On The Brink with Castle Island - Ray Hindi & Jake Lynch (L1 Digital) on Crypto Funds, RWAs and DAOs (EP.398)

Episode Date: February 20, 2023

Ray Hindi and Jake Lynch of L1 Digital join the show. In this episode we discuss: L1 Digital's origin story and early path into the crypto ecosystem. The firm's approach to investing in managers and making direct investment. The evolution of crypto funds including views on structure, strategy, focus. The fundraising landscape – how pensions/larger pools of capital think about crypto investing. Views on the impact of FTX. Thoughts on the current regulatory landscape. Real World Assets (RWAs) and how L1D is exploring this thematic area. DAOs and how this framework is evolving. To learn more about L1 Digital visit L1.Digital.

Today on the podcast, I sat down with Ray Hindi and Jake Lynch of L1 Digital. L1 Digital is a Zurich-based asset manager focused on the digital asset ecosystem. In this episode, we discussed the evolution of crypto funds, the state of the institutional fundraising market, L1D's views on real world assets and DAWS, and much more. I had a lot of fun with this conversation. So without further ado, here's Ray Hindi and Jake Lynch from L1D. Matt Walsh and Nick Carter are partners at Castle Island Ventures. All of these expressed by them or the guests on this podcast are solely their opinions

and do not reflect the opinions of Castle Island Ventures. Guest and host may maintain positions in the assets discussed in this podcast. You should not treat any opinion expressed by anyone on this podcast as a specific inducement to make a particular investment or follow a particular strategy, but only as an expression of their personal opinion. This podcast is for informational purposes only. Brought down by bad mortgage investments, Lehman, which has 25,000 employees will be liquidated. The federal government loans American International Group, AIG, $85 billion. This is a different kind of market, and the Fed is asleep.

The federal government is stepping it to stabilize Fannie Mae and Freddie Mac, the two mortgage giants that have been threatened by the housing crisis. The Bank of England has pumped 75 billion pounds more into Britain's ailing economy with a new round of quantitative easing. You print a couple trillion dollars and all of a sudden people start to worry. So out of this worry, we have something called the Bitcoin. Bitcoin. All right. So Ray and Jake, thanks so much for joining us today on the podcast. Excited to have you guys on. Thank you, Matt. Really happy to be here and thank you. Likewise.

Awesome. Let's dig into it. lot to talk about. Great place to start would actually just be the history of L1D and a little bit of personal background on HAU. Sure, I'll get started. So giving you some relevant information that might explain where we are today. But I grew up in Lebanon, left in 97, went to university in London, started trading interest rates in 2001, then moved into an allocation seat in Zurich, allocating into credit, macro and distress hedge funds. In 08, took advantage of the environment to, aggressively invest in distressed opportunities, left the firm in 2011, joined a family office, and moved into fintech investments in Europe. So we did some co-investments and directs

and companies like TransferWise and 26, IZTOL and some other Swiss firms. And when you look at FinTech, I stumbled upon crypto in 2015, started investing, but not in an aggressive way, got sucked in in 27 and the whole boom bust of 17 and 18. And these, entire noise around that industry, and specifically Switzerland, pushed me to launch L1 Digital in 2018. And today, L1 Digital is a $400 million, Finma regulated, crypto-focused asset manager based out of Zurich. That's awesome. And Jake, how did you stumble into this? Yeah, I started in the space right out of college. I found a Reddit post looking for people to do open-source ICO due diligence, and that was like a part-time role. So I started that up with Concourse Q.

And then after about a year of doing that, I knew that I definitely wanted to be full time in the space. I transitioned over to the trading side, did a bit of market making, and then some directional stuff. And then towards the beginning of D5 summer, got into the yield farming side. And then I joined up with L1D in November of 2021. And so, you know, at L1 on the direct side, I'm really interested in privacy, security, DFI primitive, RWA. and I dabble in gaming. And then on the fun to fun side,

cover several funds across different stages. And then in that entire lineage of crypto background, I ended up getting pretty heavily involved in a few organizations, the Spearbit, threshold Dow, and most recently the Boston Dow. The Boston Dow, we'll have to talk more about that. That's the hottest Dow in the United States right now. Absolutely.

So you guys talked about this a little bit. And Ray, you talked about the history of the firm. How have you thought about just the evolution of this digital asset ecosystem and how you've approached investing in it. Obviously, you've seen quite a few cycles now at this point. From the start, we had a very simple goal, which was to generate outsize return to our investors,

typically institutional investors, by betting on winning protocols and companies across the entire space. And it's a really, really big space. And back in 2018, it's still somewhat the case, but back in 2018, the ratio of garbage to quality was really high, right? I mean, there was a lot of garbage out there. And to ensure sourcing power, you needed to team up with great funds out there. And there weren't a lot.

So this is why we started with a fund-a-fund approach, i.e., we managed a portfolio on a look-through basis, but we use the managers that help us source globally and across ecosystems. And back then, what is really interesting is that back then, there was no defy in 2018. you would look at a fundamental portfolio and you got offered a portfolio that is long BTC, ETH privacy coins at 2 and 20, which wasn't very attractive, right? And we were able to identify managers that had very high conviction and stubborn conviction to specific ecosystems out there. So, for example, a manager who's dedicated to Ethereum and decentralized networks

automatically gave you exposure to defy before defy was a thing. NFTs before NFTs were a thing and DAWS before DAWS were a thing. It's natural. But if you want to diversify your portfolio, you need to find an opposing view. And so you had another manager who completely disagreed with that, went for an alternative layer one and went in with a high conviction. That alternative layer one became something really relevant. So back then it was about layer ones and scaling. And if you use that approach, by just diversifying with those two funds, you were able to benefit from the tremendous asymmetry that you have in the space to essentially outperform most crypto hedge funds out there, even as a fund of funds. So things have evolved significantly

since then. I think we're moving to the next stage now, which is it's not about ecosystems. We're moving up those layers. It's getting way more complex than it was. And the relevance of working with great teams out there is even stronger. So the approach of doing things indirectly through funds and also on the direct side without competing with them. So our funds take care of liquid and early stage. We come in at later stages. It's a good approach for us and our investors and essentially reflects everything I've done in the past across my career. That's great. So you mentioned being involved in traditional hedge funds earlier. I'm curious just your view on the evolution of crypto hedge funds with an eye towards the practices that exist in the traditional

space and how that's evolved in the crypto world. There's a lot of different structures. There's a lot of different sizing, liquidity profiles. But how do you think about the evolution that you've seen in the crypto space since you entered it? Yeah, I mean, it's still really, really early. But I can tell you that when we entered, so first, there's a few elements to mention here that are not very similar to traditional hedge funds. The brand of an asset manager in every strategy, even a TrotFi, is really important. But the difference in crypto is that there's two ways to build a brand in crypto. There's a group of investors or firms that built their brands towards investors. So they've got sophisticated business development setups and most investors and institutional investors know those

brands. And you have firms that build their brands towards entrepreneurs. And at the end of the day, the asymmetry is going to come from your venture bets, whether it's decentralized networks or companies, this is where you're going to generate most of the alpha long term, because the real alpha is in liquid venture and venture in crypto. And so we've identified those distinctions, and we've focused on the firms that actually build their brands towards entrepreneurs. So those are the firms that don't have dedicated IR personnel generally don't look very institutional from the outside.

So that's one point which is important for us. Back in 2018, operations were catastrophic. I mean, it was really bad. From the internal operational setup of a fund, their understanding, because, you know, if you want to invest in a crypto-native manager, naturally, they don't have a previous track record. I mean, they're crypto-native by nature. And the only managers in crypto that had a robust operational setup where stratify managers that will typically be active in trading. So it's a way fundamental investing, essentially. So you can't have everything, right? There's no free lunch. And even administrators,

weren't that great. Our investors would really complain would struggle with major delays in NAVs, right? Simple stuff. Those things have been resolved so far. Today, we're always on time on NAVs. And there's been a major step up on the operational side, at the SM Azure side of things. But you know, what is really interesting in the space, and it doesn't really compare traditional hedge funds because it's majorly amplified here, is that there's still a lot of work to do. And bare markets is the time where you put in the work. So bear markets give us as investors, as L1 Digital, the opportunity to invest in talent, but de-risk the PPM or terms or help them set up their valuation policy.

So, I mean, I can tell you that post-FTX, we've been the most active in the last two years, simply by onboarding new managers, negotiating their valuation policy, their terms. and derisking the entire process. So essentially that cyclicality is really, really important because those are, you can't do that during a bull market. No one cares. Yeah, things are moving too fast during the bull market. I'm smiling as you're talking about some of the gaps in infrastructure

because that's what we saw when we were at Fidelity in 2016-17. You'd see these crypto hedge funds marking their books to coin market cap. There was no compliant reference rates out there. There was a lot of just operational stress there, and it just highlighted the fact that the industry needed service providers really to step in and do it. The good news is that a lot of that is being built. But, you know, there's other stuff on the trading front that still needs to evolve, prime brokerage. There's a lot of gaps still if you compare this to a traditional market.

100%. And, you know, FTCS has caused a lot of issues as well, right? It's not all positive. So today, if you want to come up and say, hey, I'm a long short crypto hedge fund, well, there's a big tool that was taken out of the equation. right? You can't short as easily as you could before. So FDX was taken out. Some of those prime brokers from which you board were taken out. Even arbitrage managers today are conscious of counterparty risk. So now people understand that, hey, if you're with an arbitrage manager, yes, you don't run market

risk, but you run other risks. Counterparty is one of them. And you need to find solutions today. and there are solutions that become more apparent and needed of either off-exchange settlement or mitigation of counterparty risk through several service providers that were launched in the last few years. So that crypto capital market fabric has dramatically changed, short-term negative, because there are strategies that you can't really apply or not worth the risk to be invested there, but also creates opportunities for players to service companies to provide. those risk mitigation strategies or even move into defy, right? It makes defy more relevant in that respect.

I agree. It's also fascinating to think about some of those categories from a venture investing standpoint because in traditional markets, you'd really never get an opportunity to be a venture investor in something like a Vanguard or something like a prime brokerage business or something like a large-scale OMS even. So there are these categories now that are venture backable only because the banks and broker dealers aren't really in them yet. and so presents these interesting opportunities to invest in the products that you use.

100%. It's super interesting. After FTX, you have to redraw the entire fabric of crypto capital markets and make sure that you get that liquidity back, right? Because borrowing in crypto is important for liquidity, but it needs to be done the right way. And if we want to onboard those traditional hedge funds, we need those risk mitigation tools to be there, right? Definitely. One of the more interesting things to me has just been the evolution of these niches within crypto investing. So we have some partners, some friends of the firm that talk a lot about the early days of the internet. And you'd have these venture funds that were raised and there were internet funds.

And they would invest in anything touching the internet, which just seems crazy now because everything touches the internet. And you would never have a venture fund that pitches themselves that way. But in the early days of crypto and blockchain, anything that had crypto or blockchain was investable. now you're starting to see dedicated gaming funds. You're starting to see dedicated D5 funds evolve. So how do you guys think about the various strategies that you see in the market today and how these niches will evolve? So essentially, that's exactly part of our strategy.

Of course, when we started, it was mainly about getting access to quality, which was scarce. Since then, the universe has exploded. There's a lot of verticals. There's a lot of ecosystems. And our approach today is to make sure, that we invest in specialists and we collaborate with those specialists. And with that, I'll pass it on to Jake to give an example on some things that you just mentioned.

A very specific example is gaming that you mentioned. When you look at gaming, if you come at this with a background of crypto investing, you have absolutely no clue what you're doing. First, you need to be a gamer. You need to be a lifelong gamer to understand what actually makes a good game. But second, you need to know what's going on behind the scenes with that. Investing in Game Studios is in incredibly risky. Most of these fail a tremendous amount run out of budget or just never get to market. And the main risks and hurdles that you've got to go through here aren't new. They've been around for 20, 25 years. So for instance, one of the managers that we invested in on the VC fund specifically is focused in crypto gaming. And they have a background. They've built gaming

companies that've been in gaming for 25 years. They started a famous gaming league. And we work really closely with them whenever we see DL flow on that side, just to help walk through the DD there. And it's also an area where we can rely on them when they're sourcing early stage stuff to come in and put some more gas on the fire if it looks really good to us. And we can tap into their DLOW there. Jake, have you seen the intersection of NFTs in gaming? Is that emerging as one of these dedicated niches. We've seen quite a few of these dedicated NFT funds popping up over the past year or two. Yeah, it's a hard one. We have seen it. And it's hard to get behind. And I'll tell you exactly why. Myself, I'm a big gamer. And I spend a lot of time gaming. And I can't play more than three games at a time.

Right. So if you're going to be trading these NFTs, you have to know what the meta is in these games. You have to know these games at a professional level. And the scalability of that is just not, massive, right? You might need an entire gaming team just to understand the asset class. So if you want to have all of your risk in one game and really be good at that one, that's a viable strategy and it can definitely work out. But of course, you have an incredible amount of idiosyncratic risk when you're looking at that. The area that is super interesting when it comes to investing in gaming is most definitely like the account abstraction aspect. I think Rio was talking about that a little bit ago on the pod. And the idea behind that is most people know how difficult it is to get onboarded into crypto.

With account abstraction, you don't have to worry so much about this, right? You can kind of separate the gaming layer from the actual crypto layer and give people the opt-in ability. So the infrastructure side is definitely more attractive as an investment space right now than the actual NFT assets. But that being said, I guarantee you we're going to see some multimillionaire DGens coming out. of that space. A lot of people talk about breakout consumer use cases for crypto. Would you think that gaming would be front of the list in terms of things that could pop here in the next year or two? It's up there. There's two schools of thought when you look at gaming, specifically towards crypto. One school of thought is kind of the mainstream one, which is Vitalik built Ethereum because his Wow

account got nerfed. So he wanted to make sure that he had some ability to maintain control of his assets there. So the gaming that we understand today with the crypto backbone so that you have some ownership in there. The other approach is everything on chain, pure on chain. And this doesn't necessarily attract a lot of the people who currently consider themselves to be gamers. But when you look at the world of solidity developers, how interesting would it be if most of the participants in this game, the MPCs in this game, are actually smart contracts that were developed, dropped on the blockchain, the studio didn't have to prove it to be dropped there. It just happens.

And all of a sudden, you have this user-generated content world, right? And you could essentially crowdsource the production of a video game. Then you throw in the AI layer. Now all of a sudden, your dialogue is actually intelligent. So you go to somebody once, they say something, you go back to them, and they realize that, right? There's a lot of different approaches here. The latter, I would say, is not going to be the breakout case. That's going to be the coolest example and possibly the highest revenue generating because

the costs for the studios are lower since it can be pretty much maintained in perpetuity, evolving perpetuity. UGC obviously gives life to games. You look at sandbox games like that. But the former is where you would see breakout because you need something familiar for mass adoption. That's fascinating. I mean, just the amount of talent that has gone into that vertical over the past

couple of years is fascinating. I don't know how you would keep up with this as someone that's just trying to do it on the side of the desk. It just seems like an impossible task. It's not great for a personal account. I did want to switch gears a little bit and just talk about the fundraising landscape. It's a really interesting time to be out there talking to pensions, larger pools of capital. You have a rising rate environment. You have a denominator effect with privates at some of these large allocators. But what's the general sentiment out there around crypto for some of these larger pools of capital right now. Yeah. So I would say that on a relative basis, the environment is pretty tough, right? Generally. So we closed our first Swiss pension investor in Q4 of 2019.

And just to give you a little bit of history, they invested once Q4 or 2019. April 1st, 2020, we called them, we said, now's the time to put the second leg to double down. And they did. This is what pension funds do. They're typically contrarian. Once they approve an investor, They gradually move in and they're very long-term investors. They take time to work on. We added another four pension funds during 2020 and number six came in this month, actually. Number six is a huge international brand. They have a small pension fund, $150 million, but they actually approved crypto as an asset class.

And for them, it's not about interest rates. It's very long term, essentially. So most of investors out there make one big mistake, in our opinion, is that they spend 90% of their time deciding if they want to get into crypto, yes or no, and just 10% on the implementation. And what we do is that we push on the educational fund to make sure that we flip it around. That at the end of the day, being in crypto or not should be an easy decision. Because the asymmetry is super interesting from a portfolio construction perspective, and you can risk manage it in a very easy way through size. That's it. I mean, you know how much you can lose on it, but it can transform your portfolio if you're right. Specifically, if you really write long term, because it can destroy several

align items on your portfolio. And so that's how they think about it. They get the long-term fundamentals, but they're very attracted by the fact that from a portfolio construction perspective, it adds a lot of value. So the way they manage it, a Swiss pension fund comes in, puts 20 to 50 basis points. And that pension fund that invested in 2019 was the best performing pension fund in 2021 by far. Because that 50 basis points, I think they realized 5x on the investment and that creates a dent on their performance. So all to say is that it depends who you talk to. If you talk to high net worth individuals, they're panicking. If you talk to pension funds, they're interested, they want to learn and they're ready to be contrarian. And statistically, if you look at, I'm talking numbers here,

If you look at the assets that are raised over time, you'll see that the pension funds are the one that are mostly contrarian and come in when things are cheap. They started getting interested when the bear market started because things were more rational. They could defend it in their investment committee irrespective of volatility. What matters are fundamentals and the implementation because essentially even if you're right on crypto, the diversions in performance is massive. I mean, the blow ratio is there, exists, and you can outperform peers in a major way, right? So the potential for alpha is real. So things are positive in that respect, in that segment. That's fascinating with the pensions.

You know, I'm curious how the average pension fund thinks about this. My sense is that it's probably through the lens of here's a new disruptive technology that is targeting these huge markets, financial services, the internet itself. So I'm curious if that's the sense that you're getting, or are there pension funds that actually look at holding Bitcoin or Ethereum as these sort of alternative currencies. Are we there yet in terms of that thesis? Or is this more of a venture capital hedge fund type of a thesis? It is more of a venture capital hedge fund kind of thesis. Every pension fund has a slightly different reason for investing in us or in the space. The first pension fund was, the reason was

very simple. Well, first, it was lucky because the team that was managing that pension fund were very passionate about crypto. They would travel together and create a travel money pot denominated in crypto, which was amazing. So the trip that they went to was after the rally was amazing because obviously that pot did extremely well. So that was lucky. But they did it for diversification purposes. And they had two, they were thinking rightly or wrongly so about the inflation picture, the fact that what is your best investment if there's a lot of liquidity in the system or too much liquidity in the system. So that was pre-COVID. And so they had two choices. Either we invest in gold and gold miners or we invest in crypto. Gold and gold miners is not ESG. It's not positive from

an ESG perspective. That was the reason why they went for this, which at the end of the day, from an ESG perspective, you score pretty well on the crypto front. But I would say that most of them are doing it for the technology, the fact that they see the parallels with the internet, the fact that you're going to have a lot of losers, but some winners, it's going to be really volatile, and so you need to size it accordingly. That makes a ton of sense. I wonder how this is going to shake out with the impact of FTX. Obviously, there was quite a few investors in that company that might have been looking at crypto

for a little while, and this was their first investment, a lot of co-invest in that deal. There's pension funds in that deal. What impact, I guess, just broadly speaking, will FTX have on not only the fundraising market, but just the overall market for crypto funds at this point. So starting from an investor sentiment perspective, pension fund number six was closed after FTCX. So they reaffirm including digital assets as part of the investment committee said, okay, the universe includes digital assets.

They approved it, which is a big deal, right? And by the way, this is a really, really big name. I mean, everyone would recognize that name and hopefully it could be made public one day. But of course, the sentiment is, it's difficult to raise money, but everyone wants to have that conversation. It's an important conversation to be had, and they're using the bear market to educate themselves, to understand the space, the risks, et cetera. Now, in terms of investment strategies, of course, there are major implications. So I think you need to rebuild the infrastructure, as we talked about in the past, to have a solid crypto capital market fabric,

to be able to execute on diversified trading strategies. And so in our opinion, and this is our bias, of course, and this is how our portfolios are positioned, is that we're not in crypto for trading. Trading is really important for liquidity. It's essential for that whole ecosystem, but we're in it for the liquid venture and venture side of things. And so this is where we're leaning towards.

And typically what Trotify does or what people initially like is when you launch a fund of funds, most of the fund of funds that launch, to really they're marking neutral fund of funds. They want to provide an absolute return mandate or return profile. And we don't think it makes sense because what's the point? So we approach those investors by saying, listen, there's no free lunch. You want to be exposed to that technology. You need to absorb that volatility.

So you shouldn't take volatility as a negative or a risk metric. It's natural. because at the other extreme, if you're suppressing that volatility, you're incorporating other risks, such as counterparty risk, low up risk or other, that are catastrophic, as we've seen, and we can talk about specific examples. So I think short term, it's not great, but it presents great opportunities and the conversations are still there. And with the exception of the uncertainty around regulation in the U.S. of course, doesn't help.

But in Switzerland, crypto regulation is clear. It's very simple, but it's clear. And it's been clear for a one. And that helps in a major way. You go to an institutional investor. The framework is there. They understand.

And so that creates a lot of confidence within our region. Yeah, I'm a bit jealous of some of those regulatory frameworks that you have in Switzerland and just Europe in general, I'd say, is really the leading part of the market, as it relates to regulatory. Yeah, I'm curious to get your guys' view on that, the regulatory picture. Obviously, FTX was a dumpster fire, right? There was a lot of things that they're doing that were completely illegal from a market structure perspective.

It's kind of surprising that they're allowed to persist as long as they were persisting with Alameda and FTX and the conflicts there. But how are you guys thinking about the regulatory posture today and how it impacts the way that you'll invest going forward? So it depends on the areas that we invest in. So if you think about on the direct front, through our direct investment program, we typically invest in companies and networks that have traction. So companies that have tractions that are centralized today, if they don't have regulatory

strategy and talent in-house, it's a no-go. I mean, I'm not saying that you should be able to, you can't predict what regulators are going to do. It's an unknown. But you need to manage that risk. And specifically, you see that example, recent examples at the beginning of 2022, you saw the action of the FCA in the UK, which were really swift and destructive to some companies. Where companies had to, it had an impact on rounds, on revenues, customer acquisition.

And today, you need to be in a position through in-house talent, whether it's the CEO or in-house legal talent, to have a diversified strategy from a regulatory point of view. So that if one jurisdiction shuts you or makes it more difficult, you're able to onboard clients through another jurisdiction. So that's really important. But of course, there's no free lunch at the end of the day. I mean, if you look at the Swiss example, there's a lot of Swiss companies that build their business around a highly regulated framework. And they never took off. And now they're seeing traction after FTX. But the big question, is it enough or not? So you need to be in a position that is in between, right? You need to be able to execute on your business within a managed regulatory

framework. And regulation is a risk that you need to live with, right? It might make things difficult for some time, but it's a reality that we've had in our process for a long time. And I don't think it's going to change anytime soon. Yeah, and I guess this cuts both ways. Getting some regulatory clarity here and getting a framework, say, in the United States, if that is the byproduct of this FTX debacle, it might be a painful road to get there, but that could be the type of thing that just attracts more capital to the space, more new company starts, that type of thing. That's exactly the case with the Cracken enforcement action, right? Like, if you just read through the Howey test, it's an open and shut case.

It makes sense. It might be a bummer that they went after Cracken rather than FDX and sat on their hands during that entire period. But it's exactly the regulatory clarity we've been looking for. Now, when you look at the BUSD thing, it's a little bit more scary. It could be a little bit more of an overreach, especially because, you know, You know, obviously, anybody purchasing or investing in a stable coin is, by definition, looking for stability, not for speculative practices. So maybe they're looking at something else going over there, like an unregistered investment advisor.

And that might be the overreach. But the crack in thing is exactly what you said, Matt. It's the type of clarity we need. Yeah, it'd be great to have a kind of an overarching clarity that is not regulation by enforcement to get that clarity. my opinion. I think that's really where a lot of entrepreneurs that we see struggle. If there were just a clear kind of rules of the road, here's how the spot market needs to operate, here's what you need to do, here's how you run a staking program. And then on the security front, I think the answers are there. I mean, Hester Purr's Safe Harbor proposal continues to be the thing that makes the most sense for

this industry to just classify a token, whether it's a security or not. And I think we just need to endeavor to get to a point where something like that is viable and gets passed or gets put out there because this bespoke, okay, they punished Cracken, and now we know a little bit more, so we're going to adjust our product. That's just a tough way to operate for an entrepreneur. Yeah, absolutely. I mean, it's probably one of the few situations where we see there's absolutely no first mover advantage. You really have to pay for your rules, right? So that's unique, for sure. Yeah, and it ends up being the Paxos and the Crackens and the coinbases of the world that are trying to be good citizens, trying to operate within the jurisdictions that get these enforcement actions.

and it's, you know, the offshore rogue element that FTCS is, you know, they got what was coming to them, I guess, but they never saw that type of activity because they weren't even trying to operate within the regulatory framework, which is, you know, that's a little bit demoralizing, I think, for a lot of entrepreneurs that are actually trying to do things the right way. So, Jake, switching gears a little bit, you and I've talked a lot about real world assets as a thematic area. So I would love to get your take on how you guys are approaching that space. It's definitely a space we've been particularly interesting. interested in recently. In almost all cases we see with RWA combining crypto and the real world

assets make sense for like the typical reasons, the accessibility, fractionalization, liquidity, transparency, et cetera, et cetera. So like for us, it's much more helpful to kind of look at it across the fungibility spectrum. And so I'll start with on the extremely fungible side and work my way down. But this might be somewhat of a controversial take. I don't really understand why it would be, but some people feel that way. The premier RWA in this space is obviously stablecoins. Anytime you're custody the asset in some entity like a trust or an SPV and then minting a proxy representation, that is the definition of RWA. And so it's a very compelling use case and clearly was the earliest one that was adopted in crypto. And it's almost like commonplace

right now. It's hard to find alpha in the stable coin sector. Then if you move down the spectrum a little bit, What's particularly interesting right now is the credit markets with regards to real world assets. So diving into that, you first kind of bifurcate that between private and public credit. And public credit is interesting, if only for the reason that it's a $40 trillion asset class. Although that also kind of makes it a little bit less compelling for crypto, since crypto doesn't really do much to move the needle when it comes to transparency or liquidity that's already present. And so you really focus on accessibility here. It's very powerful for people outside the U.S. to get access to T-bills, right?

And that makes sense. So like Ondo finance has kind of taken a big pivot in that direction. And we also saw Maker Dow do this with SG sometime last year or maybe a little bit before. But it's super efficient and people in it aren't really complaining. So like there's not an insanely compelling product market fit here. So we really want to look for what we can. consider to be the obvious opportunities, the ones that don't need artificial incentives. When you look at early days in defy, we know how artificial incentives work out, right?

And we don't think they're necessary when it comes to RWA. So shifting over to private credit, I mean, that's what we're talking about here. It's a much smaller asset class. It's like one and a half trillion, something like that. And just real quick, for those who aren't familiar with private credit, I'm sure all your listeners probably are. But it's just debt that isn't issued by governments really. And these markets have a lot of friction, and they're also pretty opaque and fragmented.

And also you find that the borrowers are relatively unservice because the issuers of the debt are usually like fintechs or something like this, whereas most retail can just call up their bank and get a T-bill. You have to go through a lot more hoops to get something like a triple B auto loan exposure. So then when we look at this category, specifically, you know, no surprise. we're really big fans of centrifuge. Just like a quick TLDR on centrifuge is, you know, if you were to think of Maker Dow as a decentralized Federal Reserve, centrifuge would be like a decentralized investment bank. So essentially, a bar work and spend about credit facility.

Centrofuge meets the tokens representing the junior and the senior. And people, institutions, anybody can lend to this facility and receive the tokens for the junior or the senior, whichever one they want exposure to. So here, Kevin B. me, of course, from Boston, he's doing some really interesting stuff here. He essentially spun up a credit facility where the senior tranche is exclusively reserved for MakerDAO.

So it gives them the exposure to private credit. Then Kevin and his firm provides the junior capital, effectively, like giving them leverage on the strategy that they're running. So they use a facility to purchase, you know, like attractive short-term credit opportunities, consumer loans, something like that, you know, auto loans, etc. And what's really interesting about this is Kevin's not doing this because he's altruistic, or I should say just because he's altruistic. He's a good guy. But he's doing this because they're saving 250 bips compared to the alternative. Like the alternative here would be like a city group or like a Bank of America where they'd charge quite a bit more to do the securitization or the structuring. So essentially centrifuge is protocolizing the securitization process, which makes it much cleaner. and much, much easier. So the recording data on chain, it makes it more transparent, easier to underwrite,

and it's fractionalized. So you don't need to be like a large bank buying half a yard of private credit to get access to this. Now, one other area in RWA that we are really, really fascinated with and love right now is all the way down the fungibility spectrum. And it's decentralized science. So specifically in here, we invested in Molecule and Vita Dow and fairly active participants in those organizations focused on the governance side here. So molecule is a protocol for bringing IP on chain and fractionalizing it. DISA is super early.

The traction here is really impressive. And so for instance, Vita Dow has 5,000 members, has funded 15 plus projects and is actively deploying capital. And they use the IPNFT framework to fund the development of early stage research and longevity. So this lets research that might get neglected or is difficult to fund through traditional avenues like academia or whatnot, find alternative sources for funding. And one thing that really stuck out to us here was that when we invested in Vita Dow, Pfizer was also investing. Right. And that's crazy they hear in crypto. So if you think about Pfizer in 2020, you would say, what do they have any interest in crypto for?

And, you know, like, their interest is really straightforward. They've been trying to build a large network of researchers to source early stage stuff for years. And Vita Dow did it in one year. And they also get like the first look, a really promising first look at IP as it comes through that process. So kind of to wrap it up, like what we're really looking for here is we're looking for natural product market. the PMF that you don't have to incentivize, which is drastically different than what we saw in 2019 with Defi and kind of early adoption of crypto. It's fascinating.

Real world assets are one of these emerging categories within the crypto space that if you take your eye off of it for two weeks, you've totally lost. And there's so much happening. These forums are just so active in terms of people talking about implementation and how you deal with these large treasury teams and how you actually. access protocol, you know, revenues and things like that. So it's fascinating, but you don't have to squint too hard to imagine a world, you know, maybe 10 years from now where most of the assets that you own are represented on public blockchains. And you have the ability to tap into all of the

benefits of defy with a real world asset. So you could imagine someone wanting to take out a U.S. dollar loan against a pool of real estate assets that they own or a pool of private market stock or something. But all of these benefits that were just kind of experimenting now. now with Defi. Now imagine those all work with like assets that you own in the real world. I think that's where we're headed. Yeah, if we want to talk about where we're going, when I was part-time in crypto, I was full-time in real estate working for like the largest home builder in the U.S. And I was really interested in crypto and I wanted them to integrate it somehow.

So I kept pitching them on it. I kept pitching them on it essentially got laughed out of there. And the reason I got laughed out of there was not because they didn't get it. They were like, these ideas make sense. they were like, how do you think we make money? So one of the guys told me, he said, I can tell your passion about this. If you want to do it, you should go and do it yourself because it's going to take us about 10 years.

I actually think his timeline was really off. Because what we're seeing today is that real estate is clearly adopting this faster. And you're starting to see stuff like in Boston with Caleb or Garibadian proposing a bill to recognize deeds on chain. And this type of stuff was the critical components that we needed. And if you want to talk about positive effects of FDX, not many people do. But the positive effect of this is that crypto was on people's lips for months. People actually got into it.

They started to try to understand it and unravel this gargantuan mess. And because of that, now the legislators actually think about it. Yeah. The Massachusetts blockchain caucus actually making some great strides, as you point out. So that's promising. If our federal representatives could follow their lead, it would also be a lot better. But glad to see we have the groundswell. You guys mentioned DAWS a few times.

I'm just curious about how you think about DAOs as an organizing construct, what you're doing in that space, any projects that you find particularly interesting. Yeah. In many ways, it's a loaded question. The concepts of DAO's were kind of skewed from the beginning when they put that A in the middle of it, that autonomous aspect. I mean, I've been involved in several DAOs, and there are maybe one or two that I can think of that I would consider to be autonomous. So the way we separate it is simply there's investment DAOs, there's protocol DAOs, and then there's social DAOs. And the social DAOs might be for-profit, then might be nonprofit, they could have various activities. If we put investment DAW aside, because it seems like they've actually figured out a lot of stuff, they have some issues with governance in terms of execution and whatnot.

But crowdsourcing deal flow is obviously. a good idea. You know, you see that with angel investments working very well. But if you were to look at social DAOs, I've been really kind of pushing away from using the terminology. I think distributed organization is a much better one. And what I consider to be a distributed organization is just an organization that has a transparent treasury that's mutually maintained. And so very similar to like Oneida Corp or Ophilis doing the healthcare over in Denver, this is an organization. where the reason the trust works and the reason people feel like they have ownership over it is because they can see it and they can influence the governance. So these seem to be incredibly

powerful because now you can, we've gotten kind of Zoom normative. We're very comfortable at being on video chats, being on Discord, talking through those mediums. So being able to find talent globally and coordinate it around a shared treasury is something you could know. not do without crypto. If you imagine trying to do this without crypto, you know, we're setting up the bank account for ETH Boston, you would have to get everybody KYC at a chase, right? That's not going to work for what we consider to be a DAO. So the power of distributed organizations, at least as I define them, is untapped. And the freelancer economy, the gig economy, all this powers that and plays into it. If you look at Protocol DAOs, I think protocol DAOs are going

in a certain trajectory. And protocol DAUs should get to a point where they're autonomous. That's pretty vital for their longevity. What's important for protocol DOWs to realize, and I think several of them are, you're starting to see some of this direction from leaders like MakerDAO is the way we started DAAS. We started them. We created a bunch of sub-dows.

We said, you guys do marketing. You guys do the business development. You guys manage the Treasury. When in reality, none of them were qualified to do the market. marketing. None of them were qualified to do the BD. But what's important is managing the treasury. So if you can take a protocol Dow and it has $100 million assets, $100 million of assets, and you can run this like an endowment, theoretically, you could spin off enough capital, one, to provide liquidity for your token holders, and then two, to also pay for outsource

marketing services, outsource other services like that. So the trajectory that we see these going in, at least the ones that will survive is in that direction towards treasury management and an endowment model, internet endowments. That's fascinating. You guys have such a unique perch on so many different categories. I could talk for hours about DAO's and real world assets with you. So maybe in closing, where can we send people to learn more about what you guys are doing? Obviously, you have a tremendous presence in the community, but where can we send folks that want to engage with L1D?

Yeah. Our Twitter is L1 Digital underscore. L1 Digital was taken, apparently. My Twitter is Lake Ginch, and you can also go to our website, which is L1.org. Happy to talk to anybody there. Well, congratulations on all the success, Ray and Jake. It was a pleasure to have you on the podcast this morning. Thank you so much, Matt.

Really proud to be here and proud to be investors as well. Thanks a long. Thanks, Matt. Thanks for listening to another episode of On the Brink with Castle Island. To find out more about Castle Island, visit castle island. To listen to all of our podcast episodes, please go to On the Brink dashpodcast.com or just click on the tab in our website. Thanks for listening.