Updated: Aug 1
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Over the past year or so, crypto-assets have garnered fresh attention as their total market cap hit US$2T. The asset class has also seen more corporates and institutions piling in to offer trading and investment solutions.
While some of us at The Snowball have already dipped our toes into crypto a couple of years ago, it was largely a highly speculative endeavour. However, as the asset class matured, we noticed how crypto-assets evolved from being mostly utility tokens to protocols and tokens with sound economic incentives and value capture mechanisms. Therefore, we have spent the past few months falling through the crypto rabbit hole to discover if we could find is value amidst the speculative hype.
Our research has culminated in this series of four posts that would detail The Snowball’s thinking and overall thesis on the crypto-asset space and why we are increasingly dedicating time and capital to the asset class.
Part I - We will first start with how the current macro backdrop accelerated the adoption of bitcoin as an emerging asset. With increasing retail, corporate and institutional interest in bitcoin, we believe that bitcoin and other crypto-assets are here to stay.
Part II - With investors comfortable with a non-zero allocation to bitcoin, we believe that allocators will warm up to the underlying blockchain technology and look further out the crypto risk curve in search for higher risk-adjusted bets across different use cases aside from macro hedges.
Part III - Next, we highlight the importance of being able to discern the wheat from the chaff by identifying the salient investment merits of various crypto-assets and their respective value accrual mechanisms.
Part IV - We will conclude by examining the historical risk-return metrics of various crypto assets and elaborate on our risk management process when allocating to crypto assets.
In short, we believe that crypto-assets and their underlying technology have unlocked innovations in various verticals and this presents a unique investment opportunity that could yield significantly higher risk-adjusted returns compared to traditional investments.
Recent macro conditions have been supportive for asset prices, which has helped accelerate bitcoin's adoption cycle
Besides retail interest, strong support has also come from corporates and institutions, reducing the career risk of allocating to bitcoin
As more infrastructure and investment solutions are being built, the probability of wider adoption of bitcoin should increase
However, widespread bitcoin adoption should not be crypto's end game. A non-zero allocation to bitcoin might lead to investors looking further out the crypto risk curve for the next risk-adjusted bet
The investment case for bitcoin
Since our last article, bitcoin rose ~160% to hit an all-time high of close to US$65,000 and is currently trading at US$36,000 levels after the recent deleveraging event. In my view, the asset’s recent performance has strengthened its narrative of being a digital version of gold with an implied call option of becoming a widely accepted payment network. If you wish to learn more about our thinking about bitcoin, I suggest reading the previous article.
In this article, I shall attempt to explain how the recent macro landscape accelerated bitcoin’s adoption cycle. I will also touch on the broader implications of rising global interest in bitcoin.
COVID-19 & ZIRP
COVID-19 triggered a mass liquidation event across global markets in Mar ’20, which was swiftly met with aggressive actions taken by global central banks to stabilise markets and tamper volatility. For instance, the Fed has committed to keeping interest rates low at least through 2023 and kickstarted a massive asset purchasing program to inject liquidity into the economy.
This was largely taken positively by risk assets, as shown by the S&P500 mounting a V-shaped recovery and making new all-time highs in a matter of months.
As investors contended with loose monetary policy, fears of rampant inflation soon arose as commodity prices saw record growth and recent CPI figures beat expectations. Furthermore, the 10-year breakeven rates reached levels not seen since post-GFC.
However, it is worth noting that Fed balance sheet expansion and increased money supply over the past two decades have not resulted in significant CPI inflation. The median 12-month change for any given month since 2000 stands at 2.1%.
Meanwhile, the velocity of money has also collapsed over the decade.
To me, this makes it unclear if runaway inflation will manifest meaningfully in consumer prices.
Asset price inflation is already here
With the economy awash with liquidity but without a commensurate increase in CPI inflation, it begs the question of where the effect of increased money supply and low-interest rates are the most pronounced.
The S&P500 is currently trading at all-time high levels with an elevated Shiller-PE ratio of ~37x.
Meanwhile, fund manager Travis Kling also pointed out the rise in demand for alternative assets like fine wines, rare whiskeys and Ferraris, as well as the boom in PE/VC investments as a sign of “The Everything Bubble”.
Therefore, it seems that years of easy monetary policy have played a role in perpetuating asset price inflation. This makes sense if there is high investor demand for assets that could potentially protect one’s purchasing power. In addition, low bond yields and stretched equity market valuations would push capital further out the risk curve in search for returns.
Monetary debasement & bitcoin
Another theory supporting asset price inflation brought forth by macro investor Raoul Pal is that the global central bank balance sheet expansion could cause the overall value of fiat money to decrease, which in turn causes the prices of relatively fixed supply assets to go up to offset the monetary debasement.
He further posits that the rate of monetary debasement could act as an investment hurdle rate, which he estimates to be 13-15% p.a. He also illustrates that the performance of major assets like equities, real estate and even gold has largely failed to beat the hurdle since the GFC.
Interestingly, he found that the only major asset to significantly outperform the rate of central bank balance sheet expansion was bitcoin. You can find out more about his thesis in this video here - it presents a refreshingly variant view on the drivers of crypto-asset performance.
bitcoin – digital gold going through an adoption cycle
bitcoin is the world's first major crypto-asset and has a strong brand and mind share due to its "first mover advantage". It also possesses certain characteristics that make it conceptually similar to hard assets like gold, such as its fixed supply of 21m bitcoins and a disinflationary emission schedule. And if the price of rare whiskeys and Ferraris could serve as a guide, the current macro environment is greatly supportive of the demand for relatively scarce assets.
However, I believe scarcity is not the only reason for increased adoption and interest in bitcoin. After all, the value of a network like Bitcoin should be proportional to the number of users of the network, as detailed by Metcalfe’s Law. Interestingly, all stakeholders of the Bitcoin network are economically incentivised to help to increase the adoption of the network. These include developers, miners, users, investors, exchanges, and other infrastructure solutions that support the network. This creates a strong network effect for the continued adoption of Bitcoin.
Corporate and institutional support for bitcoin
Many renowned investors have made their bitcoin position public as a macro hedge against fiat debasement, reducing the career risk of allocating to bitcoin in my view.
Paul Tudor Jones - “At the end of the day, the best profit-maximizing strategy is to own the fastest horse...If I am forced to forecast, my bet is it will be Bitcoin.”
Stanley Druckenmiller - “Frankly, if the gold bet works, the bitcoin bet will probably work better because it’s thinner, more illiquid and has a lot more beta to it.”
Ray Dalio - “Personally, I’d rather have bitcoin than a bond.”
Furthermore, several corporations have adopted bitcoin as part of their corporate treasury strategies.
MicroStrategy - “MicroStrategy has recognized Bitcoin as a legitimate investment asset that can be superior to cash and accordingly has made Bitcoin the principal holding in its treasury reserve strategy.”
Meitu - “The Board believes cryptocurrencies have ample room for appreciation in value and by allocating part of its treasury in cryptocurrencies can also serve as a diversification to holding cash (which is subject to depreciation pressure due to aggressive increases in money supply by central banks globally) in treasury management,”
Nexon - “Our purchase of bitcoin reflects a disciplined strategy for protecting shareholder value and for maintaining the purchasing power of our cash assets,”
Moreover, the financial infrastructure surrounding crypto-asset investments are also improving. Traditional banks like Goldman Sachs, Morgan Stanley and JP Morgan are also warming up to the idea of offering crypto-asset investments, further smoothening the process for investors to obtain crypto-asset exposure. Meanwhile, Coinbase has launched a fresh prime brokerage service for institutional investors.
bitcoin and the crypto rabbit hole
bitcoin has multiple narratives - digital gold, a payment network, a solution to monetary debasement, the antithesis to central banks, speculative fervour. Investor Mark Cuban describes this situation aptly - "All the narratives about debasement, fiat, etc are just sales pitches. The biggest sales pitch is scarcity vs demand."
So call it whatever, but as entities continue to adopt and build crypto on/off-ramps such as digital wallets and exchanges, as well as asset management solutions like ETFs and custody services, the probability of bitcoin being more widely adopted should increase.
That said, I do not believe that widespread bitcoin adoption is crypto's end game. Once investors commit to a non-zero allocation to bitcoin, I believe that they will start to become comfortable with its underlying blockchain technology and warm up to the broader asset class. By extension, investors might look further out the crypto risk curve in search for crypto assets living on other blockchains for the next risk-adjusted bet.
Image Source: Frimufilms
In a sense, bitcoin could act as a gateway drug for investors to kickstart their journey down the rabbit hole to discover other crypto assets that create value for different use cases besides payments and a store of wealth. This is a topic that I aim to explore in Part II of The Snowball's Crypto Thesis.
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Disclaimer: This article is not an investment (buy/hold/sell or otherwise) recommendation, this is only for educational and discussion purposes. This article is not tailored to the specific circumstances of any reader. I/we/The Snowball do/does not purport to be in the business of providing financial advice and the contents of the article should not be regarded as such.
Cover photo source: Graham Holtshausen
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