For Bitcoin, there isn't a whole lot you can
do with it.
You can send the money around, and you can
hold it as a store value.
But it doesn't really do much in finance,
itself.
And so I think when you see products like
Ethereum come out that enable you use these
things called smart contracts where you can
send money to a computer program and remove
the lawyers in the middle.
And I think that's where we actually started
to see this huge flourishing of people starting
to build new projects.
I just think they're assets.
They're opportunities to invest.
I don't think the typical investor needs to
worry whether they are securities or not securities.
If there's not a market for what you want
to trade on, you can actually create a market
for that.
Which I think is actually the most powerful
piece.
Because up until this point, that's not really
been feasible.
Our fund has returned 140x, so it is possible.
And that's why I think investors should put
a few percent of their portfolio in crypto.
Could go to 0 maybe, but it's a very asymmetric
risk reward.
[MUSIC PLAYING]
Mike Green for Real Vision.
I'm excited to sit down with two of my favorite
people in the Bitcoin space.
Joey Krug and Dan Morehead of Pantera Capital.
Joey is a brilliant young investor focused
on the Bitcoin space.
Is going to tell some exciting news about
that.
And Dan brings an incredible experience with
Bitcoin and the general cryptocurrency environment.
I'm really interested to hear how things are
developing for the two of them.
Mike Green.
I'm here in San Francisco.
And I get to spend time again with Joey Krug
and Dan Morehead, two guys who are as deep
in the crypto space as just about anybody
on the planet.
And I wanted to catch up and see what you
guys are thinking about these days.
Dan, you're from Pantera Capital.
It's one of the first to launch a crypto oriented
fund.
In particular, you were focused on the store
value dynamic, speculating-- not to use the
word in a pejorative sense, but speculating
on the appreciation in crypto coins [INAUDIBLE]
you launched in 2013.
So obviously, spectacularly successful.
It's been an extraordinary investment.
And your returns have far out paced what has
been seen from the individual coins.
A lot has changed in the world since we last
talked last fall in terms of prices appreciating
sharply and then having corrected.
What do you think happens next?
Where are you in the crypto-- the store value
dynamic?
I think that's an important question.
Back in the day, there was Bitcoin.
No other currencies.
Not really any equities you can invest in.
Now there's 1,500 projects you could invest
in plus maybe 500 different equities that
you could buy.
And so, I think it's sensible to approach
for a investment is not just buy one thing.
Because that's not the way you would trade
stocks.
You'd buy a basket of things.
And I think people should avoid the temptation
to worry about, is it Bitcoin that's going
to win?
Or is it Ethereum that's going to win?
Or is Bitcoin cash?
Or Ripple?
And get a sensible portfolio of assets, whether
it's cryptocurrencies, pre-auction ICOs, or
venture investments.
So when you answer in that way, you're thinking
of these as securities, at this point.
It is a collection of assets, some of which
have coin or currency like characteristics.
Some of which are purely equities.
Some of which maybe dividend paying entities
in terms of capturing usage fees, et cetera.
But you think we're at that point now where
it becomes a securities market, as compared
to a--
Well, securities is a very loaded word.
It has very legal definition in certain countries.
I would say that most of the ICOs that we've
invested in are valuable only because they're
utility.
And they're very far from the definition of
a security.
I just think of them--they're assets.
They're opportunities to invest.
I don't think the typical investor needs to
worry whether they are securities or not securities.
And so, at this point though, the idea of,
is Bitcoin going to $1 million or is Bitcoin
going to $0-- it sounds like your answer to
that is, I don't think it matters.
All right.
That's one component of 1,500 different possible
permutations that you could explore.
You see it as a series of option-like bets
within a broader portfolio.
Yeah.
I think that's the right way to look at it.
And in my 30 years of investing, this is by
far the most asymmetric trade I've ever seen.
Obviously, you could lose substantially all,
maybe even 1x your money.
But you could make 50x or 100x on many of
these trades.
And it sounds ludicrous in normal securities
market to say those things, but our fund has
returned 140x.
So it is possible.
And that's why I think investors should put
a few percent of their portfolio in crypto.
Could go to $0 maybe, but it's a very asymmetric
risk reward.
So I've spoken with others about this idea
that crypto is thought of as an asset class
that people associate with gold, et cetera.
Or people have labeled it a dot com type dynamic.
It feels to me-- and some are out there saying,
this is only 1994 and the internet analogy,
et cetera.
It almost feels to me like this is so much
earlier.
I was speaking with somebody else about the
idea that this is maybe 1982 where people
are still gluing stuff together in their garage
in a lot of ways.
And this is an incredible amount of experimentation.
Where would you draw the analogy if you're
thinking about it?
I'm glad you said that.
Because very few people go before 1992 when
they do their internet analog.
And if you think about it, ARPANET was around
from the 70s and only 1% of the world used
it in 1992.
They created a browser, made it easy for the
rest of us.
And then exploded into use, right?
And I think that's the way Bitcoin is right
now.
There's a couple percent of the world that
use it.
So it is potentially the 80s internet rather
than the, is it '95 versus '99 argument.
And again, there, I had a fascinating debate
on CNN with an academic who is a very rare
breed of an animal-- a super negative academic
on Bitcoin-- and had written a paper, R.I.P,
Bitcoin.
It's Time to Move On.
It's failed.
It's Pets.com.
And the story there is the article was written
when it was at $400.
And now it's at $9,000.
So you're really missing this massive asymmetry
in the leverage.
And then again, to call it Pets.com is really
forgetting who was the majority investor in
Pets.com It was a guy who saw a very disruptive
technology, wanted to invest in a lot of different
ways to use this disruptive technology.
One was selling pet food on the internet.
Didn't work.
The other one was selling books on the internet.
It worked.
And so, that's they way people should view
Bitcoin, Ethereum, XRP.
Not all of them are probably going to work.
But if you have a portfolio of them and it's
as disruptive as we believe, the portfolio
would do quite well.
Well, I think we can actually name that individual.
Jeff Bezos.
And not the founder of Barnes & Noble.
So I agree with that, that people need to
think about it from a portfolio perspective.
There is this interesting question about,
we've been doing it-- and the analogy, in
terms of time horizon, also helps to address
what people are pushing back on.
One of the rallying cries for those who are
super bearish crypto assets is, we're 10 years
in, and there's not a use case yet.
All right.
Well, as somebody who grew up in Silicon Valley,
there was no use case for the time that I
spent banging away on a Trash80.
It was a total waste of my time as my father
was very happy to remind me.
But it ultimately grew into something that
was totally unrelated.
And RadioShack is now bankrupt under Tandy
Corp, as it was back then.
But it's something that we use every single
day.
And again, crypto seems difficult to look
at and think that it's not going to be a feature
of the universe, whether it's Bitcoin or Bitcoin
Cash or smart contracts in the form of Ethereum.
These all seem like things that are absolutely
destined to happen.
Yet part of that is the misunderstanding of
how the protocol and the application are going
to derive value in the post internet world.
So in the current internet, it's the protocols
that have no value and it's applications that
suck money out of their customers somehow
on top of the get all the value.
So everyone is saying, hey, there's no killer
app of Bitcoin.
They miss the point that Bitcoin is the killer
app of Bitcoin.
There's hundreds of thousands of transactions
happening every day moving billions of dollars
around the world using it as the application
layer.
You don't need to pay somebody else to-- you
don't need some rent seeking company on top
of that.
So there will be really cool things built
on top of all these block chains, but the
protocols themselves are very valuable.
Well that's an area where I have a slightly
different take.
Right?
Which is that the use case of Bitcoin-- I
agree with you, is Bitcoin.
It happened to arrive at a time period in
which criminal enterprises in Russia and China
needed mechanisms for getting money abroad
very easily.
So I am very skeptical of that dynamic.
But I agree with you that there are absolutely
use cases in the form of, it is used for money
laundering, for example.
And that's certainly not the only thing that
it's used for.
But it's a primary use.
But it opens up so much else, right?
And I know you disagree with me.
And feel free to push back.
Instinctual response is, oh, it's so great
for crimes.
And hey, maybe years ago it was pretty anonymous,
and it was OK for crimes.
But it's prominent feature is every 10 minutes
a ledger of every trade that's ever happened
is published with a permanent paper trail
of every step in that 10 minute process.
That's a really bad feature for committing
crimes.
All of your transactions are there.
And it's very well known that the Silk Road
guy used Bitcoin, right?
Very few people know that there were two federal
agents that went rogue and were extorting
money from the Silk Road guy independent of
each other in the same task force.
Stealing money from other people on the internet,
doing all kinds of bad things.
They wired $1 million through five major banks
in the US and one mutual fund company, none
of whom filed a Suspicious Activity Report.
When you have a federal worker paying his
mortgage off in one paycheck, writing $30,000
checks to cash, that's suspicious, right?
And it was two peer to peer companies, Venmo
and Bitstamp they reported both of these people
to the authorities.
And I'm actually on the board of Bitstamp.
And they were telling me this, there's a federal
agent laundering money on their site.
And I'm like, you guys have watched way too
many Tom Cruise movies.
There's no chance that's actually happening.
And I looked at this stuff.
And I was like, oh, crap.
We gotta report this.
So we reported it to another federal agent.
That guy resigned that day.
And we're like, oh, no.
That's a problem.
So both of those people were rogue.
And the deal is when the prosecutor, Katie
Hunt, dropped the whole list of all their
crimes from that blockchain on their desk,
they had to sign guilty pleas.
There's no way to even remotely even go to
trial, because you have a list of all the
crimes.
So I think law enforcement already knows that
Bitcoin's terrible for crimes.
So again, I am not disputing any of that.
And the interesting dynamic is I would articulate
what I've seen on the Bitcoin front from China,
in particular, is that it is a misuse of subsidized
electricity in China and the process of mining
to create that.
But that's not my focus, actually.
It's an interesting dynamic on Bitcoin itself,
which has captured people's attention.
Because the price has risen so spectacularly,
fallen, and now the debate is, what happens
next, right?
That is totally separate from the crypto universe.
And one of the first people that I talked
to that I thought was so fascinating-- this
was actually Joey.
And it was really interesting listening to
somebody who was much younger than either
of us who has had an immediate impact in this
space.
And so, that's the other area that you've
been very focused on is making the investments
in either the picks and shovels or the individuals
that have a tremendous amount of capability
and talent within this type of developing
industry.
Joey, you started Augur out of your dorm room,
right?
I left college, dropped out, and then re-started
it.
And now I--
And last time we talked, I told you how proud
your grandmother must have been of you for
what you've managed to accomplish in this.
But from that point, not only have you been
continuing to work on Auger, but you also
have been managing, with Dan, a fund that
thinks about crypto from a value standpoint,
effectively.
Or from an investment standpoint.
Which is one of the complaints that a lot
of people have.
How do you value these things?
How do you think about that?
What have you been doing?
Yeah.
The way I think about it is, we have on the
funds side-- on the trading side-- we really
have two main strategies.
One is for investing into new cryptocurrencies.
And there, I think, the way we approach valuing
them is, do they actually need to be a new
currency or new token?
Do they need to have a separate token?
Do the economics make sense?
Does it actually benefit from using this tech?
And then after passing those filters, which
is specific to this investment, then we look
at all the regular stuff you look at with
any investment, like product, team, market,
things like that.
On the other fund, which is more quantitative,
the stuff we're looking at there are more
little individual things that you can basically
use to form a quant model.
So things like sentiment data.
What's the sentiment around these currencies?
Things like, how many transactions are flowing
through a given chain at any point in time?
Transaction flows across the block chains,
themselves, as well as other more obscure
things.
So Mike, on that point, I would say, I was
just in New York.
And I was meeting with some [INAUDIBLE] friends
that are on the equity side.
And they're all like, hey, we don't touch
cryptocurrencies, because there's no cash
flows to discount.
We've no idea how to value it.
And I think there's the one time I would go
with a cryptocurrency analog.
Is it's like the fiat currency market where
there are no cash flows to dollar yen.
You have to figure out what factors drive
it, like current account and interest rates
or whatever.
And use that to say, hey, this currency is
cheap.
That one is rich.
It's the same with cryptocurrencies.
Transactions per second, how many fees are
being paid.
All those types of data will give you a sense
of which ones are cheap and which ones are
rich.
So that's interesting, because I actually
think about Fiat currencies as equities.
They're effectively the equity of the country,
right?
Or the debt of a truly sovereign entity, of
which there are very few, can really be thought
of as the debt of the country.
So are they taking the money and spending
it appropriately?
Investing in human capital and improving the
underlying conditions under which business
can be done or profits can be generated.
This is really similar.
You're thinking about it in the same way.
You're saying, what's the infrastructure?
And who are the participants?
And what's the respect for property rights?
And does it create something new and compelling?
Does it mean something?
Northern Japan and Southern Japan, would those
be two viable countries?
No.
There's Japan.
Right?
And so you're approaching it from a very quantitative
and securities analysis type framework.
Right?
Yeah.
I think the way we think about it is, we've
drawn from both stuff that you can analyze--
any assets looked at.
Ways to analyze commodities, securities, currencies.
And then there's some stuff, as well, that's
specific to this asset class.
The thing I think about quantitative analysis
is a lot of the same sorts of things work
across multiple asset classes.
I think there is no reason to believe, and
empirically we've seen, that they seem to
work on crypto as well.
So that would play to the idea that these
are similar to equities, at least in terms
of how you should be thinking about them.
And obviously, quantitative tools and techniques
work across assets.
But there is this underlying dynamic of being
able to evaluate.
Yeah.
I think the one big difference is, as Dan
said, most equities you can attach a cash
flow to them.
And so when you look at an equity, there's
all this stuff that you get from the balance
sheet.
And here, there's not really any balance sheet.
So it does make them more challenging to value
than in any given equity, in my opinion.
That also makes it a lot more fun and challenging,
as well, I think.
Well, I love that used the word fun, right?
Because that's part of the search for alpha
is effectively what should be happening.
A lot of guys I know are not having fun in
the regular securities market.
That's because there's 10 million people all
staring at the same things.
And they're getting tiny and their tiny little
crumbs that they're picking up.
And I was just talking at a quantitative hedge
fund conference.
And I was thinking back, when I started trading
CMOs in the 80s, people were managing the
book once a week to market on a yellow pad
with a pencil.
So huge opportunities.
But now there's so many people applying so
much capital to the normal securities markets,
the opportunities are tiny.
We're trying to apply state of the art techniques
to a very primordial market.
The cryptocurrency markets have enormous amounts
of alpha opportunity.
So you mentioned this idea that it's challenging
and more fun.
But there aren't traditional balance sheets.
I would challenge that a little bit.
Because the balance sheet is just a measure
of-- particularly the structure of a balance
sheet-- it's just a measure of the staying
power, right?
And so it's-- obviously compared-- it's a
stock versus flow dynamic as you think about
the income statement of the cash flows.
But you're effectively saying, how committed
are they to this?
What's the tenor of the optionality that I
have?
You have something very similar within the
crypto space which is, how much cash do they
have?
And how committed are the developers to this
project?
It seems like you're thinking in very similar
terms.
So that, I would half agree, half disagree
there.
So there's some stuff where that's definitely
true, especially on the ICO side where we're
investing in these projects very early on.
On the flip side, though, there's a lot of
assets that the quant fund trades where there
is no actual formal company behind it providing
developers for it.
But they're just much more organic community
driven projects.
And so for those ones, there literally is
no real balance sheet backing it.
But there are things you can look at.
You can look at how many developers are contributing
to it.
How much is getting merged into the code base?
How many improvements are happening?
Stuff like that.
So you have data.
It's just sometimes different, right?
If you're looking at a public company, for
the most part, it's unheard of to look at
that their GitHub when valuing the equity,
right?
But here, it's actually fairly relevant.
So again, the analogy goes back to the 1980s.
I don't think you'd been conceived at that
point, but there were a series of things called
BBSs, right?
Which I'm sure you're familiar with the term,
BBS.
But it's, Bulletin Board and were the early
chat boards, et cetera.
There's a group called The Well that ultimately
provided much of the underpinnings of what
became CompuServe.
So a real company grew primordially out of
this community type dynamic that you're talking
about.
And again, this feels very similar.
Feels like we've been here before.
It just sounds like people are awfully impatient.
There was lots of opportunities to create
value.
There was lots of technology investing going
on in the 1980s.
It didn't just suddenly spring forth with
the internet in the 1990s, even though the
same underlying companies and the servers
and the network technology and the memory
chips, et cetera, were all linked.
It feels like what you're doing.
Does that feel fair to you?
Yeah, I think it does.
Everybody wants to compare it to the internet.
And so sticking with that for a moment, I
think, if you think about the internet, there
were a couple of decades of R&D that happened
before it.
It was mostly relatively quiet.
Some academics knew about it.
But not that many people did.
I think if you draw the comparison here, Bitcoin
came out in 2009.
I think that's that R&D period.
And the reason is, you think of the ARPANET.
It was relatively just relegated to institutions.
No actual public member people had access
to it.
And for Bitcoin, there isn't a whole lot you
can do with it.
You can send the money around.
And you can hold it as a store of value.
Now I think those are both huge markets and
very powerful.
But it doesn't really let you do much in finance
itself.
And so, I think when you see products like
Ethereum come out that enable you to use these
things called smart contracts, where you can
send money to a computer program and remove
the lawyers in the middle, then I think that's
where we actually started to see this huge
flourishing of people starting to build new
projects.
And so I think that's-- maybe it's late 80s,
early 90s scenario, where you actually see
people building stuff on top of it.
So people talk about these dynamics of smart
contracts and the idea of removing lawyers.
Which, I'm sure, lots of people would like
to-- just as a personal aside, I have a letter
between General William Tecumseh Sherman and
his brother John Sherman, who was the Secretary
of the Treasury in the 1870s.
And the entire letter is William Sherman bitching
about lawyers to John Sherman.
So the idea of getting rid of lawyers predates
us all.
The struggle I have with a lot of these smart
contracts is that lawyers play a very valid
role in most of the transactions that they're
involved with.
So per discussions about, how do I know what
to even put into a smart contract?
Which will play into a discussion of Augur,
as we move forward.
Lawyers play an incredibly important role
there.
It's not just filling out traditional forms,
et cetera.
What strikes me as most interesting about
the potential for smart contracts is introducing
legal contracts in areas where we've dispensed
with them because of the cost.
I was talking with John Burbank earlier about
magazine subscriptions.
You used to receive-- again, you're too young
to remember this-- but you used to receive
a mailer.
And you'd fill it out.
And that was a legal contract that said, I
will pay $17 a year for 12 issues of Newsweek
magazine.
And we dispensed with that, because the cost
of actually enforcing somebody's viewing Newsweek
magazine when it moved digital was just too
high.
But the potential for smart contracts to reintroduce
that type of exchange so that I can get rid
of the much hated universal advertising type
vehicle.
That's really how you guys are thinking about
things like smart contracts.
It's not getting rid of lawyers on an M&A
for a $50 billion transaction.
Yeah.
I agree.
I think you're not going to get rid of lawyers,
in general.
They're still going to be around and still
be very relevant.
In fact--
Do you have any technology that can do that?
(LAUGHING) That would be the dream, right?
But I think and they're even going to be relevant
towards helping write better smart contracts,
as well.
I think if you fast forward the future of
the legal profession in 10, 20 years in the
future, we'll see a lot more lawyers who have
CS degrees.
I think it's going to be very relevant to
this stuff.
I think the main benefit of the smart contracts,
though, are once you have a solid contract
written and it's open source, there's no need
to involve a lawyer after that point for that
given contract.
And they also make it really easy to do things
in a very generalizable way.
So you can create a system that allows them
to create things like new financial markets
in a very systematic way where you don't need
a lawyer to customize every single aspect
of it.
So let's jump in that direction, because I
had mentioned earlier you had founded Augur.
And you told me before this interview that
that's about to go live.
Yeah.
That's right.
July 9.
So this was one of the very first, if not
the first, ICO.
Is that correct?
The first one on Ethereum
The very first one on Ethereum.
And you go live in July.
And so what is that going to mean?
What will that practically mean?
Yeah.
So what that practically means is right now
Augur is running on a test network version
of Ethereum with fake ether and fake money.
And in July, it'll be on the main network
version with real money, essentially.
When you say it's going to be running with
real money, cryptocurrency, first of all--
so I will need to buy some of Ethereum in
order to transact on Augur.
And what can I actually do on Augur?
Yeah.
So there's basically three things you do.
But I think 99% of users will do one of two.
And those two things are, one is you can trade
in a financial market on Augur.
So the way it's set up is there is actually
a built in community curated category system.
Or you can also just search for wherever you
want to trade on.
And the second piece is, if there's not a
market for what you want to trade on, you
can actually create a market for that.
Which I think is actually the most powerful
piece.
Because up until this point, that's not really
been feasible.
If I wanted to create a market on the price
of a pound of onions rolling every month,
that's just not possible today.
In the United States it's actually illegal.
In the UK, it's tons of startup costs to get
it off the ground.
So that's actually a really great example.
Not the onions, but the costs.
I'm sure the onion market will be a runaway
success.
But we're all familiar-- anybody who's watching
this has probably watched the movie The Big
Short.
And there's a classic example of this type
of dynamic.
I encounter this all the time, because I deal
with OTC swaps.
Or I deal with OTC options, Over The Counter
options, which are customized contracts.
So I approach Goldman Sachs or Goldman Sachs
approaches me with somebody who has made a
bet in the opposite direction.
The price of onions are going to be greater
than $5.
But these markets are expensive to set up.
They require Goldman Sachs trained PhDs.
They would require the Goldman Sachs pound
of flesh.
And they tend to be very liquid.
And the observation is often somewhat difficult
requiring tons of legal interventions and
language that run several pages.
But this is effectively what the character
that was the individual played by Christian
Bale was doing in that scene in the movie
where he says, you know, I'd like to create
an option.
I'm going to have a bank create an option
for me on home prices.
So this takes that and-- democratizes it is
an overused expression, but it radically lowers
the cost.
How do you see this launching?
Is this going to instantly take the world
by storm and replace OTC options?
Not in the beginnings.
I think the way to think about it is, there's
actually a good reason why it shouldn't grow
fast.
But I'll address that in a second.
So the first thing is, on Ethereum, you can
only do about 10 transactions or so per second.
So in the beginning, it's primarily going
to be used for things that I think where you're
not super actively trading.
So maybe some of these swap agreements where
you do an agreement once and then, a month
later, it resolves.
Or maybe betting on a sports match or an election
or something.
But you're not going to be trading say, a
derivative on Apple in the beginning, just
because of the fact that people who trade
derivatives on Apple want to be able to trade
pretty quickly.
Over time, as Ethereum scales, that will change.
The other reason it's good that it hopefully
won't grow super fast in the beginning is
census code is all open source.
It's very likely that it actually has security
vulnerabilities in it.
So it's good that if it consistently gets
hacked, it gets done in the beginning when
there's relatively little capital in the system
so that we can work out those kinks and problems.
Even Bitcoin had a big vulnerability in 2010
where somebody created-- I think it was quadrillions
of extra Bitcoin.
And they had to roll it back.
And so I think it's important that it grows
slowly in the beginning.
Fascinating.
That's tremendous awareness of the challenges
that can be created there.
And it is one of the advantages.
Dan was referring earlier to the aspect in
solving a criminal case, right?
But that ability to rewind the world and go
back to the point at which a violation occurred
and correct it is a somewhat unique feature
of cryptocurrency.
That's what forensic accounting does.
But blockchain and other technologies associated
with it effectively, again, democratize that
or radically lower the cost of that type of
forensic accounting.
Yeah.
No.
Blockchain, in one of its many attributes,
is an immutable paper trail of every transaction
that has ever happened.
So there's a lot of cool things that you can
get out of that.
So Joey is overseeing a fund.
And how actively involved are you in the Augur
launch, at this stage?
Mostly just overseeing the future direction
and vision of the project.
I don't actively write code for it anymore.
We have a team of about 20 people who works
on it.
And so what other projects like Augur do you
think we can be looking for over the course
of the next couple of months that should begin
to change the way people start to think about
this use case dynamic?
I think Joey's best to share it.
I think another big one is for these financial
applications on Ethereum, you don't necessarily
want to use ether as the underlying currency,
because it's very volatile.
So one really important application that's
actually went live a few months ago is a project
called maker, which is a collateral backed
cryptocurrency that aims to be stable relative
to the US dollar.
Actually, it's relative to the special drawing
rights of the IMF.
But practically speaking, that's basically
the dollar.
And I think that will be really powerful,
because then every other project on Ethereum
can all of a sudden use this asset.
It's basically very stable, very low volatility
to back their underlying contracts.
Besides that, I think we'll see some stuff
that's just very practical and fun use cases.
So in the beginning of the internet, you saw
a lot of people create gambling sites.
Same thing is going to happen here.
There's a product we invested into called
FunFair, which is an online Casino on Ethereum.
There's also one called Virtue Poker, which
is de-centralized poker on Ethereum And those
are both really low hanging fruit [INAUDIBLE]
use cases where today you have a few problems.
One is, you have to trust the online poker
site not to cheat, not to deal the hand in
a malicious way.
On the online Casinos that are just straight
up gambling, you have to trust that they're
actually telling you the odds honestly.
They're not screwing you over.
In a regular Casino, they have a payout ratio,
and they get audited, and stuff like that.
Online, that doesn't really happen.
So they could say their payout ratio is whatever,
and they could be completely lying about it.
Versus, if it's all open source on the blockchain,
you can easily prove whether they're being
honest.
And the fees are also much lower.
Those aren't the most revolutionary things
in the world, but I think that's the stuff
we're going to start to see come out first.
No.
But it's actually a really interesting point.
Because we have a Nevada licensing committee,
for example, that controls and monitors [INAUDIBLE]
same thing.
New Jersey.
That is you require a large infrastructure
in order to maintain the regulatory environment
around this.
And suddenly, you're talking about evaporating
that and turning it into a piece of smart
contract for all intents and purposes.
Right?
How do you think about the regulatory apparatus
reacting to that?
There's nothing that prevents us from putting
one arm bandits on the same dynamic and wiping
out the need for very well-paying jobs in
the Nevada regulatory environment.
Well, I guess the important point is, peer
to peer gambling's always been decriminalized.
So if you're having a poker game in your living
room, the cops can't kick the door in and
arrest you.
And smart contracts allow you to do peer to
peer gaming without having a central counter
party.
And that's basically it.
I think Fun Fair, a project like this, are
a great example of how simple smart contracts
actually are.
Because all the stuff about smart contracts
and sounds very high tech, but it's basically
telling the computer, here is $10 worth of
cryptocurrency.
If the roulette wheel stops on 00, you pay
this guy.
If it doesn't stop on 00, you pay the other
guy.
And that's how simple smart contracts can
be.
So that's a wonderful articulation of it.
There is this element of, if I get cheated
by a Casino, there's two ways that I can play
this.
One is, I can seek restitution.
And the second is, I can make sure that they're
put out of business, right?
From a reputational standpoint, that's very
easy to do in the blockchain world.
Just basically raise a flag and say, these
guys are criminal operators-- or unfair operators.
And that's been proven.
And it becomes extraordinarily tough for them
to get back into business again.
How do you go about capturing restitution?
And that's where the lawyers come back in.
That's the traditional court system, et cetera.
How do you think about that development and
that dynamic?
Who turns into the policeman and the court
system in the blockchain and crypto world?
Yes.
I think one thing is it, first of all, depends
on whether you actually have an operator or
not.
Due to the fact that smart contracts are run
on a bunch of computers around the globe,
a lot of these applications don't actually
have a central operator that's really controlling
anything.
So at that point, they kind of, well, who
do you get restitution and argument from?
It becomes very different.
You could say, you know, we could sue the
developer who wrote it.
But I don't think that quite makes sense.
It's like suing the author of a book because
you had a really bad thought after you got
to a certain chapter.
It goes against free speech in a sense.
Code has been protected as under free speech
by The Supreme Court in the past.
So I think the other dynamic at play, too,
is these systems are very global.
If you think of a regular Casino, it's generally
relegated to a specific location, whether
that's Nevada, Atlantic City, or whether it's--
they're usually physical locations.
All the online ones are usually one country.
So it's very easy to figure out what court
system any problem falls under.
In these blockchain based systems, it's like
well, who has jurisdiction over say, Ethereum?
I think there's two possible answers to that.
There is what regulators may think the answer
is.
And there's the second answer, which is what,
practically speaking, who actually does.
I think in the practical standpoint, right
now, it's really the community of developers,
miners, people who are using it and building
on top of it.
A practical example for what happened in a
scenario like this is when the Dow smart contract
in 2016 got hacked, a bunch of people lost
their money.
And the network basically voted.
They voted on whether to rollback that transaction
and basically hard forked to a universe where
that person didn't steal all the money or
vote to let it continue.
And they voted to actually roll it back.
That's interesting for a couple of reasons.
One is because they're actually able to make
an effective governance decision in a relatively
short period of time without getting a bunch
of regulators involved for a huge long court
process.
On the flip side, if you look at the [INAUDIBLE]
case, no one has gotten their money back still.
And they actually have more than enough money
to pay all the original deposits.
So it's an interesting comparison between
the old existing legal system and how fast
it can move on the tech side.
It's not to say there's not downsides, but
it's pretty interesting, I think.
The important point is there's provably fair
gambling odds.
So if it ever diverged from that, people would
just stop using that site and go to one that
was provably fair.
So it's not like finding out, oh the casino
has been ripping people off for 12 years,
and there's an enormous amount of back restitution
we have to make.
In the unlikely event that an online crypto
casino is doing something wrong, people will
notice it quickly.
And Darwinism.
Go somewhere else.
Well the other dynamic, though, that creates
is you would expect to see systems very rapidly
converge.
So casinos, as you mentioned, would be low
hanging fruit.
So people would very rapidly converge to a
fair system.
Online poker would be very difficult, for
example, for an Indian Casino in central California
to justify why their video poker machines
are not linked to the blockchain.
How do you think about that type of disruption?
And again, to your point, how regulators choose
to react to it.
Yeah.
So your point is, people will start demanding
to see the same level of accountability for
regular casinos.
Yeah.
I think that's something that will happen.
I think since they're larger institutions--
and generally, the slot machines aren't upgraded
super frequently in the casinos.
If you walk around in Vegas, they tend to
look pretty old.
But I think people will start demanding it.
And over time, I think we will start to see
more transparency from it.
I don't think there's really much of a downside
from any anybody's perspective.
Because for the regulator, to enhance transparency,
makes basically their job a lot easier.
From the user, the better they actually know
what's going on.
In the casino, if you do it in a smart way
it shouldn't require for them to do much extra.
What I would expect to see in that scenario
is people start to vote with their feet.
That ultimately, the odds are better in the
online casinos.
And people would attend Indian casinos less.
And they would either have to choose to shut
or to make the investments to move themselves
onto the blockchain.
But that is going to take time.
And it does feel that there will be a regulatory
pushback in potentially a variety of areas.
How do you guys think about that?
When does the reaction happen?
Because that's been one of the big questions
is, when are the authorities going to step
in and prevent the rise of alternatives to
Fiat currencies, which allow them to collect
taxes or various other things?
Well, I think your analog is spot on.
People will vote with their feet, because
they're going to want more transparency, better
service, and a much lower fee.
That's basically what we saw when we started
routing voice over IP.
We used to have national monopolists that
control each country.
AT&T used to be 16% of the market cap of the
entire United States.
And now, nobody even thinks about the cost
of connectivity to the phone network.
And that's basically where you're going to
see gambling or the other 25 interesting use
cases-- that crypto is the cost for consumers
is going to go way down, and the quality is
going to go way up.
That's a great analogy.
It's one that I love, because it takes me
in the next direction.
Which is, where do you guys see huge investments
that are being made, similar to the AT&T analogy--
and really, AT&T established a price umbrella
under which companies like Global Crossing
or-- WorldCom had its own issues-- but it
created a price umbrella under which an incredible
amount of investments-- level 3 would be a
good example-- where people made huge investments
in infrastructure, in physical construction,
et cetera, that ultimately failed to deliver
on the underlying promise?
And this is particularly a problem with the
debt markets.
Because the prices were so deflationary, and
they just collapsed.
Do you guys see areas where people are making
those assumptions today-- that is a negative
case for where you see investment occurring?
Oh, I'd say that I don't see it as a negative
case.
But all the payments, monopolies, and oligopolies
have very high rents.
And there's a lot of blockchain oriented solutions
that will undercut them.
Yeah.
I think maybe one area-- and this is a categorical
statement-- but I think if you look at just
businesses in general, they're not focused
enough on migrating to certain technologies,
particularly blockchain tech, that can drop
their cost of operation down a lot.
Instead, they're just focused on staying in
the same place.
Operating with very high operating costs.
Two good examples of this are MoneyGram and
Western Union.
You look at them.
And you actually look at their balance sheet
and their profit and loss statement, they're
actually not that rent seeking in the sense
that, it's just actually really expensive
for them to operate.
Because they're so dang inefficient.
And so if you're a company like that, instead
of just continuing to funnel billions of dollars
in cash into your operating expenditures without
trying to make any part of your process more
efficient, you should try to make it more
efficient, undercut your competitors, and
increase your margins all at the same time.
I think it is possible for a company like
that to do that.
In practice, I think it won't happen if the
market's displaced.
I think that's probably the biggest mistake
I see, in general.
Well so, MoneyGram would be an interesting
example.
Because the stock's down 92% or something
from its peak.
It's gone from being a $16 billion company
to $700 million company, I think.
That would very clearly be one.
But if you think the Visas of the world, which
are networks that control significant rent
seeking dynamics, in terms of payment processing,
very efficient, in terms of a number of transactions
relative to an Ethereum or certainly to a
Bitcoin.
And operating at a low cost, perhaps not as
low as we can get in a crypto world.
Certainly efficient and showing that as a
60 plus percent profit margin.
Really attractive businesses.
If those are going to give way, that's going
to have a meaningful impact on how people
think about this space.
Is that something that you see happening within
an investable time horizon?
Or is this just a headwind that those industries--
those platform companies-- are going to face?
I think on that one, that specific use case,
I think it is more of a headwind.
It's really hard to invest in that specific
use case, right now, because it's so early.
But I do agree that it's also one of the most
impactful.
But it's probably going to happen towards
the end of the list of stuff.
And I think if you look at the impacts of
it, 2 to 3% for Visa MasterCard looks small
on paper, but if you're say, a retail business
or a small business in the United States,
your margins are typically 3% to 5% anyway.
So you can almost double your margins if you
can cut that fee or cut that middleman out.
And so, I think over time, we'll start to
see more and more of that.
Visa and MasterCard are interesting, because
they actually would benefit even using blockchain
internally.
Because they pay so much to the banks that
they work with, they actually don't very much
of the fee for themselves.
A lot of it goes to the banks.
So you could get credit card fees, in my opinion,
down to 0.5% if they just switched to using
the underlying blockchain, alone.
Whether it goes lower than that, if everyone
switches away from them or not.
I don't know.
0.5% may be low enough people are OK with
it.
I think that's something that those companies
will migrate to and do eventually.
It just makes logical sense in my opinion.
And so, what do you think is holding them
back from making that change now?
Because if they could get 0.5%, obviously
they would be foolish not to do so.
There is an element, as you're saying, this
is one of the first situations where we're
readdressing a very popular 90s phrase-- the
innovator's dilemma, right?
Where them making that transition would actually
be bad for their prior partners.
The banks might help forestall some of the
inroads of a blockchain in a crypto based
solution-- a peer to peer based solution.
What do you think is keeping them from doing
that?
They've announced they're working on stuff
internally.
I think the question is, why is it not production?
I think the reason for that is, if you think
about it, what they would have to do to credibly
take the banks away would be to have something
that's very trusted.
And even though people trust Visa MasterCard,
I don't actually think that they trust them
enough to allow them to operate say, a private
blockchain, where they process all these transactions.
And I think the banks would just be so mad,
they would quit working with them.
And so, I think that for this to actually
work, they probably would have to do something
that was generally public-- open to people
to see and be able to audit it.
And so I think in that scenario, the scalability
problems haven't solved yet.
I think once you get to that point, you can
try to credibly tell the banks to go away.
Because if your Visa MasterCard, you can say,
hey, look, this is publicly auditable.
We don't need you to oversee us anymore.
We have this public ledger that anyone can
view.
Versus if they said hey, we're going to do
it all in house.
Then Visa MasterCard lose the argument of
hey, we have this huge consortium of banks
that audit us and make sure we're being honest.
And I think Visa has been pretty forward thinking
given their legacy business.
They have a deal with one of our portfolio
companies, Chain.com, to build a private blockchain
prototype.
But these things do take a decade, right?
The hugely important financial systems don't
change overnight.
Well, one of the dynamics that people often
talk about within disruption is that it's
nowhere near as exciting to work for Visa
as it is to work for a start up.
And the best talent tends to converge on the
opportunities and the innovation as compared
to working for the large institution.
Is that a risk for the existing institutions
in your mind?
Or am I over-blowing that dynamic?
You have to whisper.
They're just downstairs.
It's their headquarters.
No.
I think they're all evaluating, when is it
time to bring the fee structure down?
That hasn't changed in 50 years and has a
60% operating margin versus, when will the
outsiders make headway?
And I agree with Joey that retail processing
is one of the absolute last things that blockchain
will do.
There's massive network effects.
Visa MasterCard do their job really well.
And so, we haven't invested in any credit
card processing type competitors in the companies
we've invested in over six years.
And I think that will be one of the very last
things that gets disrupted.
So we talked about the prediction markets
and things that effectively could replace
many markets like OTC swaps, et cetera.
And options markets.
And again, just reiterate, when you have something
like Augur, there will be companies, I would
imagine, that will become participants that
might have a particular need because of an
expiring contract on a legacy basis to have
a particular option that expires on 11:35
on the level of the S&P on Thursday, June
17, 2023.
Which is something that I can go to Goldman
Sachs and have them create for me today.
But it's not something that's easily available
in an exchange traded basis.
So I am involving a lot of lawyers.
I'm involving a lot of resources.
I have to have an ISDA agreement.
There is tremendous costs in setting something
like that up.
And so, I would expect there to be use cases
like that that begin to emerge relatively
soon on a platform like Augur.
Where else should we be looking for early
disruption?
Where have you guys identified areas that
you think are particularly important?
Yeah.
So I think we will actually see some stuff
in payments.
Ignore the Visa MasterCard stuff.
Not disrupting them, at this point.
But more like, there's a lot of businesses
that actually can't accept credit cards.
They can't process them.
And they're just forced to accept cash today.
Or they're forced to do these things where
you relay to money through a Cayman Island
company.
And they charge you 10% to 15% in credit card
processing fees.
This can be anything from a gambling business
to things that are much more considered legitimate
respected businesses, like airlines.
If you start up a new airline, you actually
can't process credit cards.
If you're American Airlines, you can basically
bully Visa into letting you use their network.
If you're a start-up one, it's actually very
difficult.
Most card networks actually ban them.
And so there's a huge swath of these businesses
that can't process payments today.
And that's one area where we actually will
see the tech start to be adopted in the short
to midterm.
Just very quickly.
So not knowing the particular dynamics behind
that, is that effectively just a bad actor
dynamic?
Because the Visa network, through its member
banks, bears the cost of fraudulent activity.
So somebody that collected large cash payments
in exchange for services to be rendered in
the future, that would be an area that would
have high risk of fraud.
Yeah.
Exactly.
So it's anything that has high fraud risk.
Which, to Visa and MasterCard, is basically
greater than 4% or 5%.
And the cool part about crypto is if you're
paying upfront and it's crypto and you can't
reverse it, the fraud risk basically doesn't
really exist.
Well, you can reverse it, you're saying.
So you could say, that wasn't a legitimate
transaction.
They failed to deliver the service.
Well, you can still have traditionally dispute
mechanisms and stuff, just like you have in
your regular business model.
But it's different, in the sense that someone
can't arbitrarily charge you back.
So for instance, say I booked a flight on
this new airline and I was unhappy with it,
I'd have to go through customer support of
something to get my money back if I payed
in crypto.
Versus in the Visa MasterCard scenario, you
would just do a chargeback, and that cost
trickles through the system and causes them
to pay more.
So you're saying from the business operations
standpoint, I would then have to dispute that
with the member banks and with Visa.
That would incur costs that would ultimately
impact my bottom line.
Yep.
And if you have too many disputes.
They'll actually just shut you off.
And then you're out of luck and are just forced
to accept cash.
OK.
So early in the payments, effectively addressed
in the bad actor dynamic.
And anything else that you guys--
One use case is [INAUDIBLE]
Almost all countries, a domestic electronic
payment is pretty much free and pretty much
real time.
But whenever you cross a border, it gets really
slow and really expensive.
Even from say, the US to the UK, two very
sophisticated countries cost $45 to do wire.
You have no idea how many British pounds are
going to pop out the other end.
There's four or five banks that take a little
bite out of your trade as it's moving.
And with blockchain, particularly Bitcoin,
you can do cross-border money movement that's
within tens of minutes.
And you know exactly how much money is going
to pop out the other end.
Get a mid-market effects rate.
And you normally pay say, 1.5% fee rather
than several per cent.
So if you're a public investor-- if you were
sitting in my seat or you were sitting in
a retail investor's seat-- how would you choose
to invest in this space?
Put it all on Overstock.com.
All on Overstock.com.
No.
I'm just kidding.
I don't really think there is a public markets
trade right now.
All the blockchain enabled companies are still
private.
So there isn't yet a big public strategy.
Again, that analogy feels correct to me that
were earlier in this process than most people
think.
We're nowhere close to the Netscape IPO.
But one thing to put perspective on it, is
there's 30 protocols that are unicorn sized.
There's a lot of big investible things.
They're just not listed on the New York Stock
Exchange.
Do you see regulation changing in that way?
We talked a little bit about Augur being an
early ICO on the Ethereum platform.
Do you think ICOs are coming to the public
markets?
Or to the equivalent of the public markets
where they will be accepted.
I will be able to deposit it in my Schwab
account.
My thing, anyway, is, probably not.
I think you probably will see things where
you can buy into an ICO on an alternative
transaction facility or something.
But I don't think we'll see them on NYSE or
NASDAQ.
At least not anytime soon.
Just because I think they're such weird assets.
They're so idiosyncratic and they're all very
different and so unique that it's really hard
to categorize them in any box.
I think the best any regulatory body has done
so far is the FINMA regulators in Switzerland
have come up with three categories.
They came up with equity currencies and then
things that are what they consider to be utility
tokens, which is either of those.
I think that's a decent approach.
But even there, they're not trading on the
public markets.
Each ICO is different and unique.
Fast forward a decade, maybe that changes.
But I think for the next foreseeable few years,
it's probably going to be each on its own.
So when you encounter somebody who's a passionate
Bitcoin fanatic, how do you think about that?
Is that just somebody who's made money in
the past and has now created an argument that
they'll make money in the future?
Or is there something there that the rest
of us are missing?
I think this is a new asset class and in 10
years, every institutional investor will have
a blockchain team.
They will have a blockchain asset allocation.
And we're just in that interregnum period
between early adopters and very institutional
investors.
And so, to use the internet analogy on that,
today, everybody has a technology team.
Everybody has a technology allocation.
But nobody has shares in Globe.com.
If you were to think about the vehicles that
are out there today-- Ethereum certainly sounds
like one that you're very interested in, certainly
within the context of maker having created
a stable reference point-- would you be surprised
if Bitcoin went to $0 over the next five years?
I'd be extremely surprised if a basket of
cryptocurrencies was not worth a lot of money
in 5 or 10 years.
Bitcoin versus Bitcoin Cash versus Ethereum--
there's lots of arguments on all different
parameters.
And any one of those could potentially go
to $0.
But as a whole, if you have a half a dozen
of them, it's very unlikely.
And that's very different.
Five years ago, I used to tell people, you
could lose it all.
Because crypto could be a dumb idea.
The G7 could outlaw it.
Something really bad could happen.
Given that there's been a crypto application
number one on the app store in Apple, and
if 60 million people have it, I think it's
reached escape velocity.
So it's probably not going to "$0" $0, but
any individual one could theoretically.
Would you?
Yeah.
I'd say I'd be very surprised if Bitcoin itself
went to $0 over the next five years.
What I'd not be surprised about, though, is
if Bitcoin, as a percentage of the overall
crypto currency market cap, continued to lose
market share over the next five years.
And you mentioned G7 outlawing it.
Are there any regions around the world where
you're particularly concerned about the legal
framework or the legal outlook for crypto?
I'd say that 95% of the countries are totally
neutral.
They don't do anything to help crypto.
And they don't do anything to hurt it.
There's a few countries, like Luxembourg.
They're very progressive and in promoting
crypto.
And then there's a few countries, like China,
that have national policies that might have
their own self-interest at stake.
But 95% of countries don't really care either
way.
And so I mentioned China early on.
You just brought it up.
How do you think about China and Bitcoin?
Because if I understand correctly, roughly
70% of the hashing is currently done and mining
is currently being done in China for Bitcoin.
Any statistics I say wrong, please correct
me on that.
But how do you reconcile that?
Because China has been one of the most restrictive.
And yet, paradoxically, it has one of the
most active, at least traditional, crypto
space environments.
Yeah.
I think the earlier comment was on electricity
consumption.
And there might be pockets of China where
electricity is near 0 cost.
And that subsidizes mining.
And then the demand for cryptocurrency saving
vehicles is very strong in countries like
China that have potentially weak banking systems.
China's been one of the largest importers
of gold for decades, because the citizens
want to save in something other than the banking
system.
And that might be one of their rationales.
But I don't put myself out as an expert on
Chinese policy.
Joey, if I were to think about, what's the
coolest new technology you've seen emerge
in this space in the past six months, what
would be your pick?
Yeah.
So mine would be this project called Celer.
To make sure people understand, it's Celer,
C-E-L-E-R.
It's not stellar.
It's a product that they came to us a few
months ago.
And it's a team of about five PhDs and people
who also worked at Google and YouTube.
And what they're working on is a scalability
solution for blockchain tech.
So we talked about, in this conversation,
how most of the stuff only does 10 transactions
per second.
There's been this idea that's been circulating
around the past three or four years called
payment channels, or alternatively, called
state channels.
And it's a really neat idea for doing lots
of transactions off chain and then settling
on chain once in a while.
The problem with it, though, is that when
you're sending payments around, you have to
route these payments through a network.
And up until now, it's been an unsolved computer
science problem of how to do that.
So the best solutions today typically require
about 10x the collateral you would need to
do a simple $5 payment, requires $50 in collateral
locked up.
That's not going to work.
These guys have come up with an optimal solution.
Theoretically optimal.
You can prove it with mathematical proofs.
They come up with a solution to this problem.
So it's the most exciting thing I've seen
in the past six months.
Because it actually gives me quite a bit of
confidence that we will see those transaction
through, but numbers increase.
Versus, if you asked me about that question
two years ago, I would have been much more
bearish on the space scaling.
Fantastic.
We did this roughly a year ago.
I'd love to do it again.
Are you guys willing to sit back down in six
months to a year and catch up on what's new
in the crypto space?
What's going on in Pantera.
And I'd love to follow up, in particular,
on how Augur is developing.
We can talk through some of that in detail
as we talk next time.
Cool.
Thanks.
Thank you very much.
Thanks.
Thanks.
Dan and Joey gave us some really fascinating
insights in terms of the cryptocurrency space.
In particular, we get to look forward to the
Augur launch in July.
It's going to be one of the exciting first
ICOs on the Ethereum space that goes live.
Can't wait to see how that develops.
I'm also really interested in Dan's general
thought that the cryptocurrency space is developing.
That the probability of the overall space
turning out to be a disappointment is very
low.
And it's really interesting to hear how that
thinking has developed over the last couple
of years.
I look forward to catching up with them again
in six months to a year to find out what new
is happening and what their thoughts are then.
[MUSIC PLAYING]
