Blockchain Investment Vehicles: The Future of Global Retail Investment
The Bitcoin and blockchain technology space is taking off, foreshadowing a financial system of globally-accessible cryptocurrency and digital securities. Are blockchain technology startups the blueprint for the retail investment of the future?
The Backdrop of Private Equity Investment
It’s now an unequivocal fact of life, as Andreessen-Horowitz would say, that software has eaten the world. Along with this process, a voluminous mass of private tech companies has invaded the private markets. Tech startups are a curious animal. They fund themselves through venture capital, they IPO much later, they stay private much longer, and they tend to grow very, very large prior to going public.
Public investors in 1996 could have easily bought some Yahoo! stock and participated in its growth from a kind of new, weird startup into a multi-billion dollar company. Yahoo!’s IPO proceeds were $33.8 million. Today, however, public investors routinely see IPO proceeds in the billions or tens of billions — Twitter, Facebook, Alibaba, to name a few, and you can be sure there are more on the way in IPO candidates like Uber, Airbnb, and others. To a large extent, these companies will have completed their growth stages before they hit the public markets.
In this kind of environment, traditional institutional investors find themselves with less opportunities to invest in growth. We now see hedge funds, stuffy investment banks like Goldman Sachs, and even mutual funds meddling in startup funding rounds as if they themselves were venture capitalists. This is out of thirst and necessity for growth equity opportunities.
Compared to public investments, the private equity arena is behind the times and full of frictions. Neither financial institutions nor individuals traditionally have any kind of “easy” or systematic access to private investments like one does when they trade stocks. No trading platform for such investment vehicles exists in the mainstream, and while investors do have access to “electronic” secondary market offerings in such schemes as MicroVentures or SharesPost, the investment opportunities there are painfully limited. You don’t yet find a Bitcoin startup in the MicroVentrues portfolio, for example. And everything is done manually in the background.
Secondly, intelligence on private company financials is unavailable, incorrect, or simply nonexistent. Go ahead and try to find a measure of revenue for your favorite startup on CrunchBase. Compare this experience with the familiar slew of “Buy” or “Hold” ratings, financial analyses, and projections on traditional public companies like IBM and Microsoft and Apple. And when it comes to having companies self-report, well, we know how that goes. How can investors make informed decisions about their prospective private investments?
Finally, up until this year private offerings have been tightly controlled by the SEC, both in the ways that companies can advertise them and who they can offer them to. Unless you have a million bucks or consistently make over $200K a year, you are not considered an experienced, “accredited” investor, and you are not likely to qualify for participation.
Thus, for individuals investing in private companies, it has been a long-standing, three-pronged problem of access, information, and efficiency.
The JOBS Act equity crowdfunding provisions are posed to change some of these circumstances in 2015. Part of the legislation, Title IV, has already been implemented in June. Historically, the JOBS Act will allow private companiesto raise capital from retail investors within certain limits. Platforms likeCrowdfunder and Onevest are standing by, ready to offer marketplaces between individuals and startups as soon as the new regulations take effect.
In the sense of traditional startup equity, at least, this seems to solve the access problem. It’s the backdrop of a slowly changing landscape that is heading toward a democratic, open, and accessible world of global enterprise investment.
But what does all of this have to do with Bitcoin and blockchain technologies?
As it turns out, one can postulate that blockchain technologies are self-contained disruptors of private company investment, and the nature of the underlying technology itself has implications for both sides of the fundraising and investing equation. In fact, today they already address all of the problems and frictions of traditional private offerings. Is the blockchain going to bring about the accessible, systematic, and transparent private equity market we’ve been waiting for?
The Blockchain as a New Investment Vehicle
In many ways, Bitcoin itself is a really crappy investment vehicle. It is highly speculative. It is highly volatile. There are numerous looming technical issues which can bring about the protocol’s ultimate demise, adding to its risk factors. The IRS tax implications for trading or even using Bitcoin and other cryptocurrencies reads like a horror novel. Finally, a complete financial system around Bitcoin is hampered by hostile and disappointing government regulation, especially in U.S. securties law.
The popular thought process around “investment” in Bitcoin’s future is whether it will “replace the dollar” or will “win mass adoption” as global payment platform. In my opinion, this is a highly unsophisticated assessment.
Bitcoin, as John William Nelson points out, is not really a currency and not a security in the legal sense. It is not backed by a government, or a central authority, or real-world assets, or. . . anything. Instead, it is a pure, virtual representation of value, a kind of manifestation of supply and demand itself where the Bitcoin is worth exactly what someone is willing to pay you for it. (Let that sink in for a second, it may pleasantly blow your mind.)
It is because of this property that holding Bitcoin will be a good “investment” if and only if, in the long term, the world will see a demand for Bitcoin. How might this happen? Well, Bitcoin might single-handedly win mass adoption and replace the dollar. It might also become a natural entry point into other cryptocurrencies, decentralized internet services, and blockchain technologies in general, which would slowly cannibalize market share of various verticals and see a rise in demand themselves.
If you believe this narrative, then it should be clear that Bitcoin holders today are either making an irresponsible, speculative bet that “Bitcoin will win,” or making an implicit, early, and bold investment in what is quite possibly the next generation of world-changing technologies.
Decentralized DNS. SmartContracts. Streamlined financial services.Micropayments. Digital IP ownership. Decentralized marketplaces. Non-profit prediction markets. Autonomous organizations. All of these areas and more are being explored with a decentralized, blockchain-based thesis. As of July 2015, there are at least 522 known cryptocurrencies, tens of reliable cryptocurrency exchanges, and a growing suite of services specifically facilitating financial operations in cryptocurrencies. Today, anyone can exchange, borrow, lend, swap, short, or save Bitcoins; they can even safely subject them to a quantitative trading strategy, and that’s not only pretty darn cool — it’s a prerequisite to a digital financial system built on digital currency.
There is a grand entrepreneurial experiment underway to see whether the blockchain, the principal academic contribution made to the world by the Bitcoin protocol, can streamline and innovate and decentralize a number of important areas dealing with digital assets, finance, and payments. This experiment can no longer be dismissed by traditional investors as a harebrained pipe-dream of blurry-eyed cryptoanarchists. After all, it is backed by Andreessen-Horowitz. And it is seeing accelerating venture capital backing which is on pace to reach a $1 billion level by the end of 2015.
At the head of every “Bitcoin 2.0” venture is a startup or non-profit organization, and at the core of its blockchain is a cryptocurrency. The cryptocurrency is required to incentivize a distributed network of computers to process transactions for that blockchain, and so the currency has a market and some kind of value. What is interesting about these blockchains is that they power a product or service, and are often not just a ledger for a unit of account like Bitcoin. For example, the NXT cryptocurrency allows you to issue cryptosecurities on the NXT platform, and the demand for the use of this services drives demand for NXT. Moreover, this also drives demand for Bitcoin, which you can exchange more readily for NXT than dollars.
And so you have a natural, if rough, dichotomy of cryptocurrencies. First, those “standalone” cryptocurrencies that in themselves are just units of account and vie for — let’s be honest — unlikely mass adoption; and the “service-backing” cryptocurrencies such as NXT, whose price is driven by the demand for and, more abstractly, the success of their parent organization.
In this way, it becomes clear that service-backing cryptocurrencies (and related tokens, cryptosecurities, and other assets) can be viewed as investment vehicles giving exposure to the blockchain technology space. Suddenly, and in an unprecedented way, individuals can on a global scale make investments into instruments that track an interest in a private company, and those investments are highly systematic. They are digital and auditable, they provide cryptographically-enforced ownership boundaries, and they trade on global markets that are open 24 hours a day.
Moreover, legitimate blockchain companies — who tend to philosophically operate in a high-technology setting serving a Libertarian mindset — have an interest in being transparent. Their software is typically open source and hosted publicly on Github. Their development teams maintain open forum dialogue with the product’s community. Even in those cases where transparency is unavailable, the public nature of the service-backing blockchain gives an objective and unequivocal measure of demand. Compared with the currently available visibility mechanisms like self-reporting or customer base modeling — that’s huge!
For private investors today, constructing a portfolio of Bitcoin, cryptocurrencies, and other cryptosecurities represents an opportunity to directly invest in a nascent, potentially world-changing space of private companies — and to do so in a way that is readily accessible, systematic, and with positive transparency.
The Blockchain as a New Fundraising Platform
On the opposite side of the private investment equation, the nature of the blockchain has implications as well; in recent years, startups in the blockchain space have realized an unprecedented model of high-tech fundraising. A development team will conduct a “crowdsale” of the cryptocurrency that will power their product, but before the cryptocurrency, its blockchain, and the distributed network that processes it is actually in production.
Crowdsales are not only useful for funding development of highly technical projects; they also serve as an early litmus test for public demand. When the platform launches, the early holders of the currency enable liquidity in its public trading, while developers typically hold “pre-mined” coins just as traditional startup founders hold company stock. This makes the crowdsale activity, in spirit and practice, an IPO. The difference, of course, is that buy-in is available to anyone in the world who holds bitcoins.
The following chart demonstrates some cryptocurrency IPOs (or “ICO”s) that have occurred in recent history. (So far, Ethereum holds the record for greatest revenue, which at the time of IPO was about $18 million in Bitcoin.)
Just as with any real IPO, fundings are risky and some company may achieve success while others fade into obscurity as sorry flops; crowdsales are nascent and so far have had a difficult history. Nevertheless, a new technical methodology of fundraising combined with existing platforms and more permissive regulation schemes such as the JOBS Act may very well power the personal investment landscape of the future.
Notice: This article is intended to be an informal investigation of the current environment surrounding Bitcoin and related technologies; it is by no means investment advice. Investing in any emerging space, and in particular cryptocurrencies, is a highly risky investment proposition. Readers are encouraged to do their own research and understand those risks before committing any capital to such investments. This article was originally featured on https://blog.coinfund.io
