Exponential Growth Leads To Unsustainable Returns, Right?
In the 1991 Berkshire Hathaway shareholder letter, Warren Buffett wrote:
“There are many more ways to make $1 million than to make $370 million.”
Imagine being such a consistently great investor that you had to temper the expectations of your shareholders each year by saying that “it won’t be this good forever”.
This was exactly the message that Buffett had to share year after year. As Berkshire Hathaway continued to grow, the number of opportunities that could materially increase the company’s performance constantly diminished.
In the early days when Buffett operated with $20 million in capital, producing a 5% return meant buying a business that could generate a $1 million return.
In 1991 however, the burgeoning size of Berkshire Hathaway required a $370 million idea to keep pace with the same 5% return.
To achieve these returns, it meant that Buffett would have to put massive amounts of capital to work in concentrated ways. In a world where Buffett had already seemingly picked the best investment opportunities, he would be forced to seek out new profitable businesses (properly priced of course) and make BIG bets.
For the growing fund, diversification was the ultimate threat to achieve their investment goals.
The same laws of investment physics apply for investors in the web3 space.
When you hear speculators talking about a token or project that will 2x, 5x, 10x ask yourself what that would mean for the broader market and how sustainable that prospect might be. This is true for tokens in the top 10 as well as your favorite meme tokens.
Let’s look at two examples:
BITCOIN:
At $30,000, the total value of Bitcoin is roughly $580 million. Doubling that price to $60,000 would mean that Bitcoin’s entire market value would be close to the TOTAL value of the entire crypto ecosystem today; ~$1.2 trillion.
PEPE:
At $650 million value, the acclaimed meme coin $PEPE would rise to be a top 40 token valued at over $1.3 billion; close to $NEAR and $VECHAIN.
When investors make that kind of comparison, it helps them realize what would have to be true from a macroeconomic perspective in order for those tokens to double in value. Things start to get a bit absurd when we examine projects that jumped 5x, 10x or 100x from relative points of equilibrium.
The insight here is to be cognizant of how much a business must generate annually to continue producing similar (or better) returns. If the math seems improbable, it’s better to look elsewhere. This is a universal truth, whether or not the project is running on a blockchain.
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- Blog Post: Learn How to Invest In Web3
- Blog Post: Block3 Book Club: Web3 Edition
