Epicenter - Learn about Crypto, Blockchain, Ethereum, Bitcoin and Distributed Technologies - Ari Paul: BlockTower Capital and the Cryptocurrency Opportunity

Episode Date: September 26, 2017

For many years, Bitcoin and cryptocurrencies were regarded as little more than a nerdy curiosity by the financial world. But with the rise of Bitcoin and Ethereum, the process of cryptocurrencies becoming a recognized asset class has begun. One person at the forefront of this transformation is Ari Paul. Previously a portfolio manager at the University of Chicago’s $8 billion endowment, he recently left to start the cryptocurrency hedge fund BlockTower Capital. He joined us for an insightful conversation about one of the biggest trends in the industry. Topics covered in this episode: Ari’s background as a portfolio manager at the University of Chicago The difficulties of investing in cryptocurrency for a large endowment Why he started the cryptocurrency hedge fund BlockTower Capital How to construct a cryptocurrency portfolio The hedge fund vs the VC model in the cryptocurrency space Why cryptocurrencies represent an exceptional investment opportunity The operational complexities of running a crypto hedge fund Why an avalanche of institutional money is entering the blockchain space Episode links: The Cryptocurrency Investor Blog How to Think About Investing in Cryptocurrency: Why Exceptional Opportunities Exist How to Think About Investing in Cryptocurrency: What needs to exist Table Selection | The Cryptocurrency Investor The Wall Street Moment | The Cryptocurrency Investor BlockTower Capital Twitter - Ari Paul This episode is hosted by Brian Fabian Crain and Meher Roy. Show notes and listening options: epicenter.tv/202

This is Epicenter, Episode 202 with guest Ari Paul. Hello and welcome to Epicenter. The show which talks about the technologies, projects and startups, sub-decentralization and the global blockchain revolution. My name is Brian Frient Frientany. I'm my hero. Today we'll talk to Ari David Paul, who is the co-founder of Block Tower Capital, a cryptocurrency investment fund.

We'll talk about cryptocurrency investment funds, their incentive structures, specifically the thesis, that blocked our capital has. Ari, welcome to the show. Hi, guys. Thank you so much for having me. So before we begin, tell us how you got interested in the cryptocurrency space. You know, I'm a slow learner. It took me a while to really appreciate, you know, what I think we all kind of now appreciate. So what happened was after the financial crisis in 2008, the Federal Reserve started printing a ton of money. Their balance sheet went up Forex. And I started thinking, that while currency depreciation, inflation wouldn't happen right away because you had these massive

deflationary forces, eventually that was going to be a problem. So by the time we got to like 2011, 2012, I was thinking, how do I get out of the US dollar? I looked at the euro and the yen and they looked even worse. How do we get out of fiat currency? How do I get out of the way of currency depreciation? And it took a while, but then kind of Bitcoin was such a clear answer. Here's money that can't be debased by a government. There was one other angle that really made it attractive to me. So when I talk to Americans about the idea of censorship resistance or an unseasable store of value, they often look at me weird and say, oh, so it's for criminals. But I had relatives who had to flee Nazi Germany with valuable sewed into their clothes. And when I talk to other people in the crypto community, often there's some connection.

They had a relative who had to flee Pinoje's Chile or Maoist China or the Khmer Rouge. They had to flee some country. And so they appreciate that sometimes you're able to escape a country. but not with your assets, not with your wealth. And by wealth, I don't mean a lot of wealth. I mean, enough money so that you don't start to death. So, I mean, right now we have some refugee crises. You know, Syrian refugees, Syrians that flee the country.

And many of them were middle class. These are people who had a home, a business, a car, but they weren't allowed to take it outside the country. So the idea of having a store of value, a way of storing your wealth you can access from anywhere in the world with just a password kept in your head is very attractive. I agree. it's such a powerful concept.

It's incredible, right? If you think about, okay, let's say this had existed during Nazi Germany, it would have been a very different situation, right? Very empowering for those people. Definitely. So, you know, I came across Bitcoin. It's funny. I fairly recently, I searched through my email to see,

what was the first reference of cryptocurrency? And I had a friend, a brilliant investor friend named Arun, who worked at Pimpco at the time, who forwarded me in New York Times. article, this was when Bitcoin was $3. And he said, this is interesting, take a look. And I responded definitively saying, electronic currency will never have value, because value comes from either a long history of value like gold or fiat backed by guns. And it took me a while. And that's, it's funny, we still see that kind of response from people like Robert Schiller and Howard Marks and Muhammad

El-Ary. And these are big names in the financial community. And so I'm sympathetic. When I see these people saying that these kind of things, it's like, well, I was saying the exact same thing, you know, five, six years ago. And it took me really two years to wrap my head around, you know, the unique value proposition. And a great line, I think it might have been Naval who first said this, that cryptocurrency is kind of like a graduate 400-level course with prerequisites in game theory, computer science, economics. There's a lot of relatively simple questions. So, you know, everyone, like when you're introduced to first, you ask, well, why can't more Bitcoin be created? Right. And the answer to that, we all kind of know

that it feels like an obvious answer to this at this point, but like it took me a while to understand why more Bitcoin can't be created. How does the game theory work? What does consensus really mean? What does decentralization really mean? You know, so it took me a while to get it. And then, you know, people are worried, there's a question of, is it a bubble? Well, people were asking the same thing when Bitcoin was $100 because it just rallied from a dollar, right? It was up 100x. And so I looked at it in 2013 and I said, man, I don't know if this is starting to look interesting me, but it's up 100x. How do I buy? And then in 2014, Bitcoin crashed 70%. You know, Silk Road happened, Gox happened. And in early 2014, it fell from $1,400 to $400.

And the trader, the contrarian in me was really intrigued because it's like, wow, this thing probably should have died, right? There were these things that should have killed it, and it didn't, it survived. And it's down 70% from its highs. So maybe this is an interesting point to buy. So I started buying just a little bit, started learning about it, started reading, you know, joined some of the subredits and read the white paper for the first time, and very gradually started learning about it and appreciating. And I think for a lot of people myself included, Ethereum also helped us understand the broader use cases that are possible, where you could then start thinking of it beyond just money, but in terms of an entire ecosystem, cryptocurrency as rewards

points, as loyalty mile, sorry, as airline miles or rewards points, or as utility tokens, you know, all of that kind of broaden the scope of what this can be. Prior to being involved with cryptocurrency, what did you do? So I started my career as a trader. So I was a market maker of equity derivatives for Susqueh International Group. What that means was I was basically like the casino for options on the S&P 500. I was buying and selling all day, balancing order flow, managing risk. I then traded just about everything.

I traded FX currencies. I traded commodities, crude oil, natural gas. I traded treasury bonds. I even traded electricity forwards. They're actually financial contracts for electricity. So I was very much a trader as opposed to an investor. A trader, you're betting on short-term order flow. You're mostly thinking about what are other people going to do in the next hour or day or week and where's money going to flow. So I did that for a total of six years. Got an MBA at you Chicago. And then I did. I joined the University Chicago Endowment, which is a $8 billion endowment, which is totally the other end of finance. You're thinking very long term. You're thinking about how do I construct a portfolio that is humble because you can't be nimble. So as a trader, you can go in and out of positions in an hour. You can change your mind. As an endowment, you really can't. You can't move $6 billion kind of out of local real estate, for example. So you have to create a portfolio that has humility kind of built into it where I don't know what's going to happen. I don't know how my views are going to change. Let me create a base portfolio that I think will do really well over 10 years. How do I want to be allocated? Where does return come from?

How do I manage risk in a long-term sense? And then within that construct, how do I find ways to add value kind of in a little bit of a shorter, medium-term idea? When did you choose to leave the University of Chicago Endowment and how they come about and your decision then to start a fund specifically focused on the blockchain space? So I actually left less than three months ago. We've been moving very, very quickly because we appreciated just how fast this industry was growing and professionalizing from many, many angles. What motivated me to leave, it was kind of an interesting path. So I became gradually more knowledgeable and more convinced and more invested in cryptocurrency over kind of an almost a four-year period.

And by the, by towards the end of last year, I started talking to my endowment colleagues about can we invest in this? Can we, can we, you know, earn attractive alpha in this? And at the time, all of cryptocurrency, it was only about $13 billion, right? Tiny market cap. From the perspective of an $8 billion endowment, it's almost uninvestable. It's so small. It was also so lacking in professional services, right? So if you think about, well, how am I going to buy cryptocurrency?

Can I trust in exchange? What if I put my money on Mount Cox and it vanishes? So I started exploring it. I started producing some educational materials for my colleagues, started to try to familiarize them and myself. And I also talked to all the funds I could find that exists in the space, which at the time was like four. There were very, very few funds around a year ago.

And one thing that stood out to me was a few of the funds were run by very talented engineers. And I'm friends with them. I think they're going to do very well. I think I would recommend that people invest with them. But it was clear that the endowment of New Chicago wouldn't and couldn't invest with them. Because frankly, they didn't know how to pitch. They didn't know how to frame the investment in the terms that we needed to hear them framed. So for example, you take a brilliant blockchain engineer who's very good at reading protocol

and finding innovative cryptography and you ask them, how much of your return comes from alpha and beta? And they look at you with wide eyes, right? Those are terms they don't care about. They're not familiar with. It's an uninteresting question to them. and that's not how they think about investing. And that's fine.

This is not a men as a criticism. But from, I knew that I wanted you Chicago to profit from this opportunity set. I wanted the Red Cross and other endowments and pensions and foundations. And it was clear that most of the existing managers really weren't offering that opportunity. And so after spending a few months kind of thinking about this, I actually, I wrote page-long recommendations to a few of the existing managers as to how they could pitch us, how they, you know, this is what you guys need to say. is the window dressing you need to add. Here's a simple example. So having an advisor,

for example, with legal expertise. Because an obvious question is, you know, how do you deal with the regulatory issues? And being able to demonstrate credibility that either you're an expert or at least you're in touch with experts is important to get an endowment to invest. So I tried to help some of the existing managers do that. But it was clear that there was this opportunity to create an institutional quality fund, to create a fund that you Chicago could invest them. The other angle was all the funds I spoke to, actually every single one, were long-term buy-and-hold. They were saying, we believe cryptocurrency is going to become multi-trillion dollar asset class, we believe in this long-term story, and we're going to buy, you know, 10 or 20 cryptocurrencies

and hope that we have one of the winners. And that's a fine strategy. That's the venture capital approach. It works well in equity if you know how to do it. But I was trading cryptocurrency myself in, you know, 20 minutes a day, kind of in the evening, and it was the most inefficient market that I'd ever seen. All the strategies that I used in trading bonds and commodities and electricity worked in cryptocurrency because shorter term, they trade like currencies.

So if you can anticipate where money is going to flow, here's an example, if you can anticipate that a cryptocurrency is going to be added to a large exchange that will facilitate retail buying, you can anticipate that the price will go up. And so those strategies worked, and I actually didn't see anyone doing them. And that's really, I'm not a venture capitalist. I'm certainly not an engineer, but I am a trader and a portfolio manager. And so I thought that by building the right team around me that could fill in kind of the gaps in my own expertise, we could offer that that shorter term alpha opportunity set to investors. And now, Ari, what kind of funds do you want to build in the longer term?

Do you see this turning becoming like a very large fund that will run kind of a hedge fund model in this space? Or do you think it will go into some different direction? So our long-term goal is to build a firm that supports a series of funds. And the intention is to bring on the right people. So, for example, our current fund offering does not invest in equity at all. And the reason for that is that neither I nor my co-founder, Matthew Getz, we're not venture capitalists. We don't have experience doing private equity deals.

And that really is a separate unique skill set. And I'm a big believer in this idea of start. of competence. Probably the single most important thing to being a good investor is knowing what you don't know. You don't need to be good at everything. You don't need to know everything. You just need to know what you know. And then you can narrow in on that and invest in that. To be a great investor, you don't have to know anything about real estate as long as you don't invest in real estate. So long term, the plan is to bring on the right partners who have the expertise needed for each investment category and to build out a firm that does eventually cover everything

in the cryptocurrency space. And the reason for that is I think there's a business. I think there some natural synergies. So for example, we're not ICO focused. We have a small portion of the portfolio roughly kind of set aside for ICOs, but it's a small portion. But I have to spend a lot of time looking at new projects because let's say I'm invested in ether. Well, I need to know about TESOS. I need to know about EOS. I need to know about rootstock because all of those could potentially be disruptive. They could potentially kill the incumbent. So I'm already looking at those projects. I'm already talking to those developers. I'm already kind of in that deal flow. I get 10 white papers a day in my inbox all offering, you know, 50% pre-sale discounts. So, you know,

they're kind of these natural synergies where if we had a separate fund that was more focused on that, I think both of our funds would kind of benefit from that expertise, as well as from access to deal flow, access to information. And long term, this industry will consolidate. So what you're seeing right now is kind of a million flowers blooming. You're seeing many, many new funds launching, many new projects launching, and that's great. I'm a big believer in experimentation and entrepreneurship. But over time, this will start looking more like a traditional asset class. You will have a few giant leaders in the space that have advantages that make it hard for others to compete. So for example, if you're trying to launch a traditional bond fund, a $2 billion hedge fund,

it's really hard to compete against the giant hedge funds because they have all these, they have the cheapest capital, they have a brand that lets them attract the best employees. They have connections throughout the world for better deal sourcing. They have large organizations that let them have their finger in everything and have their finger on the pulse of everything going around the world. So right now what we're seeing is tremendous collaboration. I'm on the phone constantly with other fund managers. We share ideas.

We share best practices on security. We share our service providers. And we also share our ideas because we're all small organizations. And at the moment, most of this industry is retail money. So it's possible for every fund manager in the space to do well. because we're not controlling that much money. But over time, if you have a few funds that have 20 employees, 30 employees, it's going to be hard to compete with that.

If you're trying to be a one-man shop or even a five-man shop. So our goal is to build kind of a leading institutional quality firm in the cryptocurrency space. Cool. And like what kind of opportunities would your first fund pursue? So my own skill set is short and medium-term trading. so not high frequency or algorithmic trading, but kind of everything that's longer term than that, that's also currently pretty low-hanging fruit in this market. And the reason for that is there are these tremendous barriers to entry to that kind of a strategy.

So if you're pursuing a venture capital approach, it's not that hard operationally. You sign a SAF to simple agreement for future tokens. Maybe you receive tokens and you put them in cold storage. And then you wait three or six months. it's quite much harder from a security and operational perspective to be actively trading because the market is illiquid so we constantly have to think about how do we get the best fill if I want to do a large trade and I need to do that every few days I've spent a lot of time thinking about how do I minimize the slippage or the transaction fees I pay.

Security is also harder because I have to move cryptocurrency into and out of cold storage. So those are, I spend a huge amount of time on that. I'm constantly consulting with the best security experts in the industry. to make sure that we're really at the forefront of that. And while it's a huge pain, frankly, it's not fun to do. I recognize that it's a barrier to entry. It keeps a lot of other people out. It keeps a lot of the professional traders out.

It keeps a lot of the existing funds away from the space because it's both a day-to-day challenge as well as an expertise that they don't really want to develop. It also has a unique set of risks. So traditional, most investors, like an endowment, they're not used to taking the risk that money might be lost on and change. They're not used to taking security risk with assets, right? They're not thinking about their investment in Microsoft stock being stolen.

And so in this space, all of those risks are real. And, you know, I'm kind of grateful for that because at the moment, that's one of the reasons why I'm mostly competing against the retail investor who really has no idea what they're doing. The person who, just as an example, people were, as we headed into the Bitcoin Hard Fork, heading into August, people were asked, asking me my thoughts on what would happen. And I said, I really don't know. I have a guess. I have an opinion. But, you know, there's a small group of Chinese miners who have a lot of control here.

And I don't know what they're discussing in kind of a dark room amongst themselves. And I have maybe some contacts. But the reality was that how many people in the world understood the BIP 148, BIP-191, BIP-1-41 kind of timeline? Very few, right? But there were very few people on the planet who were actually following. blocks as they were mined by miners and watching the signaling. So at the moment, I don't think of us as competing with other funds. It's more like the small group of funds controlling a small amount of money.

We're all just paying a little more attention than the person who's buying or selling on Coinbase. And we can all kind of benefit from just bringing a little bit of expertise and even just frankly, attention, literally just watching the blockchain and watching the minor signaling and having spent a few hours to understand what does it mean if miners are signaling that 91. What's the timeline? What's the deadline? Can you give us an idea of how you would construct a cryptocurrency trading portfolio? So what kind of opportunities would you pursue?

And how do you balance such a portfolio? Sure. I don't think there's a right answer to that. A big part of where we hope to add values, investors, is in deciding that in an ongoing way. So I don't know what this industry looks like in five years. I don't know what this market looks like in five years. We've been going through some very short regimes. So I think it's actually a really important concept in investing.

People will often rely on, if you're an Algo trader, you rely on a data set. If you're more of a traditional investor, like a value investor, you rely on a set of heuristics, a mental framework. And usually you're drawing on what's worked in the past. So you say, you know, buying low P, low price to earning stocks works well. or buying, you know, Warren Buffett made a lot of money buying assets that had large cash flows. So you say, okay, well, I'm going to do that. The problem is in traditional markets, regimes tend to last for a pretty long time, five years, 10 years, 20 years, sometimes 50 years. In cryptocurrency,

they don't. And I think that's for fundamental reasons, that this is a constantly transforming both technology and asset class. One example on that was nine months ago, a huge amount of trading volume was in China. And cryptocurrency was probably best thought of as mostly a U.S. and Chinese phenomenon. And now China is something like 5 to 10 percent of trading volume, and maybe that'll be lower tomorrow. And Japan and Korea are huge players. And it's kind of spread more globally generally. We're seeing interest in Argentina and Venezuela and Brazil and India is starting to come online. And the person who's investing, it's a different person. So you're starting to have fund managers like myself who bring more of that Wall Street experience.

and approach the market differently. You're starting to have professional arbitrages who trade across exchange. You're starting to have people who are doing quantitative modeling, who are trying to apply fundamental valuation metrics to things like Filecoin. So all of that dramatically changes kind of how this market is likely to work. The patterns of the past will not necessarily repeat. So all of that is, I guess, a huge asterisk that I don't believe in there being kind of a set approach to managing a crypto portfolio right now.

I think I can tell you kind of my current mindset, but I'm very humble about it and opportunistic, and that very, very willing to change this view if the market seems to suggest I should. So from January to May, the theme in the market was Ethereum's explosion and value, and then a recycling of those profits into everything built on Ethereum. You had a lot of people, you had basically Silicon Valley elites, you had wealthy entrepreneurs, people who had gotten rich taking a company public or who were early Facebook employees, who were buying Ethereum and pushed the valuation up. And then you had a lot of people who they had put $10,000 or $20,000 into Ethereum,

and suddenly they had a million dollars. And they were looking for their next 20x. And they were excited about Ethereum. Ethereum seemed to be working as an investment idea. What can they invest that's an extension of that? And so they put money into things like Auger and Nosis at very, very high valuations. And then, you know, now we're in, I think, kind of a different period. We're in a – so I'm constantly thinking about where is the money coming from?

Where is new investment coming? And I think we're right on the cusp of an explosion in first retail money, which we're seeing with 35,000 new Coinbase accounts a day and the opening of new exchanges in Korea and Japan that facilitate retail buying. And we're also on the cusp of institutional buying. So we now have a Bitcoin ETN, exchange traded note. There are a few in multiple currencies. There's GDPTC in the U.S.

There's a few in Europe. We're probably going to have an ETF for maybe six months. If not in the U.S., then probably in maybe Macau or something. Singapore or London, we're going to have Bitcoin futures within the next few weeks and Bitcoin Options. So Ledger X is launching. The CBOE is trying to launch Bitcoin futures. There are a bunch of others that have a request into the CFDC. So all of that is, I think, dramatically changing kind of the framework. So, okay, so now let me really answer your question as to at least how I think about it. So I think there's, you can kind of think about the market or cryptocurrency as an asset

class along a few different lines. You have cryptocurrencies that are competing to be money, a store of value. And actually, I should separate money into two things. You have money as a store of value, which is really a separate use case from money for payment. And I think it actually is likely to be separate in cryptocurrency. I might be wrong about this. I say this, you know, kind of humbly, but so you have something like Bitcoin that is pretty good as a store of value because it's a stable protocol, it's relatively decentralized. I say relatively, where there's constant debate over mining centralization, but it's relatively decentralized. It's relatively distributed in terms of ownership. But a key point, I think, is that stability of protocol. So people forget

code is buggy, right? So you have cryptocurrencies that are hard forking every other day. There will be big bugs found. There will be massive problems in the protocol that destroy billions in value. So if I want to know that a Bitcoin today is a Bitcoin in 10 years, I can have some confidence in that. there's probably not going to be that big of a change. Whereas in a lot of other cryptocurrencies, they're pursuing more of a move fast and break things mentality. They're competing on features. So this is how I very broadly bifurcated.

For store value, which I think is the biggest use case, which I think is going to be a $10 trillion use case, whatever wins is going to look like a Lloyds of London. It's going to look like a giant old insurance company or bank. It won't necessarily have the lowest fee. It won't necessarily have the fast confirmation time. It won't necessarily be the cleanest code, the prettiest code, one of the most features.

but it'll be stable and old and trusted. For most other use cases, you're competing on features. It's a bit more like being Netflix or Uber or Facebook where something with better features might come out. So you have to be innovative. You have to be constantly improving the protocol, improving the code. So I think you have a stored value

as part of a well-rounded portfolio. And you can either be, there's kind of two approaches to try to capture that value. You can take the venture capital approach and say, I'm going to buy 10 things and hope one of them wins. I'm going to buy Bitcoin and whatever else you think might win that use case. A problem with that, though, is what if it hasn't been invented yet? So what if, what if this is 1990 and you're trying to invest in the winning search engine? Well, Google didn't exist. What if it's

1995 and you're in Ask Jeeves or actually, I don't know when Ask Jeeves was created, but, you know, what if the winner doesn't exist yet? Or what if maybe it exists, but it's tiny and it's not on your list. So you can either take the VC approach and maybe have a good shot of capturing it. My approach, And this is just because it's my skill set is I'm constantly updating with new information. So I'm constantly evaluating every day, every week. What is the most likely things that are going to fulfill that store value? And I probably, if something were to kill Bitcoin and capture that $10 trillion market, I probably wouldn't be the first one to know it.

I wouldn't necessarily get in at the pre-sale or if it even had an ICO. It wouldn't necessarily get in when it's a $20 million valuation. But I would hope I would realize it when it was at $1 billion or $5 billion. And if it ends up being that $10 trillion asset, you know, I'm still doing fine. And the benefit of that is I miss a lot of losers, right? I'm going to get into a worse valuation, but I'm not going to invest in a lot of things that just die before even, you know, hitting any network effect. So there's that. And then you have this whole area of the market that is, I think of as more like companies.

So utility tokens, you can generally think of as software as a service or as airline miles or rewards points. or I think there's a lot of those that deserve to be eventually 100 million, 500 million a billion that are, but they're almost in a totally separate category for me. The token is almost best viewed as whether or not it's legally equity or security. It's best thought of as really how big is this market. So if you have something that's like a decentralized casino, well, that could be very lucrative. That could be very profitable. That's not a trillion dollar token probably, right?

Or it's unlikely to be because there are no trillion. dollar casinos. There's nothing anywhere near even close to that. And so you'd have to, you know, you'd have to make a very strong case that by tokenizing it, there's much, much greater network effects than anything we've ever seen on the planet, which maybe that's a case, right? So, yeah, I mean, very broadly, it's things that are more equity-like and then store a value. I'm kind of rambling on this point because it touches on so many different things. So the one other thing I'll add to kind of, how do you construct a portfolio in this is I think there are, for me at least, I think about themes in an ongoing way. I think about where things are in the stage of development,

or like the Gartner hype cycle. So there are a lot of projects today that are ICOing that are probably five years away or longer from being usable. Things like where it's the equivalent of a Pets.com. So Pets.com is kind of the famous example from 1999, just a horrible idea that people value way too much. The reality is Pets.com wasn't a bad idea. We now have pet smart. We now have pet food over the internet. It was just way too early. You couldn't have had Facebook in 1990. So I think you had some projects like the Oracle projects that were just too early. They were good ideas. They were good teams. They just didn't have the stack built and they didn't yet have the demand. So there's some projects that I've been evaluating recently that are decentralized cloud

computing or decentralized databases and things like that that you have to think about very much as a VC, meaning this is not going to be usable in the next year or two. By usable, I don't mean that the code won't work, I mean, there's no real fundamental demand for it. Because first, you need decentralized applications to become prolific and consumers to be using those, and then those will demand these services. And so, you know, you just need to kind of keep in mind where are we really in the cycle and to something that is brand new with no network effects in a very early stage software and technology. Am I confident? Can I be confident that's going to be an ultimate winner to value it so highly today. Fantastic. Well, that was that long thorough, but very, very interesting,

answer. Now, one thing I would like to talk about a little bit. So you wrote this, you studied this series of blog posts, which is something about this, you know, kind of principles or your thoughts in general about this investment landscape. And the first post is very interesting, right? Because you essentially asked the question, right, like, why have such good returns been made in this space because obviously, right, anybody who has been investing in this industry looks like a genius, right, if you would probably compare it to a traditional money manager, right? So people have made insane returns. So, you know, why do you think that is?

And do you think that's going to continue or with your fund with Block Tower today, what kind of returns are you expecting, aiming for, hoping for? So I think the blog post that you're referencing, I was trying to develop this idea that as investors, we get returns in traditional finance, the idea is you get returns for only a very small number of things. You don't get returns in traditional finance for taking what's called idiosyncratic risk. So if I, for example, if I buy, let's say there's a biotech stock and it's going to either get an FDA approval and go hugely in value or it's not and we'll go to zero. That's very risky. But finance theory says, I don't get rewarded for taking that risk because everyone in the world, if it's a good bet,

should make it just 1% of the portfolio or 0.5% of portfolio. So that risk, because it's idiosyncratic, because it's uncorrelated because it has nothing to do with anything else to your portfolio, it's not really a risk. We can take it further. If it was 0.1% on my portfolio is being bet on this coin flip, it's not really a risk because if the FDA doesn't improve it, I lose 0.1%. It has nothing to do with anything else. So the risks that investors care about are correlated risks, the risk that basically the entire portfolio goes down. And that's called systematic or structural risk.

And the traditional finance idea is that you get rewarded only for those, and those are beta, which is kind of exposure to the market, duration, exposure to credit and interest rates, and maybe illiquidity. So if you're willing to lock your money up, you should get reward. It's that mindset that is leading a lot of people to call cryptocurrency. of bubble in the traditional finance world because they say there's no reason for cryptocurrency to be doing as well as it is. And my counter argument is there actually is. Those people who are early investing in crypto are earning a return for good reason. They're earning a return

for taking a different set of risks, for taking operational risk, for taking complexity risk, right? These are new and hard to understand. They take time. And frankly, for taking career risk. So if you're an endowment investor right now, so like if an endowment head put, 5% of their portfolio or 1% of their portfolio into cryptocurrency two years ago, it would have been the top performing endowment in the country. Well, why? I would argue because that investor was willing to take career risk, that if this idea doesn't work out,

even if it just loses 1% of the portfolio, they look like an idiot. They look like they invested in Bernie made off to their peers, and maybe they lose their job or they're tart and feathered in the industry. So I think that pattern of kind of the operational complexity, all those risks, we've got another few years, right? It's still scary, it's still hard. It's still, like, when it becomes easy,

here's kind of something I said as a joke, but I actually kind of believe, we're probably not at peak ICO until someone can buy it on an iOS store app. So if Floyd Mayweather and Paris Hilton hawking these ICOs, how many of their Instagram followers can buy any of their ICOs, right?

Like of Floyd Mayweather's Instagram followers who wanted to buy the ICO that he was pitching, how many were able to? you know, probably 1% or less because it's hard, right? It's hard to participate in an ICO if you're brand new to the space. So I think we have a few years left where it's going to become easier to invest and that means more money will flow in and as investors will be rewarded for having taken the time and effort to do this early. Do you think you're taking career risk when switching to, to cryptocurrency? Definitely. I mean, definitely. So if I was investing in equities,

and equities fell 50% or 90%, no one thinks worse at me for it, right? Well, you're supposed to invest in equities. Everyone invested in equities. Everyone lost, right? By doing this, if cryptocurrency were to collapse and go to zero, right? Which I don't think anyone here, probably no one listening thinks is possible.

But, you know, if that were to happen, I would, I'd look like a pretty big idiot to my colleagues back in the endowment world, right? It's like, you know, you left and you lost investor money on buying tulips. But part of it is I've left the endowment, right? I had to take a lot of risk to launch a firm, right? I put a lot of my own money in. I'm not taking a salary for years. There's a lot of risk inherent in that.

If I had stayed at the endowment and somehow convinced my colleagues to invest very aggressively to be the first endowment in and really push that hard and put my name on it and said, you know, this is my bet and it had gone poorly, it would have been career risk. It would have reflected poorly on me. I don't know if I would have been fired for it, but it definitely would have been, you know, yeah, the answer is yes. Now with Block Tower, right? So you, in endowment, I guess this is kind of special investment institution. Now, Block Tower is basically like a hedge fund, right? So do you think this is the appropriate structure to invest in this industry? Or do you think we will have to have some new kind of fund and investment structures,

maybe new fee structures, new type of agreements with their own investors. Like, what's the best way to invest in the space from an institutional perspective? I think the traditional bifurcation into VC and hedge funds still makes sense. I haven't heard a better idea yet. So the basic idea here is if you're trading something that's liquid, that is daily evaluation, a hedge fund structure works well. And the main difference here is a hedge fund structure is evergreen. What that means is there's generally one fund that has a perpetual life and that can take in new money anytime at once. So any, at the end of any month or any quarter, new investors can

come in. And that's not a problem because what you're investing in is entirely or mostly things where you know the fair price, because the fair price is whatever it's trading at on an exchange. If you're investing in things that are illiquid, that are not exchange listed, you can't really do that because you don't know what the thing's worth. So imagine if I'm, let's say I invested in all of my money in something like Cosmos Network, ICO. Well, today, that investment's probably worth more than when I first put it in. And if I accepted new investors into the fund, they would effectively be buying at the price from five months ago. And they would be diluting the initial investors, which is not fair to the initial investors. But there's no fair way to do it because we don't know what it's worth

today. There is no exchange price, right? We would just have to guess. And so if you're investing in illiquid things, use a venture capital structure. And the way of venture capital structure works, the other terms of drawdown structure is you have a fund, you accept money, you close the funds, you're not accepting any new money. You make your investments, and then the fund, and then over time, you liquidate the investments and you give money back to investors. And if you want to raise more money, you do a new fund. So a firm like a Sequoia has Sequoia 1, Sequoia 2, Sequoia 3, I think they're up to Sequoia 18 because every time they want to raise new money, they launch a new fund.

So I think in crypto, it really depends on what you're doing. Because we're more actively trading, because we hold basically nothing in illiquid assets, it makes sense for us to be structured as a hedge fund. But if you're investing mostly in pre-ICOs or ICOs, I think you really have to do the VC structure. Cool. Interesting. But actually, it's interesting that the way you phrased it, right, because you say, okay, a hedge fund is no problem if new people come in because you know the fair value.

But how do you think about the liquidity risk here? Because if you are in some of these tokens, okay, Bitcoin, ether, you know, liquid enough. So, you know, you can sell your position probably. But if you're talking about other assets, do you price that in? It's an interesting question. So with things that are, I had a conversation actually with our fund administrator about this, about, hypothetically, if we had a position that rocketed up, but that I felt was almost mispriced by the market, and we were taking a new money, what's the right thing to do there?

So the answer is the default is to treat the exchange price as the real price. You need to make a pretty, you need to be really confident to do anything otherwise, because that is the price the market is giving you. Cryptocurrency is unusual in this regard, because you have a few individuals. Sometimes you have a fund that buys up a huge. huge percentage of all the tokens, right? They may buy up 10%, 20% of all the tokens that exist pre-ICO or ICO. So then you have a price on the exchange that really doesn't reflect that. It doesn't reflect this mass, or actually sometimes it's much worse. I mean, you have some

tokens where a single individual owns 40% of all the tokens. And so the price that you see on the exchange is not real if that individual was trying to liquidate almost anything. So there's no great answer to this. So legally, what as a fund manager, I'm allowed, to do is basically apply a liquidity discount. So if we had, if something like 50% of the fund was in some very, very liquid asset that we were very gradually selling out of, but we thought that it was really fair price was something like lower than the market, we could talk to our administrator would be a conversation. So that's kind of the legal answer. From a liquidity perspective, it's part of trading. And it's a huge part of trading. It's we're constantly evaluating the liquidity

and what that means and is this price real. And it works in both ways. So sometimes the liquidity is really great for us because if an asset is really, really liquid, it means that it can overshoot or undershoot a reasonable fair value very sharply. And we even see this in things like Ether, where like with the Flash Crash, for example. So Ether flash crashed on GDAX, which is CoinBases Exchange, and actually fell to something like 11 cents. Well, that's great if you're a trader, right? You love buying for 11 cents or $1 or $50 or $100, and then immediately the price was back to where it had been before because it was just a result of very temporary liquid. When you have traditional money managers, you generally have benchmarks to compare their performance against, right?

So in inequities, they would compare it against maybe the S&B and so on. In the crypto space, what do you compare hedge funds against? What is, how do you measure your performance? So there's no objective right way to do it. Part of the answer is, I think as a fund manager, you are giving a particular product to investors. So there's some investors who want a beta one product. They want 100% exposure to cryptocurrency, and then you're hoping to add alpha beyond that by selecting the best cryptocurrencies. And in that case, your benchmark probably should be maybe total market cap of cryptocurrency.

There are other investors who say, I mostly want to be invested in the biggest and what they think of as best. So I want to be invested in Bitcoin and Ether, but I'm willing to let you invest a little bit around that. So then maybe the benchmark is 50-50 Bitcoin in Ether or maybe it's top five. And then there are people who say they're market neutral, they're high-frequency trading. And then the benchmark is probably a 0% return or some kind of almost risk-free rate. You're competing with hedge funds doing high-frequency trading in equities and bonds. So first there's no right answer in terms of, I think it's what you pitch your investors, what product you're offering. And different investors want different things.

Beyond that, it's really hard because we're going to face hindsight bias. So, for example, let's say Ether does phenomenally well. Let's say Bitcoin and Ether are the ultimate winners. Let's say in five years, Bitcoin and Ether are both multi-trillion dollar assets, and nothing else really is anywhere close. Investors are going to ask me, how did you compare to a 50-50 portfolio of Bitcoin and Ether? And almost certainly I'll have underperform that. Because if those two were the winners, you couldn't have done better than just buy

you know, buttonhole those two. And the act of trading that we do to try to add alpha, it's going to be hard to surmount two assets that are just going up a thousand percent. It's going to be hard for us to add enough alpha to compensate for basically the risk management. But you don't know ahead of time that that's going to be the case. It's a little bit like asking Warren Buffett, how did you do against just buying and holding Amazon? Well, he did pretty badly compared to that, but you didn't know that Amazon was going to, you couldn't have known, that Amazon was going to be Amazon 30 years ago. You could have said it had a shot at it. Maybe you had a premonition, maybe you thought it was a good team or something. So in cryptocurrency,

it's kind of the same where I fully expect people to benchmark me against whatever it does best, but the reality, a priority looking forward, the way I think about it is I kind of have three benchmarks that are incompatible with one another. So one, I have to beat Bitcoin long term. Two, I have to beat total crypto market cap long term. Because if Bitcoin fails, let's say Bitcoin goes to zero and something else takes its place, no one's going to be happy that I was down 90% and Bitcoin was down 100. No one's going to say good job already, right? So another is I kind of need to capture the crypto opportunity set, but the third is absolute return. I have all my own money invested in our fund, and I don't want to lose my money. And investors don't, you know,

investors may say they're buy and hold and they believe in the long term, but we just saw cryptocurrency, it's fallen 70% numerous times. You know, we just saw Bitcoin just fell 40% peak to trow. Most investors are not really comfortable with the idea of losing 70% of their money in a month. And so the third is not was don't lose money. So of course, those are challenging to reconcile because how do I capture the full upside while reducing risk and making sure I don't capture the full downside? So we're constantly trying to balance those three objectives. And how do you deal as a fund, right? If you feel like, okay, the market is turning, right? This is no longer a good environment, are you prepared to take large short positions as well? Or would you potentially just

kind of liquidate positions and stay in cash? Or how would you handle that? Yeah, right now, the answer is that we liquidate positions and we'll hold more cash. So we're generally trading into and out of cash. You can't use shorts for risk management right now because you can't collateralize a short. I have to leave a short on an exchange, which means I have counterparty risk. And the exchanges go down quite frequently, right? Even the better, even like GDA, goes down for eight hours at a time, which means I can't trust stop limit orders. So if I put in a short position, I may not be able to cover it. I may not be able to close the position when I want to. Another is you can't really, so an idea in shorting that's a little bit unfamiliar to people outside of

finance is you can short using a derivative like a future. But if you short the underlying, the actual asset, in this case, if you want to short Bitcoin itself, that means you're borrowing it from someone. For me to sell a Bitcoin, I need someone to give me a Bitcoin to sell. So the way that works is if I'm on an exchange, someone who has Bitcoin on the exchange is lending me their Bitcoin. I pay them some kind of margin and I'm able to short it. There isn't that much liquidity. It's individuals who are doing the shorting. If I want to short $20 million worth of really anything, it's going to be hard for me to get that liquidity on an exchange.

So at the moment, shorting is not really a viable risk management approach, but that will change. So Bitcoin futures may be a way for us to quickly hedge exposure. So, for example, if they, let's say a headline came out that said, you know, all governments of the world ban all cryptocurrency. And I'm like, oh, man, I need to reduce exposure right away. Selling Bitcoin futures would be a good fast way to do that. And then kind of think about how do I reposition the portfolio as a whole. Also, cash lending. So you're going to have professional, basically prime brokerage where I'll be able to actually source and borrow tens of millions of dollars of cryptocurrencies to then sell.

All of that is probably some of the futures are coming within the next probably month. or two. The cash lending, my guess, is probably something like four months away. I guess that kind of leads into one of the next questions is, so we've talked about this in quite a few ways already, the situation with institutional money and just new sources of money slowly coming in and trying to get in. What timeline do you see happening here? When do you think different sources of money will come in and in which ways? So right now we're seeing retail, Japan and Korea exchanges. Coinbase accounts, I think that's going to continue aggressively. There's a lot of people who are

still learning, getting interested, looking for dips to buy, looking to onboard to Coinbase, for example, where you have to go through a fairly long AML process and get your account approved, as well as other service providers like that. We're seeing a lot of interest from venture capital firms and family offices. So family offices are kind of a private, it's almost like a private hedge fund or endowment for wealthy families and wealthy individuals. Most of the most of the Most of the large family offices in the U.S. have invested in cryptocurrency in the last year, but small amounts. Many of them are looking to invest much larger. And we're also seeing high net worth individuals. So the average American millionaire currently owns zero cryptocurrency.

That's going to change, I think, or maybe not even the average, but a meaningful percentage of wealthy people in American around the world will want to have some percentage of their net worth in cryptocurrency. So I think we're going to see large inflows there. On the institutional side, endowments, I think you're going to get the first endowment check into cryptocurrency in the next three months, probably a small check. And then I think really over the next nine months after that, it'll become a story, it'll become big, meaningful checks. Pensions are still 18 months away. The main obstacle is custodial services. So right now, managers have to self-custody assets. That means that managers have access, are storing the assets and can basically steal

them. Venture capitalists are used to trusting entrepreneurs with money. They're used to writing a check of a million dollars to an entrepreneur and know they can run away with it. But endowments and pensions aren't used to that and that they're very uncomfortable with that. And so there's a huge push right now in the industry as fund managers like myself say, hey, we desperately need, we want custodial services, we want third-party custody so that we can go to endowments and pensions and other institutional investors and give them access to this opportunity. I don't know how far away that is. It's complex, both from a regulatory perspective as well as a technological perspective, but you have a lot of companies like ledger that's doing kind of early stage on that.

So I'm optimistic that maybe in six to nine months will have it. Yeah, thanks so much for this answer. Now, there was another article I wanted to talk with you about that you wrote. So this is this question of table selection. So you used to be a poker player, right? And you said, okay, what you were good at is just understanding what's the right game to play, where do you need to be. And of course, it's interesting to carry over this idea to the crypto.

currency space. And in particular, there's one aspect in which I'm wondering how you think about this. So we've had a bunch of early funds that started, you know, professionally investing in blockchain, you know, one of the earliest ones was polychain. Because we've talked with Olaf before. I think when we had them on the podcast, you know, they were just managing 10 million or something. And then, you know, soon later, he was on the Forbes cover and 200 million. And so it's blown up. right, but still, I mean, he and the people in the fund, for the most part at least, are blockchain people, right? And so there's, I think, a lot of blockchain people today, they're investing.

They've set up their own funds, or they're investing money they've made from Bitcoin or from Ether. And then there are people like you coming in, right, who are professional money managers and who have the experience on the financial side. So how do you think this is going to play out? Do you think there is a substantial benefit for, you know, advantage for one party versus the other? So I think what we're seeing already is people are finding ways to build the teams they need

to fill in their weaknesses. So it isn't necessarily happening with hires. It often happens through just communication. So for me, I'm not an engineer and I don't pretend to be one. And while my trading focus is shorter term, I never want to be on the wrong side of fundamentals. So how do I fix that? Well, I'm not reading the protocol myself, but I'm talking. literally every day with a blockchain engineer or developer.

And I've worked hard to establish good relationships with the industry leaders, the very, very smartest people in the space who do read the protocols, who are developing the protocols. So I've developed a very strong expert network where it's almost like having a much, much bigger team. Similarly, the people who are the engineers, the blockchain engineers, the smart ones are either partnering with someone with some traditional financial experience or similarly, one of the reason those developers talk to me,

and there's some other fund managers who are engineers, and they give me their insight and expertise, and then they ask me questions. And I talk to them about risk management, portfolio management, derivatives, money flows, all of that stuff. So at the moment, I think the people are approaching intelligently, they're bringing their skill set to the table, and they're talking to the best in every other skill set

and trying to create synthesis. Bigger picture than that, I think it really depends on where you think, your edge is coming from. So I don't want to be on the wrong side of fundamentals, but I'm never claiming that the alpha we're trying to generate comes from me being better at judging the consensus mechanism than another fund manager. That's never, that's not the claim. That's not what we're trying to do well. What we're saying is, well, we don't want to make any dumb mistakes in that regard. We want to kind of know what the consensus is among the engineers, but where we hope to add values with the

shorter term understanding of market psychology and money flows as well as gaining access to information. on the other hand, there are people who are VC focused who are trying to pick the best pre-ICOs and ICOs, and they kind of, they need to make sure that they might not be a legal expert, but they need to make sure they're not on the wrong side of the law. And they might not be an expert on derivatives or exchange flows. They want to make sure they're not getting into something that they can never get out of. But where their value add comes from is that deep, deep expertise in the protocols or the business strategy or thinking about the ecosystem. And so that's their focus. So in traditional asset classes, you don't need to be good at everything.

There are a lot of ways to profit from. So here's an example. One of the most successful firms of all time is rent tech. Rent tech is a high frequency trading firm. It's mostly computer programmers. They trade equities. They trade commodities. They trade bonds.

But when they're trading Microsoft stock, they don't necessarily know that much about Microsoft. They probably have someone on the team who follows the news, who reads the financials. But that's not where they're adding value. That's not where they're making money. What they're doing is they're trading Microsoft every second. They're buying and selling and buying and selling and they're using quantitative signals and all that. And alternatively, Warren Buffett doesn't look at quantitative signaling. Warren Buffett doesn't look at algorithmic trading and he doesn't look at all these other things, right?

So I think there isn't a single right answer in how to profit from this. You mostly need to make sure that you're bringing something exceptional to the table and you're not doing anything really dumb in the areas in which you're not an expert. And you can do that by coordinating with other people. Now on the table selection, if we, so we can of course look after look at the cryptocurrency space and the blockchain space sort of overall as a table, right? And you can say, okay, as an investor, right, there are all these different tables. You can, you know, you can do equity investing or there's the cryptocurrency table. But do you see within the blockchain space also like what are the kind of the different tables you think about there and where you see interesting opportunities?

Yeah, so got you. So first I'll tie the kind of broader crypto idea just in a sentence or two and then kind of get specific. So I did view cryptocurrency generally as a very attractive table because of these barrier to entries, because it's so hard for other traditional financial people to get in the space. There's a big learning curve in many, many ways, both about cryptocurrency itself as well as the operational and security areas. So, you know, I think cryptocurrency as a whole, there's a tremendous opportunity set because there aren't that many. people involved yet for these kind of clear reasons. Within cryptocurrency, table selection is subjective. It really depends on your skill set. So for me to compete, so one of the things that I saw a year ago was that most of the funds in the space were venture capital focused. If I had a VC background, I might still have gone into that game. I might still have tried to compete with them, but it wouldn't have looked quite as nice of a table to me because I'd say, okay, well, I'm competing against, I mean, I have a lot of friends who are launching crypto funds already have who are really, really sharp engineers and or VCs.

We're putting together a team of a VC plus an engineer. And I kind of don't want to compete against them. I think they're going to do a great job. What I see as a great table to be at right now is this kind of a little bit more shorter-term focused because there just literally aren't that many people doing it and the opportunities are pretty broad and deep. It is subjective to your skill set.

Here's an example. So there are massive arbitrages between U.S. exchanges and China and Korea. China is, of course, a bit more dangerous now as exchanges are maybe about to shut down. And I say may. Some definitely are. Maybe all of them. We don't know. But that was true three months ago.

You had large arbitrages. In Korea, you have large arbitrage opportunities. And those are because of capital control rules. By large, I don't mean 2%. I mean a 30% discount by Bitcoin or premium to sell Bitcoin in Korea to the U.S. that exists because it's not easy to move money. So it's not easy to, you can't just trade onto exchanges because you can't actually get one out of the country of Korea.

And I say you can't because realistically, probably you Brian can't, and it's not, and I can't right now, but there are people who can. So there are firms that are, for example, global trading firms that have subsidiaries in Korea, and they have local relationships, and they have connections in the government, And they're potentially well suited to actually take advantage of that arbitrage. So I have friends, for example, who are Korean, who are doing that arbitrage at small scale. They have a million dollars themselves, and maybe they're making $100,000 a month doing it. And they're doing that, that opportunity is available to them because they have friends in Korea and they know business people in Korea.

So if someone was listening to this and they are well connected in Korea and they have a little bit of their own personal money, that's a week, that's a great table for you. That is a great opportunity set for you to take advantage of. And the reason why it exists and why it's so lucrative for you right now is because it's hard for me to do. Because I don't speak Korean, I don't know that many people in Korea. And for me to overcome that barriered entry, will take a major investment.

Yeah, so I think it really depends. If someone's looking to get involved in cryptocurrency generally, again, I think it really depends on kind of your skill set. You don't have to launch a fund. I just had a call with a friend who was kind of, asking for, you know, insider connections in terms of what he wants to do next in the crypto world. And I was saying, you know, I think working at something like a cash lending facility, because this gentleman has both operational experience, financial experience, and

crypto experience, which is a very unique set of, a unique combination of skills in this industry. And one way to take advantage of that kind of that point of synthesis is to launch a fund, but another is you're going to have a lot of businesses that are created that are $100 million businesses, 500 million dollar businesses that do traditional finance things in the crypto world. Things like prime brokerage, things like being a sell side analyst at a Wall Street bank is about to become a real thing. Here's an example, things like auditing of exchanges or doing third-party custody. Those businesses are going to be very lucrative opportunities that most people in the

cryptography world can't do because they don't have the operational background. They don't have the financial background. So, yeah, long story short, I think it really does. depends on what you bring to the table. So one of the interesting themes that Brian and I sometimes discuss about, and we like your opinion on is if you look at the markets today, like equities are actually quite pricey. So there was recently this article from Robert Schiller,

the economist that, so Robert Schiller has this measure called, which is called C-A-P-E, cyclically adjusted price earnings ratio. And the equity markets are on that particular metric, they are higher than they've ever been, with the exception of 1999 and 1920-nine, right? So the markets are quite, quite pricey. We haven't had a huge recession, let's say, at least in the United States for the past eight or nine years.

And there's many people that suppose that there could be a broad market recession come in sometime. So if a situation like that does materialize, how do you think cryptocurrency will behave? I think it really depends on the source of the downturn. So if we have a deflationary recession, most recessions are deflationary. And what that means is the velocity of money falls. Money is circulating more slowly. People are not making loans or accepting loans. Businesses are not expanding.

Businesses aren't hiring. In that scenario, I think cryptocurrency probably falls. It gets hurt. It's hurt because everything gets hurt. Everything from not only do equities fall, art falls. The price of wine falls. The price of expensive cars fall. And the reason for that is everything is competing in the individual's portfolio.

So if I've just lost a huge amount of my net worth, if my wealth has evaporated because I have a lot of equities, well, I'm going to look to see where I can get money that I can spend day to day. And a lot of us in the crypto community, we like to talk about Bitcoin as money, for example, but it's not yet, right? It's not, things are not yet priced in Bitcoin. So what ends up happening is you liquidate anything and everything, even things that shouldn't. So maybe the price of real estate shouldn't fall, but it does because it's just another asset that people hold that they then use as a piggy bank. Cryptocurrency will be the same, and I actually think that effect will grow worse over time

as more institutional investors enter the space. Because when Bitcoin fell 85% at 2013 to 2015, it was a hobby for most people. There were very few people who had their livelihoods connected to cryptocurrency. If you had half of your net worth in Bitcoin, you probably had a day job. You were probably a programmer at Facebook, and yeah, maybe you just lost 100 grand in Bitcoin, maybe more, but it was kind of this thing at the back of your mind. If you're managing a portfolio and cryptocurrency is part of that, or if you're a wealthy individual where cryptocurrency is 25% of your net worth or more, suddenly that starts being part of your portfolio as you think about your portfolio. I think, for example, if an endowment has 5% of their money in cryptocurrency in 10 years and everything sells off, they'll use it like a piggy bank.

They'll sell their cryptocurrency so that they have more cash or so they can buy more equity and so they can rebalance. That's a deflationary recession. where cryptocurrencies may be a very good hedge and very attractive as an additional portfolio is in a inflationary crisis or an inflationary recession, which I actually think is more likely. And that's content. So a caveat here is basically no one is good at predicting either inflation or recessions, like no one. And I don't claim really to be different.

But my guess is that the next serious problem we face economically is inflationary-driven, or at least currency depreciation-driven. So the U.S. dollar may lose global reserve currency status over the next five years. There's some major data points. China and Russia are both trying to push that to happen very aggressively. And if that happens, what you'll see is not necessarily wage inflation. You don't necessarily see wages skyrocket, but you may see the price of things increase. And in that scenario, cryptocurrency probably acts like gold.

It probably acts as a hedge against the value of your U.S. dollars or your euros or your francs depreciating. So I think in an economic downturn that is inflation, inflationary or currency depreciation driven, crypto does well, maybe very well, actually. So a hedge fund manager, Kyle Bass, suggested that he thinks that a likely scenario is the US dollar loses global reserve currency status and cryptocurrency goes up 10x in a very, within an 18 month period. He thinks it's almost like a step function. It's going to happen fast.

And it's going to be a sudden realization around people all over the world that there is no longer a single currency that you can trust as a store of value. Recently, there were these news in China, right? That China is, well, they moved against ICOs and they moved against some exchanges, right? It looks like they're going to shut down some exchanges, maybe many exchanges. You wrote some interesting posts on that. Like, what are your thoughts about the China thing, both maybe the particular and about

what it illustrates about some of the larger trends we are seeing? So China's fascinating, and I think this is very, very, first, it's important to recognize that there is no China, there's no Chinese government, there is no monolithic body. The Chinese government is composed of competing interests, some of whom own cryptocurrency, some of whom are invested in Bitmain, others who don't. So I think even the Chinese government doesn't know what they're going to do because there's power struggles behind the scenes, there's conflicting interests. With that caveat out of the way, I think this is mercantilism. I think what's happening is China is saying not that they don't want Bitcoin, but that they don't want Bitcoin leaving the country. So if you look at what they're doing, they've temporarily banned ICOs,

and what they've said is they're going to put a regulatory scheme in place, basically so there aren't scams, so people don't just, their money isn't thrown away. They're closing most exchanges, but they're going to have a licensing scheme for exchanges. We don't know how many of the license, maybe only one. But I bet that in six months there is at least one giant Chinese exchange that basically you have a liquid exchange in China, whether it's one or three, I don't know. And they're saying that it seems like there's conflicting information about mining, but I've seen no evidence that they're going to shut down all mining.

So it seems either they're going to, again, have a licensing scheme where they license only one or two or three or four miners. That's the most draconian they're going to go. Maybe they say Bitmain is the Chinese miner or there's a Chinese state minor. But I think they want to do as much mining as they can. I think they want control over Bitcoin. And they just don't want those bitcoins to get mined to leave the country. Because this is all part of the broader play of destabilizing the U.S. dollar and replacing it as a global reserve currency.

I don't think the people, there's some people who have this view who think this is the grand play. China is obsessed with Bitcoin and hoarding it all. And I think that's probably unlikely. I think this is probably one of a dozen plays for them. Bitcoin is tiny to China, right? It's a $70 billion asset. But I do think they see, I think what's going on is they say, this could be a real issue.

This could become a trillion dollar currency. And if it is, we sure as heck want to control it. And we sure as heck won as much of it within our borders as we can have. Cool. So if you look at like this here, like as you mentioned, like things happen. Like the main team this year was the rise of Ethereum and then the investments in into the further ICOs. Now, the crypto space has gone up a lot.

What do you think the next few months look like? What's going to be the major theme there? You know, it's tough. Things change so quickly in the space that both from a market psychology perspective, as well as just new information and new news, that's part of why I like being an active trader because I can adjust the new information very quickly. and the fact that I'm likely to make a wrong prediction right now won't necessarily hurt our investors

because I can hopefully be a step ahead of the market whenever new information comes out. With that said, I think I'm actually more comfortable making a one-year prediction than a two-month prediction. I think there's a massive force of money moving into the space that is extraordinary in its size. So total market cap this morning is $130 billion. I think there's more than $100 billion it's going to be flowing into the cryptocurrency over the next year. And that's an extraordinary statement. Like you think about what that means for evaluation, right?

But the counter, so this is how I think about this market. Every day, you have new marginal buying. You have a new buy and hold retail investor, not a new trader, but a new Coinbase account, who just buys one Bitcoin and holds it, or buys a tenth of a Bitcoin. Or, you know, or buy some Ethereum or some Ether or some light coin or on Coinbase or on a Korean exchange buys one of the five currencies they can access. So cryptocurrency goes up every day. Then you have speculators who see it's going up every day, and they say, this is free money.

Why don't I just leverage this? Why don't I max out my credit cards? Why don't I go long on exchanges with margin? That's when you get a parabolic rise. Well, then it starts turning down. All of those speculators run for the exits, and you get a short-term crash. But you still have this upward trend line. You still have a fairly steady rally, with maybe a lot of volatility around that.

So what causes the more major crashes? What causes a bear market like we had in 2013 to 2015 or even what's happening right now? Also, you could also point to maybe what happened heading into the heart fork in July. So what happens is some exogenous of that, some shock that is external of the system. And I say external. I mean, a hard fork is not really external. But a regulatory fear, China closing exchanges, maybe a major SEC division that spooks people, maybe a huge, you know, when people are constantly asked by investors, what are the risks? What are the existential risks? What could really destroy this? What could kill ether? What could kill Bitcoin? And there's a long list. So for example, you know, these are tail risks. These are small probabilities. I don't mean to say that anyone is likely at all. I'm not predicting any of this. But they're non-zero risks. There's a lot of them. So Ethereum is going to have a hard fork, right? What if there's a major bug in that protocol? Bitcoin may have a hard fork in November that may lead to replay at that.

and rollback attacks between the chains. What happens there? What happens if another major base protocol, I guess there aren't that many others? I'm thinking of so CryptoNote, for example, had a major bug found that the Minero team discovered and they handled it very, very well. But the point is bugs can be found in protocols. A state actor could attack a network. Let's say, let's say I'm totally wrong on my read on China. And China actually decides they want to kill Bitcoin. And they start doing DDoS attacks on every node they can find and they start double spending with mining and they start doing all these things. I don't know if they can kill Bitcoin, but they could certainly tack the price quite a bit. Heck, if they just confiscated Bitmain's Bitcoin and

market sold them, Bitcoin would fall 95%. And they could hold it there for at least a few days. So there are all these exogenous events that can happen that make it, you know, short-term create this massive volatility that's very, very hard to predict. So in a year, I think everything is higher. I'm not sure which protocols win. But base case is that almost everything is higher in a year because money flows in everything that's not an outright scam or a totally buggy protocol or garbage. Everything is higher because money flows in and lifts all tides. Over two months, I'm less certain. I think things are higher. I think that story still plays out over the next two months, but there's genuine uncertainty. I don't know about the Byzantium fork of Ethereum. I don't know how

November plays out. I can only guess. I think November won't be catastrophic. But But I'm really speaking out of ignorance on that. Like with many crypto people, when I talk to many early crypto people, when market events happen, they create some kind of learning in the people that were in those market events. Right. So when you talk to early crypto people, their kind of psychology is colored by what happened in 2013, 14, 15, and 16. like a massive rally followed by this two-year winter where like money left things left things were super bleak this was going to die and and for for them like this situation feels eerily similar like this year is really good and then you start to think maybe the next like next two or three years are going to be like very bearish and there's going to be another winter because

you tend to think like it's going to repeat in some way but But from your conversation, it looks like there is like genuine money coming in and we don't have as high a probability of suffering through another long winter. It's very hard for me to see at this point in time, another long recession in crypto, because there's so many people waiting to buy the dip and getting it. So like for our firm, I was worried that this, I mean, Bitcoin fell 40%. over a week, basically, you know, 5,000 to 3,000, that's a huge move in traditional markets. That's insane. And I thought, and that was Bitcoin, other things fell more.

I thought that might really freeze investing. I thought the investors we were talking to that we were pitching might say, this is too crazy. I'm going to wait this out. But it actually had the opposite effect. It did two things. One, there were a lot of people who were worried about buying the peak. They were thinking, man, this thing's gone up and up and up. I'm worried about buying Bitcoin in 5,000 because maybe a correction's overdue. But this pullback feels healthy to them. This feels like, okay, look, I might not be, I don't know what the fair price is, I don't know what a great price is, maybe we're going to $50.

But at least I'm not an idiot who's buying the top. At least I'm not the guy buying the high mark, right? So there's that. And then the other thing that I've been kind of pleasantly surprised at is when things are going vertical, as a fund manager, it's very, very hard to make a case. Like people are like, why don't I just buy Ethereum and hold it? It went from $10 to $400. Why don't I, why do I need you for it?

When I just buy Ethereum and hold it, it's a lot easier for me to then say to that person, well, yeah, but Ethereum just felled $135 from $400. It just lost more than 65% of its value. This is not a one-way street. This is not easy free money. If you bought Ethereum at 400, today, you're still massively underwater, right? And it's not a foregone conclusion that Ethereum will end up at $1,000. You might like it as a bet.

You might think it's going to be Google or Facebook, but maybe it's excite. Maybe it's, you know, GeoCities. So, you know, so it's a little bit, it helps us make the case kind of as for active management. But you do have all of this interest that is slowly moving into the space. Most of the large endowments in the country are actively diligenting funds to put money into, and they will put money in. Retail investors are still getting onboarded onto Coinbase. People who bought one Bitcoin when it was 1,000, and were kicking themselves for not buying more, they're buying more now, and they'll buy more at 2,000, and they'll buy more at 1,500.

because they'll see it as a second opportunity to get into this kind of trend that they missed and that they're now starting to understand. Well, Ari, thanks so much for joining us today. It was super fascinating talking with you. Super interesting to get your perspective. And hopefully we can do this again at some point because I'm sure lots more will change and this will be a never-ending conversation with a lot of interesting developments. It was really my pleasure.

Thank you so much for having me on. And of course, we're going to put in the show notes, a link to Ari's blog. He's written some nice posts and his Twitter. He is extremely prolific on Twitter. So that's probably for people who want to follow up with him. And he does really a wonderful job at describing a lot of the events in the market. So developments in the cryptocurrency space. I recommend checking out his Twitter.

And yeah, thanks so much for our listener once again tuning in. So we are part of the Let's Start Bitcoin Networks, you're on this show and other show on Let's Talk Bitcoin.com. And yeah, if you want to support the show, you can leave us an iTunes review. And we look forward to being back next week.