Framing the Cryptoasset Investment Opportunity
It’s always hard to explain blockchain (or broader distributed ledger technology, “DLT”) in one to two minutes, because blockchain is in many ways similar to a 400-level class that is built on a set of pre-requisite 101 classes — cryptography, game theory, psychology, politics, mathematics, economics, software engineering, and a host of many more disciplines.
At a high level, without going into the technicals, blockchain technology combines all these fields mentioned above to create an open, permisionless and distributed ledger that anyone in the world can access and audit from anywhere. The four main benefits of distributed ledger technology include i) judgment/censorship resistance, ii) decentralization/broad points of failure, ii) immutability, and iv) perhaps most important, trustlessness. The most game-changing aspect of DLT is that it allows for the automated programming of incentives; and if you can program incentives, you can start programming human behavior — and ultimately remove the need for a trusted third party (“TTP”). The Total Addressable Market (“TAM”) for this is huge. Blockchain’s TAM includes all the disruptable markets dominated by TTPs, from insurance to gambling / prediction markets, to virtual real estate — with market sizes discounted for blockchain-based cost-savings, but grossed up for new markets created that would have otherwise been too impractical to set up without blockchain technology. We think that could be at least a third of global GDP ($80 trillion), plus a non-trivial amount of Global Wealth ($300 trillion).
The opportunity here is ultimately more than just store of value (“SoV”) or medium of exchange (“MoE”), but when thinking about the broader space, it helps to first explore Bitcoin (the granddaddy SoV / MoE asset) before starting to dabble in the edgier use cases of blockchain.
If humans were to get together today and design a financial system from scratch, tabula rasa, it would look very different from what we have today. The manual, paper and pen systems that we have today are largely still vestiges of a bygone era that have been forced into today’s digitally interconnected world by legacy incumbents. Take Bitcoin for instance as its use case as “digital gold”. Compared to gold, it is faster to send, cheaper to send, inherently deflationary, easier to store, easier to divide and is a true non-correlated hedge (volatility that is decoupled from equities, bonds, and other “fiat” investments). And unlike gold or the US dollar, it works on weekends, 24/7/365. It is judgment and censorship resistant — subject to no capital controls, bank restrictions, or asset freezes. It is trustless in that a TTP is not necessary to handle your assets, and in the sense that you do not have to trust a government to preserve value on your behalf (e.g. The Fed pumping trillions of dollars in the last recession to devalue the dollar, India decommissioning certain bills arbitrarily wiping out value, Venezuela/Zimbabwe’s hyperinflation). We wrote a more in-depth research and valuation on this here (https://medium.com/hgr-digital-asset-group/bitcoins-march-towards-200k-442de3d05d46), but if you buy the premise that BTC is better than gold, perhaps the TAM in an ultimate bull case is global wealth — which assuming a modest growth rate at current levels of $300 trillion, becomes $400 trillion in 10 years. Imprecisely, if BTC takes just 2% of this TAM, it would have an $8 trillion cap, vs. the $150 billion it is now. If you have something that can potentially 50x, you must have 98% conviction that it’s not going to happen for you to not put money in.
Once you get comfortable with Bitcoin, you can start to explore how the same properties underlying the Bitcoin blockchain can be leveraged to broker cheap trust — creating models that disrupt today’s TTPs — financial service firms, social media companies, and other “value-added” intermediaries. If we were to operate as students of history and look back at the biggest tech booms and their respective winners, there is always a pattern where each boom is heralded by an open source development that commoditizes the previous cycle’s differentiators. For instance, the mass production of transistors paved the way for the first modern computers and the “IBM mainframe era” — then microprocessors commoditized what IBM did, punting value to the software layer which the likes of MSFT dominated. Then you had the development of the internet + Linux deconstructing MSFT’s differentiated moat of proprietary software on proprietary machines, commoditizing that software layer and punting value to the data layer, where you now have the FANG (FCBK, AMZN, NFLX, GOOGL) crowd acting as rent-seeking state aggregators sitting on mountains of proprietary data. A good chunk of crypto’s TAM will be the commoditization of that proprietary data into platform-agnostic use cases.
Oftentimes, people look at investing in crypto as this binary concept — do I invest given the asymmetric upside, or do I not invest because it’s a scam that could go to zero? This is a false dilemma. The reconciler is simply a matter of sizing. From a portfolio theory perspective, you have an asset that is non-correlated (volatile yes, but volatility that is unrelated to other investments) and therefore a true method of diversification that boosts the overall portfolio’s Sharpe Ratio, and with plenty of upside that is premised on secular and defensible trends. One must ask themselves, is it worth putting a dollar into the space? The answer is undoubtedly “yes.” How about two dollars, three, four — and you go from there. We believe every well-balanced portfolio includes a crypto allocation — and the only question is one of sizing.
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