Coinbase: Q2 Disappointment Highlights Crypto Retail-To-Institution Transition
11 min read
Summary Coinbase’s Q2 report disappointed investors with weaker sales in key segments and lower trading volumes despite a rise in Bitcoin. Coinbase’s future is increasingly tied to institutional flows within a more regulated market, offsetting retail weakness but raising questions about long-term crypto fundamentals. COIN’s valuation remains stretched around that of traditional exchanges, with high growth expectations offset by greater risks given the youth and volatility of the crypto market. Short term, I see no strong bearish case, but I remain skeptical of crypto’s long-term viability and would not buy COIN at current levels, expecting an eventual reversal. COIN’s Q3 outlook improves with Ethereum’s surge, but I expect retail investors will shift toward lower-cost crypto ETFs over the next year. Coinbase ( COIN ) announced Q2 earnings Thursday evening, disappointing investors with an adjusted EPS of $0.12, significantly below the $1.49 analyst consensus. Its net revenue came in at $1.42B, about 11% lower than expected. Losses were seen in most segments, with lower subscription and services sales, transaction revenue, and trading volumes. Its operating expenses also rose sharply to $1.52B, up ~37% from Q2 2024. The report sent shares around 12% lower overnight, implying a significant miss. CEO Brian Armstrong focused on the continued expansion of new crypto assets and the integration of decentralized exchanges onto its app, with 24/7 trading of derivatives contracts on BTC and ETH. Its Q3 guidance remained strong, expecting expansion of its subscription and services segment, benefiting from the rebound in crypto prices, particularly the recent surge in Ethereum ( ETH-USD ). Coinbase is one of my best and worst-performing analyses. I saw it as a bullish discount opportunity in early 2023 when it was worth around a tenth of its current price. However, I last covered it with a bearish outlook in the May 2024 article, ” Coinbase: Cryptocurrencies Moving From ‘New Paradigm’ To Denial (Rating Downgrade) .” Since then, it has risen by a staggering 68%, violating my bearish thesis. So what went wrong? Most obviously, Bitcoin rose from around $60K to roughly $112K today, rising roughly as much as COIN. Although my bearish outlook has been, thus far, proven wrong, I stated: Because enthusiasm remains strong, I would not be surprised to see Bitcoin hit $100K or more in 2024. I will not make that bet, but I would avoid betting against it or COIN as the apparent “cryptocurrency collective consciousness” seems quite eager to see a breakout. I understood the futility of betting against the herd of cryptocurrency bulls. Enthusiasm became parabolic after Trump’s election, viewing him as creating pro-crypto policies, pushing Bitcoin to $100K by year’s end as anticipated. My view on Coinbase was long-term and not actionable on the short side for that reason. That said, I incorrectly thought that Bitcoin momentum was slow; it did continue to fall briefly after May but surged, most notably after the election. My bearish thesis rested on my view that Bitcoin is fundamentally not a viable currency or a wealth-store hedge against inflation. I also believed that COIN’s valuation required unrealistic income growth and that a true fiat currency devaluation (that many believe would benefit Bitcoin) would operationally harm Coinbase and drive competition into lower-cost platforms. On the back of its disappointing Q2 earnings report, I believe it is an ideal time to reconsider my previous views and take an updated outlook on the company and the cryptocurrency backdrop. Retail Slowing as Institutions See Legitimacy Bitcoin and other major cryptos drive COIN’s immediate performance. The stock’s price is highly correlated to Bitcoin as well as its revenue. See below: Data by YCharts (This data precedes the aftermath of the Q2 report.) Any outlook on Coinbase requires analysis of both the company and the cryptocurrency market. Higher crypto prices usually coincide with more trading activity, inflows from new accounts, higher transaction commissions, and more investor interest in the crypto landscape. The fact that Coinbase’s segment revenues fell in Q2 despite a rebound in Bitcoin is notable. Of course, the non-Bitcoin cryptos did not perform as well until Q3 began. In the past, I’ve noted that Bitcoin’s performance is usually inversely correlated to individual investor cash allocation levels. This index is measured by the American Association of Individual Investors as representing the higher-wealth segment of retail investors, not necessarily representing those buying Bitcoin; however, it is a decent proxy. Over the past decade, Bitcoin’s peaks and troughs usually align with the opposite in cash allocation levels: Data by YCharts My bearish take on Bitcoin last year was based on relatively low cash allocation levels . In my view, Bitcoin and most cryptos act as sinks for excess liquidity. People with spare cash and sufficient equity exposure (or uninterested in equities) park some money into cryptocurrencies. When people have more cash, they have greater crypto buying power. Of course, despite lower cash allocations in 2024, Bitcoin has had tremendous performance. We were starting to see negative pressure around last fall, as I expected, but that quickly reversed after the November election. I did not appreciate how much Trump’s cryptocurrency alignment mattered to Bitcoin investors. In general, I’ve viewed the Trump-crypto trade as a “buy the rumor, sell the news” trend. Trump has pursued a handful of orders and legislation that have arguably benefited the crypto market. In January, he issued an order to promote dollar-backed stablecoins while prohibiting agencies from creating CBDCs. He later created the much-speculated Strategic Bitcoin Reserve, promising not to sell confiscated Bitcoin. This month, we’ve seen the GENIUS Act , creating a law for stablecoins and providing clearer market structure rules for exchanges like Coinbase. Trump has also appointed a number of pro-crypto leaders to agencies, such as the SEC. On Wednesday, Trump issued a 160-page document that outlines regulatory needs, supporting Trump’s goal to make the US the “crypto capital of the world.” On one hand, I’ve argued that these policies do not directly benefit Bitcoin by pushing significant liquidity into the market, as many had hoped. I’ve also seen increased regulation as delegitimizing Bitcoin’s status as a “decentralized alternative currency” free from government regulation and oversight, which was its original purpose. However, by enacting regulatory frameworks, Trump has legitimized Bitcoin for larger institutional investors like banks. With that, we’ve also seen tremendous growth in the cryptocurrency ETF market. Liquidity fundamentals remain potentially supportive. AAII cash allocation levels are declining, implying cash is flowing into risk assets ( bond allocations are also falling). The US dollar is weakening due to a higher rate cut probability and a potential Fed chair replacement. The US monetary base, or the total amount of currency (physical and Fed-created), is also rising as the Fed quietly winds down its tightening schedule . To a degree, a weaker dollar and higher monetary base are historically bullish for BTC: Data by YCharts Monetary conditions are potentially bullish for Bitcoin. Liquidity was somewhat tight last year, yet Bitcoin still rose. In my view, it benefited dramatically from higher inflows through ETFs and improved institutional support through regulation. We can visualize this by looking at the units outstanding for, by far, the largest Bitcoin ETF ( IBIT ). IBIT’s flows were very strong post-election, slowing during the spring correction, with a sharp uptrend during the recovery. See below: Data by YCharts IBIT’s flows today are slowing compared to the May to mid-July trend. That could be a bearish signal, but it is quite early and may reverse. Bitcoin has also been pinned under $120K since mid-July, potentially as recent crypto legislation proves to be a “buy the rumor, sell the news” trade. Although liquidity conditions are comparatively positive and may be fueling a “melt-up” in most risk assets, they are offset by weak economic conditions for median households. As detailed in a few recent articles , since late 2022, consumer trends have been weakening for the median American consumer. Savings levels are chronically low, confidence is weak, and hiring is abysmal . Home prices are also potentially falling . That said, although median data is weak, mean data is decent; average wage growth is good, but the median is not . The United States is the largest market for Bitcoin , but it is a global asset. To that end, a weaker US dollar should benefit it, though that may depend on whether or not the falling dollar coincides with a recession. In my view, if we assume economic strength is fading in the US, that is likely to be seen in most other high-income countries. Some may argue that an economic slowdown will not harm Bitcoin. That may be true in the long run, particularly if a recession fuels excessive rate cuts and quantitative easing. However, in most cases, Bitcoin and COIN decline with risky assets such as equities. I do not have an outlook on Bitcoin and think it should remain “sticky” around the $100K level. Some monetary/liquidity factors may push it higher; however, lower inflows into IBIT, Trump’s volatile political stock , and seemingly underappreciated economic risks (weaker household savings fundamentals) give me a somewhat bearish long-term outlook. Coinbase’s Regulatory Moat Expands Compared to last year, I argue that Coinbase faces greater competitive pressure from cryptocurrency ETFs. Spot BTC funds typically have near-zero trading costs and expense ratios well under 50 bps. For long-term buy-and-hold investors, I think IBIT makes more sense than Coinbase’s fees, which can be over 2% round-trip. IBIT is huge, with an AUM of over $86B. Coinbase may be around $330B, but the growth rate is stronger for the crypto ETFs. Now, IBIT and others are not direct competitors because they often pay Coinbase to be custodians. Its latest investor call noted it powers over 80% of the custody for crypto ETF issuers, as well as a partner to over 150 government agencies looking to manage crypto assets. Coinbase receives a ~ 0.2% fee for this , something, but far less than it receives from retail transactions. Coinbase has shifted its focus toward “Crypto-as-a-service,” seeing some success in Coinbase One, the USDC stablecoin, the layer 2 network , which aims to make Bitcoin more scalable (potentially solving the transaction and energy issue), and a derivatives market. The expansion of these products has led to more people seeing Coinbase as the central backbone of the cryptocurrency market. With the GENIUS Act and other orders/legislation providing a more robust regulatory framework, I see that Coinbase is ideally positioned for this. Its market capitalization gives it vast acquisition buying power, allowing it to acquire firms like Deribit easily. Banks that once scoffed at cryptocurrencies and mocked Coinbase are now becoming close partners. On Wednesday, Coinbase and JPMorgan ( JPM ) announced a deal to make crypto purchases easier for JP Morgan customers, using Chase credit cards on that platform, or transferring Chase reward points. We saw a similar deal with PNC Bank ( PNC ) earlier in July. Crypto ETF proliferation may cut into Coinbase’s revenue from retail trading, but altogether, we see a transition from a retail focus toward an institutional one. Ultimately, there is far more liquidity potential from institutions than from retail investors. This gives Coinbase strong growth avenues and a tremendous moat over its competitors. Despite that, I find the centralized institutional support and regulatory framework that benefits Coinbase problematic. I first heard of Bitcoin around 2015, seeing its popularity surge as a decentralized alternative technology that would end government control of currency. I argue that although Trump’s efforts benefit many cryptos and Coinbase, they go directly against the original mission of Bitcoin. Borrowing from the White House press release: The GENIUS Act prioritizes consumer protection, strengthens the U.S. dollar’s reserve currency status, and bolsters our national security. Fundamentally, these policies are aimed at strengthening the fiat currency’s position within a cryptocurrency market. Years ago, there was a clear divide between government/institutions viewing cryptocurrency as a potential threat and people buying Bitcoin as a rebellious hedge against fiat money volatility. In my opinion, there is a legitimate risk that the fundamental bull case behind cryptocurrencies is broken by excessive regulatory oversight. Retail investors may sell as a result, and it is unclear if institutional support is strong enough to provide “exit liquidity”. In the short term, new regulations are supportive of Bitcoin and secure Coinbase’s competitive moat, but I continue to doubt its long-term viability. The Bottom Line My outlook for Bitcoin and other major cryptocurrencies is neutral. Specifically, I see a bearish bias among data relevant to retail crypto flows, relevant to Coinbase in the short term, offset by supportive trends for institutional flows. The latter includes improved regulation, a shift back toward pro-inflation/liquidity monetary policies, and altogether improved legitimacy for banks and investment funds. It is unclear if that tailwind offsets the seemingly weaker investment savings capacity for median-income people and potentially low sideline cash that could go into cryptocurrencies. Retail investor cash allocations are lower, but are still falling—implying retail inflows are still available, but not for long. The recent stagnation in major crypto ETF inflows also supports that. My view on Coinbase is similar. I expect the company may see more pressure on its retail trading fee segment with lower account growth, but its deals with institutions may provide superior verticals/niches. Still, its valuation is extremely high. The company is worth about as much as CME Group ( CME ) and Intercontinental Exchange ( ICE ). Its forward “P/E” is much higher at 67X, with CME at about 25X and ICE ~27X; however, its forward price-to-sales is between the two: Data by YCharts Although Coinbase’s valuation is extremely high, it is generally reasonable compared to that of CME and ICE. I argue that COIN is overvalued because its risks are greater, given that CME and ICE operate markets that have existed since the 17th century, while COIN is around fifteen years old. The counterargument is that Coinbase’s revenue has more growth potential because of its youth, and Coinbase has a stronger competitive moat. I remain skeptical that the cryptocurrency market is little more than a glorified gambling industry benefiting from excessive liquidity generation through quantitative easing. I think it is far from its roots as a decentralized currency alternative. In my experience, most people who buy it seem to do so to speculate on a higher price, not out of a genuine desire to hedge against fiat currency risks. I would not buy COIN today, and suspect it will eventually decline further. However, in the short run, we have a small discount after its Q2 disappointment. My bearish view is long-term, expecting a fall within years, but not necessarily months. Its short-term performance is driven by BTC, which I feel is futile to predict. At this point, Q3 is likely to show improvement, given that Bitcoin is up while Ethereum is nearly 50% higher. I suspect its Q2 weakness may be due to lower retail buying power and a shift in flows toward ETFs. This is likely its greatest risk in Q3, offset by its significant expansion efforts and widening range of services and institutional partnerships.

Source: Seeking Alpha