Pantera Capital
Sep 12, 2018 · 11 min read

Paul Brodsky, Pantera Partner

September 1, 2018

Writing a concurring opinion in a 1964 landmark obscenity case, U.S. Supreme Court Justice Potter Stewart set an elegant logical and rhetorical standard that would be used subsequently in countless analogues seeking to clarify what is and isn’t obvious. Stewart’s “I know it when I see it” litmus test has since challenged one to recognize his or her understanding of reality as it exists

So let’s ask a tough question:

Why should we recognize cryptocurrencies as money or currencies when they are created from nothing and no one stands behind them?

The answer: We shouldn’t…unless a particular cryptocurrency has, or might some day be, accepted by a critical mass of users. A currency’s — ANY currency’s — specific backing or provisions and how it comes into being do not matter. Only users can define a currency’s utility and value to them.

Hysterical theorizing from both sides of the debate over the legitimacy of crypto is based mostly on what we know now. Arguments range from crypto is potentially a better store-of-value and more efficient payment rail on one side (for), to its too much of a threat to governments and central banks that issue fiat currencies and that its too volatile to be a legitimate currency on the other side (against).

Both arguments are incomplete, based on an unknowable future that assumes static technology and the ability of the current monetary architecture to satisfy future financial and commercial needs efficiently. Ironically, the burden lies with institutions now supporting fiat currency viability.

Since 1971, all currencies have not been pegged to an anchor, like gold, which provides a basis for stored wealth. This should open one’s mind to all possibilities in a flexibly-exchanged rate global monetary system in which all currencies have value only against each other.

Math v. Trust

Most investors seem to agree that the ongoing viability of any asset including currencies comes down to intrinsic value, which Wikipedia defines as “the value of a company, stock, currency or product determined through fundamental analysis without reference to its market value”.²

To define the intrinsic value of a cryptocurrency, like Bitcoin, it makes sense to first try to define the intrinsic value of generally-accepted fiat currencies, like the dollar, the euro and the bolivar. “The bolivar! That’s not fair!” you may think…which is precisely the point: currencies have no mathematical framework for finding discrete intrinsic values.

The U.S. dollar is ultimately backed by (in order of immediate importance): 1) a relatively strong (popular) government; 2) a compliant tax-paying population; 3) a respected and influential central bank; 4) insurance on assets denominated in dollars; 5) control over global shipping lanes, and; 6) a powerful military that could, if necessary, enforce shipping lane (i.e., trade and reserve currency) compliance. All in all, its a pretty powerful set of conditions that elicits widespread trust for dollar holders/users.

The euro is ultimately backed by, well, almost none of what backs the dollar. The only arrow in its quiver that elicits faith today is its relatively recent popular adoption. Not quite twenty years ago the euro began to scale at the insistence of Eurozone governments. It survived its launch because the BIS and global central banks (including the ECB) supported it and because euro-denominated governments began demanding taxes in it. The euro seems viable and established now because central banks have stabilized its exchange rate volatility against other fiat currencies and have synched euro-denominated overnight funding rates at a consistent spread to other fiat funding rates.

The Venezuelan bolivar is a failed currency, supported by the Venezuelan government but not its people. The Venezuelan government has sought to overcome this by launching a permissioned cryptocurrency, the petro, pegged to oil and gold. The petro has so far shown little promise of popular adoption because, not surprisingly, it is sponsored and controlled by a government no one trusts.

Whether a currency is state-sponsored or not, trust is the key feature — maybe the only feature — that ultimately determines it’s intrinsic value and ongoing viability. In fact, we could argue that the intrinsic value of any physical, paper or digital asset is really best measured by the amount of generally perceived faith in it relative to other assets competing for utility and wealth storage.

Faith may seem too squishy a framework for math majors, but the reality is that the foundation of wealth today is as dynamic (and entropic) as our collective ability to maintain the perception of faith in the status quo. What does “full faith and credit of the United States of America” mean when its government collects about $3 trillion in tax revenues annually, owes more than $20 trillion with an average six year maturity, and supports an annual private dollar-denominated real economy of about $17 trillion on which over $100 trillion is owed or pledged? Such is the math behind the dollar.

Today, ultimate faith in fiat means trusting governments and central banks in ever increasing magnitude to keep all the plates spinning — consistent global output growth, rising asset prices, low inflation, rising employment, supportive tax revenues, balanced trade treaties, etc. This is a tall order for centrally-influenced economies, and history is not in favor of their consistent success. In this light, the status quo of the global economy seems more fragile than is immediately obvious.

One will unlikely to be able to tell whether global currencies are in jeopardy by the performance of assets denominated in them. Argentine, Turkish, Indonesian, Brazilian and Indian currencies are plumbing multi-year lows vis-à-vis the dollar presently. (The 21st, 17th, 16th, 8th and 7th largest currencies, respectively.) Meanwhile, their equity markets are +9.49%, -19.60%, -5.3%, +0.4% and +13.5% respectively in 2018. Clearly, financial assets can replace currencies when it comes to storing wealth, and in so doing, can become currencies themselves.

Is it wise for investors to expect major shifts in the valuations of financial assets or currencies? Yes. There are times (usually the exception rather than the rule) when bottom-up analysis gets in the way of life-changing profits. Looking for consistent earnings from AMZN or TSLA is an example. The more we know as market operators, the less we recognize all the bad things that could block the path to change. Outsized gains have always come from widening one’s analysis to include the incentives of investors/users, which don’t only emphasize value but also adoption. Adoption — not discounted cash flows — is what drives paradigm shifts.

So, the success or failure of one or more cryptocurrencies will not ultimately be determined by renegade early adopters theorizing a better form of money or by institutional gatekeepers looking to protect their authority, but — ironically — by the operational success or failure of those same institutional third-party trust agents that have become critical to ongoing fiat viability. Crypto is already being adopted broadly in countries like Venezuela where faith in the currency board has been lost. Digital assets stand ready in developed economies too, lying in wait to take market share from established fiat if/when the spinning plates begin to wobble.

Asset Volatility

The hype in digital assets today has been obvious and trust in them has been generally low. Cases of fraud, abuse, theft and unsophistication are well known. Such mistrust is further confirmed to skeptics by the broad market’s extraordinarily high level of price volatility. This volatility naturally frightens current fiat wealth-holders used to relatively stable currency exchange rates and asset prices.

Fair enough, but for those experienced with quantifying asset volatility, the second derivative of asset volatility — convexity — is the key to understanding the current value proposition in digital assets today. (Convexity is the change in price given a change in the underlying, in this case the change in the exchange rate of crypto/fiat given a change in conditions supporting fiat.) Well chosen protocols will prove to be positively convex on an order of magnitude rarely, if ever, seen before. While the market values of most recent tokenized projects may revert to zero if they are never broadly adopted (-1x), certain digital assets could provide 50x, 100x, or even 500x gains — a magnitude we have already experienced in certain tokens (and blockchain private equity), even following the recent crypto crash.

The way to think about the crypto market is not collectively or in binary terms. All cryptos will not survive or fail together. Just as AMZN, FB and GOOG became establishment equity holdings, certain digital assets — cryptocurrencies and utility tokens — will too, but at much higher valuations than today’s.

It is important to recognize that at this point the entire space is venture investing, a field in which the great majority of financial asset investors is inexperienced. Blockchain private equity is not marked-to-market everyday while tokens have real-time price feeds. The latter produces all the headlines. Huge volatility in the token market will fade over time, one way or the other, as it did for dot-com era winners and losers. When it does, much of the opportunity set for investors will have passed.

Investors with the ability to invest in early-stage disruption should embrace digital asset volatility (i.e., convexity) at today’s valuations. It is a strong portfolio diversifier across multiple dimensions and may save a portfolio from highly negative beta returns one day.


The primary question savers and investors should ask themselves today is whether there is a greater-than-zero percent chance that a few cryptocurrencies and scores of utility tokens will gain global market share across their use cases. If the answer is “yes” or “maybe”, then standard Kelly criterion risk analysis³ suggests adding a little exposure to the space. Doing so would present the potential for inversely correlated, highly asymmetric and very lucrative returns.

Crypto nuts can’t be as sure as they think they are that the tokens they are betting on will be the winners, and fiat fat cats can’t be as sure as they think they are that the current global monetary system will be the first purely faith-based regime to survive longer than sixty years (or that incumbent commercial businesses with valuations approaching a trillion dollars will generate a satisfactory ROI).

Cryptocurrencies are structured to transfer value peer-to-peer without the need for third party trust agents. They provide a potentially popular alternative to centralized fiat currencies that never existed before. Perceived output growth, global inflation, employment, etc., now relying on the public sector’s ongoing efficacy to influence them, have become first-order determinants of the value of saved fiat wealth for everyone, everywhere, regardless of their economic domicile or individual financial status.

As it stands, most investors are trusting governments and central banks to maintain the value of 100 percent of their portfolios (and wealth). Trust may be binary (humans either do or don’t trust something), but portfolio management need not be. As always, diversification remains a prudent course.

The crypto market’s broad adoption is an easily understood tail event. If one is convinced that the days of recessions are behind us…that fiat-denominated debt will be easily serviced and repaid in perpetuity…and that all the world’s peoples and all the world’s currencies will be perpetually stable, then one need not seek even a small position in digital assets. Such is the implicit bet one makes by being 100 percent exposed to fiat currencies and assets denominated in them. (Snarky, but true.)

Cryptographically-encoded currencies transferred on blockchains in distributed networks without the need for central trust agents have now been invented and are becoming operational. There is nothing anyone or any authority can do or say to un-invent them or hide them from potential users. They will be adopted — even by today’s skeptics — if/when fiat currencies disappoint their holders/users. (Or, in the case of commercial use-cases, if/when the public becomes tired of paying high explicit and implicit fees to incumbent rentiers producing little benefit.)

Digital assets may not yet be ready for prime time, which is to say they are not ready to replace the existing financial architecture as it is. But over the next few years some of them will capture significant market share in their use cases. Supporting technology (processing power), a navigable regulatory roadmap, and safekeeping solutions for investors are around the corner. Along with that will be the potential for crypto and blockchain winners to scale to their equilibrium levels.

Such is reality as it exists. My takeaway from Potter Stewart’s I know it when I see it insight is that the biggest of all obscenities is self-delusion — denying we know what we see. Forward-looking investors should consider taking a suitable stake in digital assets, if only as a hedge to retain fiat-denominated saved wealth.

¹ Jacobellis v. Ohio; 1964,;

² https:/

³ https:/

This letter is an informational document and does not constitute an investment recommendation, investment advice, an offer to sell or a solicitation to purchase any assets or any entity organized, controlled, or managed by Pantera Capital Management LLC (“Pantera”) or any of its affiliates and therefore may not be relied upon in connection with any offer or sale of securities or other assets. Any offer or solicitation may only be made pursuant to a confidential private offering memorandum (or similar document) which will only be provided to qualified offerees and should be reviewed carefully by any such offerees prior to investing.

The views expressed in this letter are the subjective views of Pantera personnel, based on information which is believed to be reliable and has been obtained from sources believed to be reliable, but no representation or warranty is made, expressed or implied, with respect to the fairness, correctness, accuracy, reasonableness or completeness of the information and opinions. The information contained in this letter is current as of the date indicated at the front of the letter. Pantera does not undertake to update the information contained herein.

This document is not intended to provide, and should not be relied on for, accounting, legal or tax advice, or investment recommendations. Pantera and its principals have made investments in some of the instruments discussed in this communication and may in the future make additional investments, including taking both long and short positions, in connection with such instruments without further notice.

Certain information contained in this letter constitutes “forward-looking statements,” which can be identified by the use of forward-looking terminology such as “may”, “will”, “should”, “expect”, “anticipate”, “target”, “project”, “estimate”, “intend”, “continue”, “believe”, or the negatives thereof or other variations thereon or comparable terminology. Due to various risks and uncertainties, actual events or results or the actual policies, procedures and processes of Pantera and the performance of the Fund may differ materially from those reflected or contemplated in such forward-looking statements, and no undue reliance should be placed on these forward-looking statements, nor should the inclusion of these statements be regarded as Pantera’s representation that the Fund will achieve any strategy, objectives or other plans. Past performance is not necessarily indicative of or a guarantee of future results.

It is strongly suggested that investors obtain independent advice in relation to any investment, financial, legal, tax, accounting or regulatory issues discussed herein. Analyses and opinions contained herein may be based on assumptions that, if altered, can change the analyses or opinions expressed. Nothing contained herein shall constitute any representation or warranty as to future performance of any financial instrument, credit, currency rate or other market or economic measure.

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The investment firm focused exclusively on blockchain tech & cryptocurrency. Subscribe to receive our newsletter:

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