The Breakdown - Cathie Wood on Cathie Wood on Why Central Banks Will Add Bitcoin to their Balance Sheets

Episode Date: May 28, 2021

Today’s special edition of “The Breakdown'' is a replay of NLW’s fireside chat with ARK’s Cathie Wood that premiered yesterday as a closing keynote at Consensus 2021. In this conversation, they discuss: How macro going risk-off has impacted bitcoin  What was driving Elon’s about-face  China and “green” mining  Investing in technology innovation Why ARK is investing in Ethereum  What role bitcoin plays in a world characterized by deflation rather than inflation -- Earn up to 12% APY on Bitcoin, Ethereum, USD, EUR, GBP, Stablecoins & more. Get started at nexo.io -- Enjoying this content?   SUBSCRIBE to the Podcast Apple:  https://podcasts.apple.com/podcast/id1438693620?at=1000lSDb Spotify: https://open.spotify.com/show/538vuul1PuorUDwgkC8JWF?si=ddSvD-HST2e_E7wgxcjtfQ Google: https://podcasts.google.com/feed/aHR0cHM6Ly9ubHdjcnlwdG8ubGlic3luLmNvbS9yc3M=   Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW   The Breakdown is produced and distributed by CoinDesk.com

I think there will be this insurance policy that a lot of individuals and businesses will be taking out. And in fact, I wouldn't be surprised if some of these emerging market central banks start accumulating Bitcoin and other currency. So because if they know their currencies are going down and that they will be under attack for as reserves go down, maybe they'll have a balance with Bitcoin and other crypto assets. Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big picture power shifts remaking our world. The breakdown is sponsored by nexor.io and BitStamp and produced and distributed by CoinDes.

What's going on, guys? It is Friday, May 28th, and today I have a really fun one for you. Last night, I was joined by Arc founder, Kathy Wood, for one of the closing keynotes at Consent. is 2021. Now, I would argue that Kathy was the biggest star of the show, although I'll forgive you if you liked Tom Brady's surprise appearance with SBF. In any case, Kathy Wood needs no introduction. The last time I had her on the breakdown, I called her the world's greatest innovation investor, and I think she's earned that title, certainly when it comes to public markets at the very least. Her ARC ETFs have brought innovation to the mainstream of Wall Street investing. Her early, persistent conviction around Bitcoin, Tesla, and other technology and innovation assets

stands apart from the clinical short-termism that afflicts so much of traditional finance. In this conversation, we connect the dots between what's been happening in the macro environment and what's been happening in Bitcoin and Crypto. I ask her about Elon and what the heck happened that he did his about face on Bitcoin. We even discuss what the role of Bitcoin is in a world that Kathy believes will be characterized not by inflation, but by deflation. I hope you enjoy this special edition of the breakdown, recorded at Consensus 2021 with Kathy Wood.

All right, welcome back, and I am so excited for this conversation. Kathy, it is wonderful to be here with you again. I'm very happy to be here, Nathaniel. It's been lots of action over the last three months, so let's talk. I mean, it's wild. Since we talked, so much has changed.

in such a short amount of time. Let's just start, I guess, with the question that I think everyone is trying to sort through right now, which is, are we still in a bull market? Have we shifted into a bear market? Is there some weird dead cap-bounds thing going on? Where are we in this market cycle? And is the cycle, as we normally think about it, even the right heuristic to use anymore? So we're talking about crypto here, right?

Yeah, crypto specifically, yeah. But, I mean, turns out it might involve not crypto as well. and he answered that question. Actually, well, we just saw a 50% drop. So this idea of a super cycle that that would never happen again. Well, that's out the window. And I do think it was precipitated by the ESG movement. And this notion, which was exacerbated by Elon Musk,

that there are some real environmental problems here with Bitcoin, with the mining of Bitcoin. And so I think that a lot of institutional buying went on pause, shall I say. And I think there were a lot of expectations that there would be follow through by institutions. We wrote a paper last, it was September or October, saying that we did believe this new asset class was finally getting the respect that it needs from institutions. There have been some leaders out there certainly by fidelity and mass. mutual and then on the balance sheet you've seen Square and Tesla and micro strategy of course.

And all of these we thought were teeing up the institutional world for some real participation in this space. We think some of that has gone on pause, but we think half of the solution is understanding the problem. And I think that this auditing that minors, certainly in North America, are willing to to do around how much of their electricity usage is generated by renewables is going to bring that topic into Stark Relief and will encourage, we believe, an acceleration in the adoption of renewables beyond which otherwise would have taken the place. I don't know if you have

seen the paper that Arc and Square collaborated on around this notion. that when you're dealing with intermittent energy sources like solar or wind, you know, it would be very nice and remunerative for the ecosystems out there to include Bitcoin mining. So when you filled up the storage, it can spill over into mining and probably will enable then an overbuilding of a solar because there is now more of a profit, motive associated with it. I'll just say one more thing on that. I was surprised to see this already in motion, a company called Talon Energy last Friday, merchant power producer, announced that it's raising 800, or would like to raise 800 million in the equity market,

300 million of which would go to just this ecosystem, including Bitcoin mining, into its ecosystem so that it could encourage the proliferation of solar and wind, wind, faster than otherwise would be the case. So again, half of the solution is understanding the problem. Well, I think maybe this gets a follow-up question, which is how much you think the key inflection point here is going from the idea that Bitcoin can incentivize green energy, that it's sort of the sort of vaguely stated narrative arguments that we have in places like Twitter to actually having to, having miners have to put their money where their mouth is. I mean, is this just actually ESG risk now being priced in where the cost of switching to

these energy sources is going to be dramatically less than whatever sort of fights we have to have either from a regulatory perspective or just from a pure perception perspective? Okay. If I understand the question correctly, you're asking me, is this just, you know, ESG driven, or is this going to be a real change in behavior? It's not going to be. Yeah, like, was this sort of almost always coming in terms of the, you know, we fought the narrative battle around Bitcoin energy for a number of cycles. And now it's kind of, you're actually seeing companies make these shifts in a much bigger way and try to create the incentives to make. it makes sense. I think so. I think the market's demanding it. And to be honest, we had been watching how much of the electricity was already being produced by renewables. A lot more, as we learned, in China, somewhere between 40 and 60 percent, I think, is the percentage, partly because miners would

shift to different areas, hydropower and other maybe wind power when it seemed productive to do so. So we thought the argument was somewhat overblown, especially when you think about it, any progress is going to use more energy, right? Are we saying Bitcoin is progress, but it can't use more energy and it happens to be already more renewable, especially in some of the biggest countries for mining, than I think most people appreciated. So the utility value here of Bitcoin and other cryptos is such that it is progress. We think it's, you know, the first global monetary system in the world, rules-based. There's huge utility. to that. Now, maybe we in the developed world do not appreciate this as much as those in the

developing world where there are more corrupt regimes and where they lose their purchasing power regularly, and they can lose their wealth regularly as well from confiscation. Huge utility of value here. And so real progress in terms of helping those who are living in those very difficult areas. So how much, how much do we pay for this? Well, if you, if you listen to the UN and look at the sustainable development goals, you know, helping individuals maintain their wealth and their purchasing power is, is a huge advance, you know, for, it'll be for three, it could be for three, four billion people in the planet who would not have this opportunity. So, we're talking about energy usage in isolation. What is the utility? What is the progress here we're

talking about? It could be enormous. And I think the market will come around to understanding that. I think this gets at a fundamental point that I've heard others. I think Joe Wisenthal from Bloomberg make that the energy conversation has too often come down to the simple binary of whether you think Bitcoin's energy usage, whether you think Bitcoin is valuable. And everything else is totally incidental to that. And so to some extent what you're saying is we need to also, even as we're exploring the sort of new green energy approaches, get back to or have the conversation about why it is valuable as a thing to spend energy on. Absolutely, without a doubt. Now, as I said before, I mean, we did write the paper with Square in collaboration with Square

about how to introduce mining into a renewables ecosystem. I think that's a very productive discussion. And actually, as I said before, will proliferate renewables much faster than otherwise would be the case. So I want to shift over to China. You kind of bridged into that topic. But I would be remiss if I didn't ask, were you surprised when Tesla shifted course quickly? And what do you think?

do you think that Elon and Tesla are going to be a positive force for this moving forward? Again, I have both the equity in mind and Bitcoin in mind. So can you clarify the question? Sure. So Tesla shifted course. They said that we're not actually going to accept Bitcoin for the purchase of vehicles anymore. That kind of triggered the first leg down of what has now become a multi-leg down. And so it might not have been them at all, but it was certainly blamed as such. And so the question is, were you surprised at that particular move? And then two, over the medium term, the long term, do you think Tesla and Elon more specifically are going to be a force for kind of positive change in this space? Well, first, I think what happened was that Elon probably got a few calls from institutions. I noticed that BlackRock is their number three shareholder. And Larry Fink is the CEO, is focused on. ESG and especially on climate change. So I'm sure Black Rock registered some complaints and perhaps another,

there are some European very large holders and Europe's extremely sensitive to this, more so than the U.S. in many ways. And so he probably wanted to reassess the situation saying, wait a minute, what have I, what have I gotten into here? Do I not understand the environmental impact? And so now I I think that he has encouraged a lot more conversation, a lot more analytical thinking. And I do believe he's going to become a part of the process. I think he'll be very happy to introduce Bitcoin mining into a Tesla ecosystem, maybe working with merchant power producers or what have you. And I think, I think, you know, he started Tesla because he wants to save humanity from ourselves,

from environmental disaster. I think he'd like to be a part of proliferating solar and other renewables faster than otherwise would be the case, not just for selfish reasons, having to do with his solar roofs and the power walls and so forth, but again, for the same reason he started Tesla. And you know, one thing that this has done for us at Arc,

we have never invested in solar. And the reason we've never invested, is we need to believe that within a five-year time frame without subsidies, an industry is going to be able to hit escape velocity and be profitable. We have not really been able to say that in a big way about solar. This dynamic might change that. So I'm actually quite excited about it. Looking for the best way to unlock your crypto's liquidity? Nexo.io is exactly what you need.

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Let's go over to China. I mean, so this is, you know, of the kind of fear, uncertainty and doubt that has been blamed for, the recent market downturn around Bitcoin and crypto. Obviously, the ESG and environmental concerns, exemplified by Tesla, were one part. But then the other part has been moves from China, it seems, to crack down on Bitcoin mining, on trading. We don't really know yet exactly what those moves are. We just know that the source that they're coming from. We're now at the vice premier level for some of these concerns.

What do you make of what's going on in China? Do you guys have a position yet on what's happening? or are you kind of still in that wait-and-see position as well? Well, the early read on it was the way the message came through was not from on high, Xi Jinping, but through some other organizations to the central bank. And it seemed as though at the time that message was not going to bear as much weight as many people expected.

I think China's always thinking about capital controls and making sure that it has control over that situation. And I think it is also thinking about its own digital currency and the digital currency electronic payment protocol, which is separate and distinct from the currency. it is what China wants to proliferate throughout Asia and potentially the world, if it could, you know, make a very easy payment platform so that trading from one currency to the other is a snap and not costly at all. So I think they'll have some luck in Asia and maybe Latin America, maybe not elsewhere. So I think they have a grand plan to encourage the digital yuan and encourage this DCEP, the digital currency electronic payments protocol so that it can proliferate throughout the region. And, you know, it's always got a big surveillance in mind. I think, again, that often comes back to capital controls. So I don't know. I am not a big believer longer term that capital controls are going to be possible longer term for China. In other words, they'll have to crack down harder and harder. But they seem to be opening up in other ways. So I think they've got, they've thrown us off. I do remember, though, in 2017, when they shut down their exchanges, Bitcoin went through a downturn.

and then we were on our way to one of the biggest bull markets that the Bitcoin had ever seen. So I think it's two steps forward, one step back often with China. And I don't think any of us know what's really going on there. Yeah, I mean, I think that's one of the only really reasonable positions to take on it. And I think it's fascinating to see how many people are having a conversation now about whether this is actually a good stress test, to how much control can a government exert over Bitcoin and the network will hash power just flow to new places? Might those places actually have a less carbon-dense footprint than China even would,

which is just a fascinating shift to see? And we saw with the exchanges, those moved over to Japan and Korea. And I think Thailand, if I'm not mistaken. And I think the same will happen with mining. I do. Again, because of what Bitcoin is, the progress that it represents. Absolutely. So let's talk, I guess, a little bit about some other aspects of the crypto industry. Obviously, you've been in Bitcoin for a long time. You've had evolving opinions on that and kind of a long duration opinion on that. But you spent more time around defy and Ethereum. I remember even when we talked last, you were starting to spend

more time there. It looks like you've been allocating to gray scales Ethereum fund. What is interesting to you about Ethereum and Defy right now? Well, we're so interested that we've hired an ether miner. I mean, he's going to be part of our FinTech analyst team. But we're intrigued by stable coins, defy, of course, NFTs. And we're also very very. We're also very, very, very interested that developers are migrating very, very quickly. I always say to our analysts, follow the developers, let's see what they're doing, because that's a very loud signal. And it has become inexorable here. So we're excited about everything being built on top of the Ethereum network and the progress towards the new protocol. So, you know, I felt that

And so did Yassine El Madra, our crypto lead analyst and Brett Winton, our director of research. We felt, look, we need to learn more about this. We might have seen like Bitcoin maximalists at the time. But again, follow the developers. I think we're talking about very different use cases, Bitcoin versus Ether. How do you guys, if there's a simple, dumb, heuristic of those different use cases, Or do you guys broadly have kind of a distinction in how you talk about and discuss them in terms of how you see them playing out? Well, I do believe that Bitcoin is the first global monetary system and controlled by no one.

And I believe it is a store of value first and foremost. And that we'll see how the second layer solutions progress from here. You know, it's a settlement network, to be sure. It has a lot more value than just store a value. But that is a very important use case, as well as protecting individuals and businesses against loss of purchasing power and confiscation of wealth. Ethereum is, you know, from a decentralized finance, a defy point of view, I've been really impressed at how it's proliferated. and also impressed at how it survived the tests it's been through, especially the leveraging up. I mean, the coronavirus crisis was a good case in point. You know, it survived all of that. And, you know, I'm not operating within the DFI space myself,

but I'm talking to venture capitalists and others who do. And again, in this go-around, they've been very impressed at how robust, all of the defy services are operating throughout this volatility. That's also very important, these test cases. So I guess I want to shift over to the markets. I was triggered by the follow the developers thought. I want to talk about maybe tech more broadly outside of crypto too. But one last crypto-specific question is, you know,

so Ray Dalio announced a position earlier this week at the Consensus Conference, or he announced that he had some Bitcoin. He was very nondescript about it, but it's a big shift, right? It's a big shift for someone who's been a skeptic. His major concern continues to be this idea that if it gets too successful, governments will ban it, that it's its own worst enemy in some ways. What's your take on that fear, that concern? Are these private currencies doomed to inevitable fight from state-level actors if they become too big, too successful? Well, I guess, I'd answer that the same way I'd have answered a question at the time about the internet, which was in the 90s, because this sort of conversation was floating around. There was a lot of

suspicion. And I think the right answer there, and I think most countries know this, is that they did not want to prevent that kind of innovation from taking root. They didn't want to miss the next big thing. And the U.S. didn't. And led that charge. I think many other countries have gotten wise. And they're all trying to say, let's have a better regulatory footprint here so that we attract more innovation. And I think that is going to happen with, or already is happening with cryptocurrencies. The U.S. has been, you know, very confusing from a regulatory point of view.

There's no throat to choke. So I think a lot of people say, whoa, look what happened with Libra. Now, Diem. Well, there's no, there was a throat to choke there. It was Facebook. In this case, there is no throat to choke. And if leaders understand, regulators, understand, look, the internet was conceived without commerce in mind, without defy in mind. And this is just satisfying a big missing piece out there in the internet that should have evolved way back then. I think they will be. a little more friendly over time. I think everyone's trying. I know India is not being, has not been friendly, but even India, it banned it and then it allowed it and then it bans it. So there's a little bit of a schizophrenic, do we want to miss the next big thing? Is this going to cut us,

cut us out from the rest of the world and progress in some way that we don't understand yet? So I'd answer it that way. I think it's, I think it's already. on its way and it'll be impossible to shut it down, I believe. Well, and this gets at something else that I know that you think about a lot, which is how innovation proliferates and almost creates a different dynamic geopolitically between different governments that actually have to think about innovation, the attraction of talent, the retention of talent as a vector, right? And you brought up the example of India.

There have been a number of projects that are from India, from Indian developers, from Indian entrepreneurs that are now getting bigger in the context of DFI. in particular, but crypto in general, which creates a whole other dimension to their conversation around it. You know, when we talked before, it was right after the election, I believe, and we were trying to figure out, or I was asking you what you thought about the new administration coming in. And it's still early, but are there any, are there any particularly negative or concerning signs around not just crypto, but innovation specifically? Is there anything that you've seen that's more encouraging maybe than you would have hoped for? Where does the administration stand in terms

of supporting innovation so far? Well, I mean, I'm very happy that Gary Gensler is at the SEC and that Valerie, who's the director of research on crypto specifically, even before he got there, was promoted and it now is reporting to the head of the SEC, in this case, Gary Gansler. So I think open-mindedness there, that's very good. In terms of the killer, Capital Gaines. tax rates could become problematic, but we're hearing that the House of Representatives and the Senate

are just so close in terms of Democrats versus Republicans. And we've got midterm elections next year that already the gridlock is starting. And I'm seeing more and more about enforcement. But if they want to do something else that they think is going to be more effective, more power to them. I'd prefer something, if the conversation's going to change, I'd say, I'd prefer it to go there than raising the capital gains tax rate the way they were suggesting. It could have gone to 43.4%. I think the odds of that has gone down. I think part of the bare market that high volatility, high multiple stocks have been through in the last three months is related to that. And I think we're seeing some relief now. So,

So I'm a little more optimistic. And it's mostly because there's gridlock. And that's usually a good thing when it comes to government and policies that harm innovation. Yeah, that's kind of where I wanted to go just as we start to round out is the larger macro context. I mean, one thing that a lot more folks in Bitcoin and crypto are talking about is to what extent the larger macro cycle that we're in is going to influence crypto. And I guess, you know, you started to answer this a little bit. There's some jitters and fears about a pretty big shift in terms of where we are in that cycle. But, you know, what's your take on where the macro environment is now?

What are markets thinking about? Is it all about that gridlock? Is it just about whether we're going to have a taper on interest rates? Is there a larger kind of conversation shift happening? Yes. I think the shift is inflation. And we had been expecting this base effect and supply chain issue or set. of issues for quite some time. And I think we are, we are not worried about inflation as time goes on here.

We are thinking the much higher probability is deflation. I know most people think that's crazy, given what's going on. But we have seen a crack in some commodity prices already, lumber, an important one. What we think, what we think has happened here is consumers have spent the last year spending their money on the only things they could. And those are goods, durables and non-durable goods, right? And businesses were behind the curve even before the coronavirus because they were because of an inverted yield curve. They were afraid of a recession. That's what all the economists were saying. And there was also the U.S. China trade conflict and all the saber-rout around that. So they were fearful and positioned conservatively. They shut down at the beginning of the

coronavirus. The consumer took off buying goods. And now being vaccinated, they are going to shift their market basket from goods to services. Goods are only one-third of market basket. Services are two-thirds. So I think what's going to happen here is businesses, which may be double and triple and quadruple ordering right now to try and get supplies. They're going to get those supplies as the market basket is shifting towards services. And I think commodity prices are going to have a significant fall into next year. I don't know how soon this is going to start. And then on top of that, there are two sources of deflation that I think investors are underestimating. They're underestimating the one I just told you about, but the other one is the good deflation coming from innovation.

So we're seeing, just to give you a provocative statistic, artificial intelligence training costs are dropping at 68% per year, a rate of 68% a year. Now, artificial intelligence is going to be permeating every industry and every company, we believe, around the world. company of any size. And so this deflationary force is going to develop more momentum. And we have deflation associated with each of the five major platforms, DNA sequencing, robotics, energy storage, artificial intelligence, and blockchain technology, major deflationary forces, cutting out middlemen in the case of blockchain technology and therefore cutting costs. And then there's a third source of deflation. So you've got the cyclical commodity. You've got the innovation deflation related deflation. And you have what we call bad deflation. Many companies post the Tech and Telecom

bust and the 0909 meltdown became short-term focused and shareholders even more so. And so the shareholders said, we want our profits and we want them now. And so what did that mean? leveraging up to buy back their shares to increase earnings per share and to pay dividends. And so what did they not do? They did not spend enough on innovation. And their products are going to end services will end up being obsolete. And they'll have to service all that debt by cutting prices to move goods. So those three sources of deflation, I think, are going to be much more significant than I think the consensus view now anticipates. And in fact, quite the opposite. I think most headlines are around inflation. Interestingly, since the end of the first quarter,

bond yields have gone down while commodity prices, until very recently, were shooting up. In 2006, the last time I experienced that, we bet on bond yields being right. And others were betting with oil and everything on commodities being right. The bond market was right. You know what we went through in 0809. I actually think we're setting up for big surprises on inflation to the low side. And growth also, I think any company on the right side of change, those five platforms, is going to enjoy exponential growth opportunities,

the likes of which we have not seen before, except for, Maybe Amazon over the last 20, 25 years has been the poster child. But then on the other side of that is the disintermediation and the disruption that we're going to see in the traditional world order. And that's going to cause a lot of confusion. That's what I think we're seeing here. I think the bond market is picking up on this. And as I mentioned before, I think commodity prices will follow. Super interesting, provocative thoughts to leave on.

Kathy, it's always a pleasure to speak with you. I guess if I can ask you, it's maybe too much, but in just a second or two, does Bitcoin still have a place in the world of deflation that you articulate, given how much of its narrative has been inflation? Well, and it's an excellent question. Many people are saying, well, if you don't believe inflation is a problem, then, well, I don't believe it's a problem in the developed world embracing, embracing innovation like this, the more mature world. I think, though, in emerging markets, you know, if commodity prices come down, a lot of them are linked to commodity prices, their currencies will come under pressure. And I think what will happen as their currencies come under pressure, the velocity of their money will increase

as more and more of their populations shift into Bitcoin and other crypto currencies and assets. And so I think the big, and this is always true, when you're talking about currencies, inflation, deflation, it hits different regions of the world differently. And so I think that a lot of currencies, and I wouldn't be surprised if the euro is among them, because there are still a lot of tensions in euro, not just in the euro zone, not just north and south, but now east and west with Eastern Europe. So I think the mother of all surprises in terms of currencies could become the euro out there. So I think there will be this insurance policy that a lot of individuals and businesses will be taking out. And in fact,

I wouldn't be surprised if some of these emerging market central banks start accumulating Bitcoin and other currency. So because if they know their currencies are going down and that they will be under attack for as reserves go down, maybe they'll have a balance with Bitcoin and other crypto assets. Amazing thoughts to leave on. Kathy, like I said, I appreciate you every time we get a chance to talk. And I know everyone who's watching today feels the same way. So thank you so much.

Thank you, Nathaniel. Thank you for giving us the opportunity.