of Mr. Saylor's "manipulation" within the rules of the financial system to accumulate more Bitcoin.

After reviewing the documents from the U.S. Securities and Exchange Commission (SEC), we found that MSTR can abandon its goal of maintaining price stability at any time and reduce its dividend by up to 25 basis points per month, if it so chooses. This means that the dividend yield could drop to zero in just over three years. Therefore, we believe that the product terms are heavily biased towards MSTR, and from an investment perspective, its risk is significantly higher than that of short-term Treasury bonds.

Overview

In November 2024, we posted about MSTR, namely the "We did Ponzi math" post:

https://x.com/BitMEXResearch/status/1859559585301909660

This was relatively simple, only looking at stocks. Besides stocks, MSTR offers a whole suite of financial products for investment.

In particular, a relatively new wave of preferred perpetual securities:

In this article, we will focus on STRC, which we consider the most interesting of the four products.

In particular, STRC is the product that has generated the most questions since our post on X in November 2024.

Questions such as: What happens when the music stops and the influx of new funds into MSTR dries up? How will MSTR afford to pay STRC's dividends then? Will MSTR be forced to sell Bitcoin? Is STRC a Ponzi scheme? Given all these questions, we decided to write this short explanation outlining our basic thoughts on STRC. What is STRC?

Source:

How is the interest rate determined?

STRC's goal appears to be to bring its trading price to or near $100. Dividends are typically paid monthly, and the company can adjust them at its own discretion.

The idea is that if STRC's trading price falls below $100, dividend payments can be increased, which should push up MSTR's price.

The idea is that if STRC's trading price falls below $100, dividend payments can be increased, which should push up MSTR's price.

In another scenario, if the STRC trades above $100, the dividend amount could be reduced, which theoretically should push the price down to $100. Therefore, the instrument should be very stable and consistently trade at or near $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 hacking attempt on the financial system to buy more Bitcoin. To our knowledge, the STRC is a novel product. There are no other similar debt instruments. Debt instruments typically have a fixed or variable coupon, where the interest rate varies based on other interest rates in the economy, such as the federal funds rate. We are unaware of any other debt instrument whose interest rate would change to maintain the stability of the debt's market price. MSTR appears confident because their previous success in hacking the financial system (selling their own stock at a premium to buy Bitcoin) has led them to devise an even more audacious hack: issuing debt to buy Bitcoin, and due to some novel techniques, this debt appears to carry the same risks as short-term Treasury bonds. On the surface, this new debt issuance model immediately seems unsustainable for a company. If a company has a fixed coupon and goes into trouble, its liabilities remain unchanged. However, if a company has a variable coupon, and its changes are designed to maintain debt price stability, then if the company goes into trouble and credit risk increases, coupon payments need to increase to maintain debt price stability. This means that as the company goes into trouble, its liabilities will increase. Therefore, a downward death spiral could occur, with the company's creditworthiness declining until bankruptcy. Thus, these novel instruments could increase corporate instability. In the case of MSTR, a drop in Bitcoin price could lead to a decrease in STRC value, potentially increasing MSTR's monthly payment liabilities and thus causing a downward spiral. What are the rules regarding interest rates? Given the above mechanism, it is worth noting how the rules for monthly dividend payments are set, not just the goal of STRC price stability. Specifically, the rules regarding the reduction of the coupon rate. The rules are described below, but may be difficult to understand due to legal language. However, we will not be permitted to reduce the annual monthly regular dividend rate applicable to any regular dividend period: (i) exceeding the following amounts relative to the annual monthly regular dividend rate applicable to the previous regular dividend period: (1) the sum of 25 basis points; and (2) (x) the 'monthly SOFR annual rate' (as defined in this supplement to the prospectus) on the first business day of the previous regular dividend period exceeding (y) the excess of the lowest value of the monthly SOFR annual rate occurring on the business days from (inclusive) the first business day to (inclusive) the last business day of the previous regular dividend period; 18px;">Or (ii) reduce to an annual rate lower than the monthly SOFR annual rate effective on the business day prior to our provision of the next regular dividend rate notice.

Source:

https://www.sec.gov/Archives/edgar/data/1050446/000119312525165531/d852456d424b5.htm

Note: SOFR is the U.S. market-based benchmark overnight rate. It is designed to replace LIBOR, which is more easily manipulated by certain banks.

Our understanding of the above is that MSTR has absolute autonomy to reduce the dividend rate by up to 25 basis points per month, regardless of what else happens.

Regardless of what happens to STRC prices or the broader market, the dividend yield can decrease by 25 basis points per month. This equates to 300 basis points or 3 percentage points per year. Therefore, based on the current 10% dividend yield, at the maximum permissible rate of decline, it would take three years and four months to bring the interest rate to zero. In some cases, if market interest rates in the broader economy are also declining, the company can reduce the dividend yield much faster per month. For example, if the market overnight rate falls by 100 basis points in a month (from the beginning of the month to its lowest point), then the STRC dividend yield could potentially decrease by 100 basis points + 25 basis points = 125 basis points in any given month. This seems fair if the benchmark interest rate falls, and the STRC should be able to adjust accordingly. There are also some complex rules regarding what happens if the MSTR fails to pay the declared coupon. If this happens, the unpaid dividends will continue to accumulate. Our understanding is that MSTR cannot pay "dividends on any class of dividend par stock" until the outstanding balance of this accumulated dividend is paid, unless it also pays STRC dividends, and this proportion is no less than the same proportion paid on the other class of stock. In other words, the higher the accumulated unpaid dividends, the more difficult it is to pay any significant dividends on any other class of stock. Therefore, if MSTR begins to accumulate unpaid dividends on STRC, it becomes more difficult to pay any other equity instruments. However, there is still no guarantee of any kind or risk of bankruptcy, and the company is not obligated to pay dividends to STRC holders if it does not wish to. Is STRC a Ponzi scheme? Now that we understand the mechanism of STRC, we can address the question of whether it shares characteristics with a Ponzi scheme. While it's not literally a Ponzi scheme because it's not based on lies or fraud, it's fair to compare it to one if something shares many similarities—for example, it provides investors with seemingly strong and consistent returns, but the funding for these returns relies on a continuous inflow of new capital into the system, causing it to collapse severely when the flow of funds stops. From a cash flow perspective, STRC is costly, with an issuance of approximately $3 billion, requiring annual dividend payments of $300 million at a 10% interest rate. MSTR cannot afford this without raising new funds or selling Bitcoin; therefore, in this sense, this instrument is somewhat like a Ponzi scheme. However, when considering that dividend payments can gracefully and gradually decrease at the company's absolute discretion, making them affordable, it doesn't resemble a Ponzi scheme at all. Therefore, in general, we would say that STRC doesn't really resemble a Ponzi scheme. However, we don't believe that investing in STRC at $100 is "brilliant investment thinking." We believe that STRC is far riskier than the risks associated with short-term U.S. Treasuries. Conclusion When this game ends and MSTR faces difficulties, it may not need to sell Bitcoin. Instead, it could abandon the previous narrative about STRC's pursuit of stability and choose an easier path: simply reduce the STRC dividend yield by 25 basis points per month. At the current interest rate of 10.5%, the dividend will drop to zero in about three and a half years. During this period, as the dividend yield decreases, the company's payment pressure will lessen. This is extremely beneficial for MSTR, making dividend payments sustainable and affordable. Of course, this also means that the price of STRC could plummet by about 87%, falling to the present value of its dividend cash flows over the next three and a half years. MSTR's scenario may differ from what many skeptics anticipate. In our view, its debt will not necessarily trigger a forced sell-off and a downward spiral in Bitcoin, much less lead to MSTR's bankruptcy. It must be understood that MSTR's debt instruments are not traditional products; they are designed by the company itself and serve its own interests entirely. Saylor is no ordinary individual; he is a contemporary genius in capital operations, always able to devise financing schemes that are extremely advantageous to himself. Regardless of changes in Bitcoin's price action or the capital environment, MSTR will most likely weather the storm; and when the music stops, it is more likely that investors will bear the losses. STRC perfectly embodies this logic.