Coinbase Stock: Be Fearful When Others Are Fearful (NASDAQ:COIN)

Shares of Coinbase (COIN) have suffered an ~80% decline YTD as investors continue to dump digital currencies. While many believed the company to be a beneficiary of increased trading activities in a volatile market, this in fact was not the case. Put simply, the future of Coinbase is heavily dependent on the price performance of cryptos, namely Bitcoin (BTC-USD) and Ethereum (ETH-USD) which represent ~50% of the platform’s trading volume. As a result, investors should seriously consider the inherent risks of bottom-picking the stock in an environment that no longer rewards speculation.

Year to date, Bitcoin is down 57% while its smarter counterpart Ethereum has suffered a 70% decline. If there’s one thing exciting about the so-called “stablecoins”, which promise to always be worth $1, it’s watching the price of Luna (LUNC-USD) and TerraUSD (UST-USD) drop 99% within a week as the algorithmic peg between the two somehow lost its purpose. In the end, the intrinsic values of cryptocurrencies are based on nothing but speculation, and investors who continue to believe otherwise are setting themselves up for trouble when the Fed is doing everything in its power to fight 40-year-high inflation.

Coinbase runs a simple business model by charging a percentage fee every time a user buys and sells cryptocurrencies on the platform. The issue, however, is that trading revenue is determined by the total value of every trade (“PxQ”) rather than the number of tokens traded (“Q”). Hence, the decline in crypto values means the value per trade has become substantially lower. With Ethereum down 70%, for example, the number of tokens being traded will essentially need to grow 3.3x to match the original trading value. Though higher crypto volatility does lead to higher trading activities, this is not a sustainable driver for Coinbase’s business in the long term.

Since crypto prices are largely unpredictable, it’s difficult to see how Coinbase can be valued based on next-year’s earnings or discounted future cash flows. In 2018, Bitcoin’s value dropped 72%, and Coinbase saw a 44% decline in revenue. 2Q22 to date, Bitcoin has fallen 57%, while the entire crypto space has lost ~$1.2 trillion in market cap. As investors continue to adjust their expectations from an environment of abundance to an environment of scarcity, Coinbase remains a risky bet.

On 6/14, Coinbase announced it would be laying off 18% of its workforce (1,100 employees) in response to a challenging market. In the month of June, Gemini, Crypto.com and BlockFi have all announced staff reduction plans. Celsius Network (CEL-USD), a popular crypto lending platform, has paused customer withdrawals and all activities on social media. On 6/17, Babel Finance, a Hong-Kong-based crypto lending firm, suspended all withdrawals and redemptions due to “unusual liquidity pressures”. Three Arrows, a Singapore-based crypto hedge fund that made big bets on Luna, is facing margin calls and already working with legal advisors for a way out. The list will not stop here.

In short, crypto winter is here, and Coinbase will struggle as long as Bitcoin and Ethereum prices do not see a meaningful rebound. Perhaps inflation will go back to the more normal 2% level in 2023, prompting the Fed to cut interest rates and again shower the market with cash. Until then, the risk/reward for Coinbase is just not there, and investors ought to carefully assess whether the stock is worth the wait.