CAIA Seattle & FDP Institute present: Cryptocurrencies & Digital Assets - Market Structure, Risks, and Opportunities with Dr. Keith Black

Hosted by CAIA Seattle, Dr. Keith Black discusses the digital asset and cryptocurrency markets and the innovative solution to build a global, decentralized, and secure network that facilitates payments and other transactions with Chris Carsley.

In this presentation, Keith Black will discuss the digital asset and cryptocurrency markets and the innovative solution to build a global, decentralized, and secure network that facilitates payments and other transactions. Keith will explore how proof-of-work, such as Bitcoin mining, and proof-of-stake protocols, such as Cardano, are used to secure networks and complete transactions. Returns and volatility data will be presented, as well as evidence on how digital assets can add a return to a diversified portfolio without adding to portfolio volatility. Risks of digital assets will also be discussed, including regulatory risks, technology risks, and valuation risks.

“ I think one theme that can be expressed across all the reports is regardless of geographic area, regardless of the type of investors, including institutional investors are year over year adding allocation to digital assets.”

— Chris Carsley

Watch the discussion

Transcript

Hello, and thank you for joining our webcast on cryptocurrencies and digital assets. Co-hosted by CAIA Seattle and FTP Institute. This event is being recorded, and a copy will be distributed to registrants via email. We encourage audience participation. So please use the Q and A or chat features to ask questions throughout the event here to cohere here to host our webcast is our CAIA Seattle chapter head, Chris Carsley.

Chris: Hi everyone. Thanks for joining us once again. What a timely discussion we're going to have here. I was just reviewing a number of different reports that come out almost every day on digital assets. And I think one theme that can be expressed across all the reports is regardless of geographic area, regardless of the type of investors, including institutional investors are year over year adding an allocation to digital assets.

So let's dive right in today. We have Keith Black from the FDP, and he has spent a lot of his career in alternative investments and I'm going to give him a chance to do a short intro. And then we're going to walk through Bitcoin, Ethereum, a lot of the other alternative tokens and coins that are coming out.

And we'll talk a little bit about NFTs as was stated earlier. Loved to have this be interactive, a little bit of a fireside chat for everybody with Keith. So please ask your questions. You can put it in the chat. I'll be monitoring those and then we can go from there. All right, Keith. Welcome. Thank you for joining us.

And let's like I said, give a quick intro and then let's start talking about digital assets and why and how people are investing.

Dr. Keith: Yeah. So I think most CAIA members probably I've run into now and then on the webinars, but I've moved over to the FTP Institute side of the house.

So this is CAIA's newest designation. After five exam cycles, we already have charter holders in 41 countries. So we look at applications of artificial intelligence, machine learning, big data, and alternative data across the financial markets. And so it is fairly quantitative. You do talk about all of the AI and machine learning, techniques, support, vector machines, regression trees, natural language processing, but we also spend a lot of time talking about ethics, as well as the applications to financial markets.

Chris: Great. Now you're making me feel bad. I haven't gone and got my designation yet. Especially with all the things that. I've been exposed to it in my investment career. I now have to go learn everything about crypto as the new column and structure of the new alternative investment that's gaining traction.

Dr. Keith: Well, Chris, there's a discount on the FTP exam for CAIA members.

Chris: So I just need more than 24 hours in a day is my only problem. Let's dive in Keith, can you walk us through, we're going to start off talking about, Bitcoin is sort of the broad market, maybe do a little bit of history, and then, bring us up to now.

Dr. Keith: So Bitcoin was started in 2008 and the Bitcoin white paper was published by Satoshi Nakamoto. Just about six weeks after the demise of Lehman brothers. And when the first block of data was published on the Bitcoin blockchain, it referenced a headline in the London times regarding bank bailouts.

And so the big picture is we're trying to transition from a centralized finance system to a decentralized finance system because all of us have accounts at banks or brokerage firms. And every one of those banks or brokerage firms is going to have a ledger of our activities. They're going to have our name and our account number.

They're going to have our deposits and withdrawals, and they're going to track all of that information. But at the end of the day, all of our balances are with that one bank there with that one brokerage firm. And they're difficult to transfer. And maybe because we're a captive client they're taking a little more than they could in a net interest margin or in a commission structure.

But there's worries of the centralization. And if there's a fire, if there's a flood, if there's a Lehman brothers scenario that centralized counterparty could go away. And so in, in 2008, this white paper on Bitcoin, a peer-to-peer digital currency says what if we could send money to each other.

In real-time and have it be an irreversible transaction. So we're going to build a chain of blocks. And so the blocks are going to have all of these transactions, actions on the ledger. We're going to have the account number and the deposits and the withdrawals. And we're going to be able to store value on this distributed ledger rather than being at one bank or brokerage firm is distributed by thousands of what we call miners around the world who are updating these balances.

And we could access the world in a cheaper way that disintermediates a lot of these, a lot of these banks. And there's a, especially Chris, a huge benefit if you live in an emerging market that has weak currencies, high inflation or weak property rights. So imagine living in Venezuela, Argentina Turkeys and Zimbabwe where the currency is inherently and inflationary, having anything that's a store of value is a big step up from where you've come from.

Chris: Yeah, that's a, there's multiple areas. You, where you always hear about the early days and they read the papers on Brazilian inflation. This would be a huge boon for them. Let's transition a little bit now that, I think hopefully most of these people on this call, I've had some touch and read enough to educate themselves on, what you just discussed.

What about the investment aspect of it? One of the questions that I was asked was who's actually investing in these assets. Who's, who's, from an institutional standpoint, I know that you have worked on a number of different papers. One of the things I'd like to take this question and also as well, who's investing in it in to is this dot.com type situation.

There's a lot having been from the.com era. There's a lot of similarities of what I see and the action is being taken in the race. And the expansion. I know tons of people here who have left their tech jobs to go join crypto funds. It's exactly what we saw in the.com era. And I know you've written a paper, a short paper about this.

So I'd love for you to dive in a little bit about that and talk about what are the similarities, what are the differences of that? And then take that into, or what how people are using this as a, an allocation in their portfolios.

Dr. Keith: So dogecoin is the new pets.com. It, 20 years ago we saw a lot of speculation, a lot of excitement about these dot-coms and you put a.com after your name, you built a website, you got some users in some community and the price of your stock it increased very quickly, and we're seeing a lot of that same sentiment, a lot of that same excitement in the cryptocurrency and digital assets space. And there's been a tremendous increase in the value of the space in just the last two or three years. But if we go back 20 years to the, to the.com, what we saw is that during the year 2000 the vast majority of these companies went bankrupt.

And this, the story went that in very short order these dot coms are gonna take over all of the retail business in the world. Nobody will ever do brick-and-mortar retail again. And all of that value is going to accrue into this tech stock space. And that didn't end too well.

And 20 years on it's about a 20% market share but you're in Seattle, Chris, and you've been ground zero of the beneficiaries of this, right? Because the biggest winner of the.com boom is Amazon, right? And Amazon's a $1.7 trillion company today, which is bigger than what everyone wants in the.com crash.

And so there's a $1.5 trillion drawdown in the NASDAQ in the year 2000, but now. Amazon's worth 1.7 trillion, but we could add to that Priceline and Broadcom and E-bay, and maybe a couple of years later, Netflix and Google, that's $6 trillion of stock market value that was created.

But what's interesting when you look at Amazon and Google and eBay and Netflix and Broadcom and Priceline, they're all really different companies. So they use this technology and they all carved out a different niche or different industry for themselves. And so if you're wanting to find value in the crypto space, you need to understand what business are they in.

Are they in borrowing and lending? Are they in futures and options and maybe like an exchange? Are they a store of value? Like Bitcoin, are they providing values in NFTs and gaming? You need to understand what is this coin for? How many users do they have? It's a user growth, what's the revenue growth.

But there's thousands of these cryptos, Chris, that, that have no value right then and doge and Shibu. And some of these, they say, this is a joke, right? We did this for a meme. We did this for fun, right? There's no use case for it. And, Sheba, Eno is trading at a fraction of a penny.

Everybody knows it's going to a dollar, but you have to look at the token omics. There's 550 trillion Shibu tokens. That's tens of millions for every man, woman and child on the face of this. And if they went to a dollar, a coin for Shibu, that'd be worth more than all the stocks, all the real estate, all the bonds, all the private equity and all the hedge funds in the world.

So we have to take some of this with a grain of salt. And if there's a $10 billion valuation on a meme coin, that's a pretty risky investment at this point.

Chris: Yeah. Most definitely let's take that opportunity where you're talking about some of the other tokens. Obviously Bitcoin kind of started at all.

There was some inherent structural issues, contract issues, and then we had Ethereum was invented. And then so we can talk a little bit, I'll give you a chance to talk a little bit about Ethereum and then why don't we see how as the natural next step is to talk about a lot of the tokens that came out to be the challengers or in some cases, some people believe fixed to them.

Some of the problems they see in the future that were going to happen with Bitcoin.

Dr. Keith: When we look at the cryptocurrency space there's over 15,000 tokens, but the top 50 have about 93% of the economic value. And so it's a really concentrated universe. And I think that's a good thing because 20 years forward some of the biggest companies in the world are going to be cryptos today, right?

Just Amazon came out of the.com and Google came a couple of years later. There's going to be very large companies that come out of this crypto space, but just like the.com, most of these will fail. But the top coins have 93% of the market cap. And right now that's about 40% in Bitcoin and almost 20% in ether, which runs the Ethereum blockchain.

Bitcoin's white paper was in 2008. They started their network in 2009 and then Ethereum had had five years to learn from the Bitcoin experience. And they launched their white paper in 2014 and their network in 2015. And so Bitcoin. Is just Bitcoin, right? You could save it or you could spend it there's not a lot of other functionality in it.

And so when people talk about Bitcoin, they liken it to gold. That's a store of value, right? There's a known monetary supply knowing monetary policy. There's only going to be 21 million of them. The lockdown security is very tight. And so if it's secure, if it's valuable and if it's scarce, people can see this as a store of value.

Maybe can you compare that in value to gold, but it just sits there. Gold doesn't do anything. Bitcoin doesn't do anything. You either own it or you transferred. What Ethereum did was said, let's take this blockchain technology and use it as a platform for smart contracts. And so on the Bitcoin blockchain, all you're writing is who owns how many points.

That's all there is. And then there's some optional data you could write to it. But on the Ethereum blockchain, certainly you're saying, who owns how many ethers, but in addition to that, you could code smart contracts, computer programs. You could code them to an address on the Ethereum blockchain.

And when you send the email. Tokens to a specific address on the blockchain. You activate that smart contract, and that will give you some value or some data in return. And so we've seen a huge ecosystem build on top of Ethereum. And so we're building borrowing and lending like compound and Ave.

We're building decentralized exchanges like Eunice swap and sushi swap. And then of course the open Sea NFT platform mostly runs on a theory as well. And because we have these smart contracts, we have the ability to run all of these businesses on top of the Ethereum blockchain.

But the problem Chris is that Bitcoin. The problem is that a theorem is crowded. It's been such a success that it's killing itself. And Bitcoin Ethereum has been running between 90 and a hundred percent capacity for the last year and a half. And because there's so many people who want to use it the price of using it is getting higher and higher.

And people who want to do transactions are passing due to the cost. So now it costs maybe $15 just for me to send you a one, one ether token, but if you want to interact with a swap, you send it ether and you get back another token that could cost you $70 in a transaction fee. Just as the gas you pay to run the Ethereum block.

Chris: Yeah. And for the nomenclature there for people listening, you'll see some papers talking about gas costs. That's what Keith is referencing is the gas costs now is getting prohibitive for the use of Ethereum and okay, that legs right into, oh, now that we have this issue inter the other 10% of the market allocation the other coins now.

Dr. Keith: So both Bitcoin and the Ethereum blockchain they're very secure. They're very popular. A lot of people are using them, but there's concerns that there are. That maybe they're processing on the order of, 10 or 30 transactions a second. And some, somebody like visa or MasterCard might be above 5,000 transactions per second.

And so they're slow. And part of that is from this proof of work mining process. And so what you have on Bitcoin, what you have on a theorem is there's thousands of what they called miners or validators who are running these blockchains. We call it a distributed ledger and every one of these minors or validators, they're keeping track of all of these transactions and they're executing all of these I'll be smart contracts.

And every 10 minutes, one miner in the world is being. Six and a quarter Bitcoin, which has over $200,000 and every 12 seconds someone's being awarded to ether, which is which is about $8,000. And so it's pretty lucrative to be a minor in either a Bitcoin or Ethereum, which means that a lot of computing resources have been dedicated to this proof of work concept.

So you've got thousands of miners, all solving the same problems at the same time. It's a cryptography. That we call hashing and they're there. They're trying literally trillions and trillions of combinations to solve these cryptographic puzzles. Every 10 minutes, somebody is going to crack the Bitcoin code.

Every 12 seconds, somebody is going to publish a block in, in ether. And it's very secure and the blockchains are immutable. It's giving us this distributed ledger that's decentralized and valuable for a lot of reasons, but the downside is it's slow. We're doing a lot of this redundant computing.

They're competing with each other in order to publish the solution. And we've gotten to the point where half of 1% of all electricity in the world is now being expended solving these Bitcoin mining problems.

Chris: Yeah. And it's let's carry that for one thing I wanted to back up is one of the terms that some people you'd mentioned, proof of work and you know, the other side of that is proof of stake.

Can you give a quick definition of the two and why we're talking about energy and maybe link that into why do we have these two processes? And what's the energy impact of one versus.

Dr. Keith: So in, in both Bitcoin and Ethereum are proof of work blockchains, you've got these thousands of competing miners and they're using a tremendous amount of electricity.

And so there's been a number of protocols that have been published after a theorem. So Bitcoin was 2008. Ethereum was 2014, and now you have other blockchains coming online in 20 19, 20, 20, 20 21. And Ethereum has worth about $360 billion at this point in token value. But if you add up Binance and Silvana Phantom cosmos Cardono, maybe a couple of.

There's eight of those that together have created 180, $180 billion of market value in just the last three years. So there's something to be said for being a quote unquote, Ethereum killer. So Ethereum revolutionized computing in this idea that there's one world computer, the Ethereum virtual machine, and people are going to.

Execute their programs under distributed basis. And that was revolutionary. So Bitcoin was revolutionary for solving the double-spending problem. How can we spend digital cash just once and make sure that we can't copy and paste all the money we want? That was the innovation of Bitcoin.

And then the innovation of Ethereum was to bring these smart contracts online, but all of these new protocols, they're proof of stake. And so when you're running. As a minor in either Bitcoin or Ethereum, you're making a tremendous investment in computer hardware and electricity.

It's a very expensive process. The entry-level machines might be $10,000 apiece and you need hundreds of them to compete. And so there's a big capital requirement to go into that proof of work mining. And obviously, there's some environmental implications from the use of electricity, but of course the Bitcoin maximalists will say how much electricity or pollution is used in gold mining and investment banking and commercial banking and all of those similar industries, but what's happened now in these newer blockchain is the Binance and the Cardono and Salana and avalanche and so on.

Is there a proof of stake? So rather than taking all of your money and investing it and computers and electronic. Why don't you take all of your money and invest it in Binance and avalanche, right? Like a venture capitalist, you put money into a business and you put your time and your resources into building that platform.

And so in the proof of work system you are rewarded for keeping this ledger when you're able to solve that cryptographic puzzle. And so it's random when you can solve that puzzle and the more computers you have, the more frequently you'll be able to earn that block reward, but on proof of stake, if you own a 1% of the economic value of avalanche tokens, you have a 1% probability of publishing that next block on, on avalanche.

And so you're not competing with everyone else. We're trusting you that you're doing a good job there. And so in, in all of these proof of stake waters we're not having thousands of people doing the redundant work. We're having thousands of people do work independently, and they're all going to be assigned, one after the other, relative to the probability of the size of their stake.

And now rather than processing, 10 transactions a second, because we're working in parallel and not competing with each other, we could publish thousands of transactions a second, and rather than charging, $70 to do a unit swap trade we could do that trade, for $3 on one of these blockchains and maybe less than a penny on.

Chris: So with that said, what you're really supplying here to tie it back into the investment theme of alternate investments is, proof of work. There's those module. There's two ways to think about that. From an investment standpoint, I could actually be someone who's actually investing in the buildings in the data center and the mining operations, or I can say, okay, I'm going to go own Ethereum or Bitcoin directly.

With regards to, everyone always likes to say, don't invest in the asset, but invest in the picks and shovels they'll make money no matter what, but in this situation in me, correct me, if I'm. You're looking at a fair amount of risk to look at saying, I'm going to go put money into large data centers.

Because what I've seen is an industry on the run. You've got a lot of these miners being moved from country to country. Now we've got a bunch of them in Texas because they can, the whole objective is to find cheap energy. And I know some people who are working on a variety of different things and in Canada as well, but there's a lot of ESG issues and regulations.

What have you seen from an investment standpoint? I'd say, okay, the viability or the risks you would be worried about or the opportunities you would want to take advantage of in investing say directly in some of these mining operations, because I know they're out there, right?

Dr. Keith: So there's a lot of ways you can invest. You can invest directly in the. And when you invest directly in the coins, you have to decide whether you're going to hold them in your own wallet or hold them on exchange. You could invest in a closed-end fund, an ETF that might own some Bitcoin or some Bitcoin futures. You could invest in a hardware company.

So even somebody like AMD or Nvidia is in this space their specialty Bitcoin mining companies and then you could invest in the miners themselves. So there's even ETFs available that, that invest in this just. And there's ETFs that invest in the broader ecosystem.

So they might throw in a, some banks and brokers some computing companies and some miners, all in one, one ETF. And if you're invested in that picks and shovels strategy you might have exposure to multiple coins. So you're diversifying over that strategy. And of course you don't have to pick whether you're going to have custody on the exchange or in the wallets, because there's kind of risk in the custody both ways.

So some people say I like the ETF route because I could hold it in my IRA. I don't have to worry about the custody of the coins. And then I'm diversified across different corporate entities as well as different coins and the strategies.

Chris: Gotcha. The next thought I was having there was, now we've got a variety of different ways we can invest.

In your research and what you found for most people I think on this phone call that may come from a little bit more of a traditional investment background, what fundamentals or technical. I know both are being used in a variety of different shops for investments in this space, but give us a little bit of your insight as being someone who's on the frontline of this, what fundamentals and technical have you seen that people listening to this should understand?

Think about as they're looking at, whether I'm going to go, passive sort of indirect or I'm going to go direct.

Dr. Keith: So the first thing is what is the use case, right? What industry are they in? We could clearly, we can clearly say what business Bitcoin is in an Ethereum, Binance, Phantom salon.

We know what business they're in there. There's users unit swap and sushi swap there's real money here. So people spent, a billion dollars on trading fees on unit swap and sushi swap last year. That's starting to sound like a stock exchange or a futures exchange.

You put a price of sales multiple on that. It becomes a real thing. Then what we see is what other businesses could we have? So in in decentralized finance, Defi, there's a. Ave and compounds, so you can put money on deposit and you can borrow money as well. And so that's like a commercial bank then we've got the NFT and the, in the gaming systems, people like spending their leisure time online and there's financials there.

And so the first thing you want to say is what is the use case of this token, right? Are people paying money to use this? Are people walking value in this protocol how many users, how much money's invested and what is the growth rate and what is that use case? Those are some of the fundamentals and you want to see not only what business they're in and that they do have, real revenues or real assets tied to this platform.

You also want to see that they're a, that they're a leader in this space. Amazon's clearly a big e-commerce platform, but does anybody know who the number four player in that space is? So if you think about this, it's publicly traded venture capital and in venture capital you have a lot of losers and you have some really big winners.

And so you have to look at what's the business strategy. What's the total addressable market. What's their market share the number of users, the revenue and the assets and make a case for whether that protocol is going to be around in 10 years.

Chris: I wanted to back up, we did have one question come across how many Ethereum can be created, but is there a limit to Ethereum?

Dr. Keith: There isn't technically a limit. I think it's on the order of a hundred million. Bitcoin is limited to 21 million. But it's amazing the information sources that are coming out of this, Chris, you could look at acoingecko.com or coinmarketcap.com and get the exact answer to that. And so if you just type in coinmarketcap.com, you'll see a Ethereum number two, and you'll see on that front page, just by typing in coinmarketcap.com.

You'll see exactly how many Ethereum tokens are outstanding today. And then there's there's Massari and CoinDesk and there's a whole new media industry. That's coming in around this as well.

Chris: One question also just came in of these exchanges that are being put together. What are some of the vulnerabilities?

There's always issues of we had early problems even in the stock market exchanges. You add in the aspect of the hackers and everything else. What else are you seeing as the vulnerabilities in these established exchanges or things that need to change in the future?

That haven't been done yet?

Dr. Keith: We have centralized exchanges, right? So a lot of people will buy their first coins on Coinbase or Kraken or Binance or Gemini. And those are centralized exchanges. And so, in each of those exchanges, you could send you as dollars, you can execute a trade.

You could get the tokens, you can continue to hold them on that exchange, or you could withdraw them into your own personal custody and some people definitely recommend that you hold that personal custody, which takes away all of that cyber security or hacker risk. But now you're taking the risk of can I physically secure this USB and remember the password for it.

And if there's a fire or a flood a death in the family, people do lose coins when they have the custody of themselves, but on the centralized exchanges, there are those cybersecurity issues but hopefully some of these will be as strong as a bank or a brokerage firm.

Some of the risks are when you look at Binance or Coinbase or Kraken or Gemini between them, they're only listing probably 200 unique coins available to us residents out of these, 15,000 points. And so there's a completely unregulated Industry. And it was designed to be unregulated.

It was designed to be global and because it's unregulated different places in the world have different abilities to trade. And so there's a lot of things we can't do in the US, I don't think we're able to trade perpetual futures at a hundred times leverage in the US like you can in a lot of the rest of the world.

And beyond the cybersecurity risk and kind of the custody risks there's always this governmental risk as well. And as you said before, China kicked out all the miners and in the US you have to pay taxes on this, too. And when you hold a token, whether you sell it or exchange it or spend it if you sell it in less than 12 months, you have to pay a short-term gains tax.

If you hold it longer than 12 months, you have to pay a long-term gains tax as well. So there's a lot of risk.

Chris: Certainly, I don't see any other questions coming up and I want to make sure that we cover one of the last sections of things that has come out most recently is NFTs the non-fungible tokens.

They started off in an interesting debut of what you could purchase with them. But if you could talk a little bit about what those are, how they were first deployed the investment aspect of them and where they're heading now. Cause there's a lot of talk about that. That platform could become far more than what it was when it first start.

Dr. Keith: And I think what most people think about right now in NFTs is art or gaming. But I think that the long-term implication of NFTs is what type of data do we want to put on the block? That's non-fungible, right? So fungible means, one Bitcoin is one Bitcoin $1, one, ether is one ether and we don't care which one we get, right?

They all have the same value, but when something's non-fungible, it means it belongs just to us and there's something unique about it. And what we're seeing in the non-fungible space outside of this is you can hold the title to real estate. You could control your health records or your educational records.

And so one of the applications on Cardono is that they're tracking 5 million Ethiopian school students, and they're keeping their academic records on the Cardinal blockchain. And so imagine being able to transfer your identity, imagine being able to transfer your property for a graduate to prove they graduated from this university and not worry about fake diplomas out there.

Because we do know that, there's more than a couple of hedge fund managers. Who've exaggerated a little bit with what they did in college, right? And this non-fungible aspect, non-fungible and immutable and distributed, right? If your college goes out of business, you still want to be able to prove you have a degree.

And that part of the NFT space, I don't think a lot of people are talking about it, but there's a tremendous potential there,

Chris: is it something to where that could be the next phase of the rise of just going back to the com analogy that we started with is where you had the initial dotcoms come out and then you had a whole bunch of other companies come out later in the cycle. And some of those people who came out later in the cycle where the ones that, lived through the crash Is that scenario, you could see where some of the new changes and things, people trying to attach NFTs to, functional services and business structure, rather than just saying, Hey, you're gonna own a piece of digital art or a songwriter or something like that.

Dr. Keith: Do we care today, Chris? Who has a website or who doesn't? I don't think that really makes a material difference in the valuation of a company at this point, it's like everybody uses the internet. And so 20 years from now are going to say, everything's out on the blockchain, when was the last time you used a physical ticket to get on a plane or a sporting. It's all gone digital, you put it in your apple wallet. And that kind of feels a little bit like a blockchain technology. So 20 years from now blockchain might be as ubiquitous as the internet.

And we lose the premium of this new technology and we just be another operating business.

Chris: Correct. I totally agree. A couple of different questions came in going back a little bit is there an immutable law that prevents Bitcoin from exceeding there 21 million outstanding or is it truly capped.

Dr. Keith: The code is law? And so how we get to how do we get to 21 million is we started in 2009 and every 10 minutes in 2009, imagine this Chris, every 10 minutes, there was a block reward of 50 minutes. Four years after that, it have to 25 to 12 and a half. Right now we're at six and a quarter in 2024. It goes to three and an eighth, and then we go to one and five eights and so on and add some topically that goes to zero in the year 2141, we'll be at 21 million tokens.

And so it's the issue and schedule of the block rewards that's coded into the Bitcoin protocol that enforces that limit of 21 million.

Chris: Yeah, we just had a flood of questions. So this is great. The next question is from an institutional investor standpoint, in your view, what is the, I guess the weakest point or the risks that you have to the risk factor, you have to be aware of if you're going to be investing, in that larger digital asset those coins.

Dr. Keith: Bitcoin and Ethereum have a volatility now of about a hundred percent per year, which is four or five times a stock market index. So there's a tremendous volatility and you have to be ready for that. That volatility is okay. Especially if it's mean-reverting and uncorrelated to stocks, right?

And so if it's mean-reverting and uncorrelated stocks at a hundred vol, right? Think of what you could have done in Bitcoin in the last year, you could have bought it at 30,000 and sold it at 60 and bought it at 40 and sold it at 50 and bought it in 40 and sold it at 50. And the volatility gives you this tremendous ability to scalp.

And so if you're scalping five or $10,000 moves over the last year you made way more than the $45,000 price of a Bitcoin today. And so if you hold this in a diversified portfolio and you're aggressively rebalanced if it is volatile and mean-reverting and uncorrelated with the rest of your portfolio, it's a great addition to your portfolio.

So Bitwise did a study and they said, if you added one or 2% Bitcoin to your portfolio, 60, 40 portfolio between 2014 and 2020, you're ready for this. And one or 2% Bitcoin to your portfolio, you rebalance on a quarterly basis. It doesn't change the volume of your portfolio and it doesn't change the drawdown of your portfolio,

even though Bitcoin had, three 70% drawdowns along the way.

Chris: Wow. Okay.

Dr. Keith: So the risk characteristics are almost more important or more interesting than the return characteristics. Exactly. But think of this as venture cap, right? Hopefully, Bitcoin and Ethereum are beyond the point.

They're going to zero, right? I think we've proven that they're around for the long run, but once you get out of these top 50 coins it is very speculative. It is very venture-oriented and most of them are going to go to zero, but if you do find an interesting use case with a good team, that's attracting users and developers, that can grow into a real business with a significant.

Chris: That's good to know. I'll have to see if we can find that Bitwise report, if do you know if it's free out there?

Dr. Keith: It is. And there's you could get their newer version how from the CFA resources

Chris: okay, great. I'll try to the next two questions that came in. I'll try to merge the two of them, cause they're very correlated.

They're getting at the idea of, when asked questions of when I invest in crypto, given the lack of regulation and the lack of transparency inherent in these investments. How would I answer the question around am I just really aiding betting hackers, ransomware, drug dealers or other illegal activity.

And how much of that is a reality of, how much of that is news and how much of that's reality of the core business and what's going on?

Dr. Keith: You know what I mean? Maybe five years ago, that was an issue, but I think we're beyond that now. There's much more criminal activity. That's conducted in us Fiat currency.

Then in Bitcoin. And what we're finding now is that Bitcoin is traceable, right? This distributed ledger is public and you could look at every address you could go to a blockchain Explorer. You could go to ether scan, and you can see, every trade that's happened in every address.

And so if you were in the criminal element being in something that's immutable and permanent and traceable is probably not where I'd want to be hanging out. So there's a lot more crime that is in the US dollar world than is in the crypto world.

And estimates of crypto crime are far less than maybe 3% of the out standings.

Chris: Okay. That's normal for any nacent market. It'll mature and right sit.

Dr. Keith: So silk road has gone.

Chris: Some of the other questions that have come in is you'd mentioned, the Bitwise, what they say you could add, what are you seeing institutional investors what concentrations are they putting in their portfolio?

What they're making, they're probably taking a long, only stance and adding this piece, but what have you found in your conversations with people? What are people adding to their portfolio?

Dr. Keith: A little bitcoin goes along. Because of the volatility and what today has been positive skewness it does add a lot of positive characteristics to your portfolio.

And so you don't need to add a whole lot. We do see that it's kind of risk-seeking inventor. Who are in on this first. So it's the high net worth individuals, the entrepreneurs, the CEOs, the family office. They've adopted it first and we've seen some university endowments. I don't know if you saw the numbers last year, but there were a number of university endowments from June of 20 to June of 21 who were printing 12-month numbers of, 40 to 80%.

And that was driven by their venture holdings and their crypto holdings. And so there are some pretty aggressive investors in this space, but you don't have to make a big allocation. What was interesting is that when we were at a conference talking with some very significant institutional investors we asked them how many of them had.

Invested directly in cryptocurrency, in their sovereign wealth fund, in their pension fund, in their endowment fund. And no one in the room would admit to investing directly in the currencies or the tokens in their fund. But when you ask them, how many of you have invested in a venture capital fund or in a hedge fund that has an exposure to crypto?

It was almost a third of the asset owners said that was their first way in there. And so maybe they've already carved out that asset allocation and venture capital allocation. Maybe they're I'm one step away from the headline risk or they're delegating that custody risk.

But maybe they just said, okay, hedge funds and venture capital. That's where I put my risky investments. I've already got that structure there. I know it's going to be politically difficult to get crypto approved directly. So I'll build that into my hedge fund or my venture allocation.

Chris: One question that came up is DAO's DAOs. The actual question was, you think, will they take over traditional corporate structure?

Dr. Keith: So DAOs are a decentralized autonomous organizations. And so it's much easier to say DAOs, but the idea is that the corporation runs from the code.

That there's a set of governance principles that have been included. There's a ways for shareholders to vote. And we're going to build this corporate form on a blockchain. And so rather than being run by people directly who might change what they're thinking day by day we're going to run it in, in code.

Everybody can see the code and the code only changes after people vote on it. And so this is an interesting way to do things. And part of the whole crypto ethos is being extraterritorial, that, we don't want to be confined to one currency. We don't want to be confined to one country or one set of rules. And so if you build a DAO it doesn't necessarily have a home country law to abide to. And so it's more global in nature.

Chris: Which good evidence it's advantages. Good. Also create a lot of complications. Looking a little bit further out around I'll combine this with two, two points is one. I want to dive into your head a little bit, but two, the question was around regulations in crypto where they're at now, what's sitting on the plate and then let's take that question one step further, as an investment professional in this space.

What would you want to see? What do you not see today that you'd like to see to help solidify this investment and make it more mainstream going forward?

Dr. Keith: I think on top of everyone's list is a fiscal Bitcoin ETF or a physical ether ETF. Right now, obviously, a lot of people have money in their retirement accounts.

That's their biggest source of events. And it's tax deferred. And so the ability to invest in these coins directly, or in a fund format, because if you invest in a physical Bitcoin ETF or a physical ether, ETF, which are both available in Canada and some other countries already you don't have to worry about the custody, right?

It's in your brokerage account, it's in your IRA account. You don't have to worry about the tax implications. You could leave it to your heirs. You're not going to lose the password or the hardware wallet. There's a lot of advantages to holding this in a fund form. But if you're holding this in a closed-end fund structure, or in a futures ETF structure, those could go to a big premium or discount or have a backwardation or contango as well.

Chris: Okay. Trying to think of the next question off of that one, because it's a,

Dr. Keith: I'll go back and answer your regulations.

So the regulation comes in kind of three forms, right? One is, does a country want to just let crypto be what it is? Do they want to completely ban it or do they want to co-op that into the government structure?

And so there, there are countries in the world that are completely banning cryptocurrencies or cryptocurrency mining. And there's some countries that say, oh, this is such a neat idea. I'm going to turn my fiat currency into a digital point of stable coin. And I'm going to let people transact digitally using my Fiat currency.

All right. And there's a lot between completely banning it and having the government run it. But that's the. There's two main things that that are happening right now. One is what is the taxation of these assets and how do we compel people to pay their taxes?

And what, can the brokerage firms be subpoena to, turn on 10 99 and so on. And then there's this the second issue as to what is a security, because if you say that Bitcoin, isn't a security because no one's in charge and XRP or ripple is a security because we know who's in charge of, they kept a lot of the tokens for themselves right now.

You're saying, okay, if this is a secure, Now is the sec going to regulate this. Doesn't have to be on a regulated exchange in all of this. And so there's a lot of attention around the how we test that says, what makes something a security? And if the sec believes that. That you have made an unregulated securities offering.

That's an issue. And now block fi just had this tremendous fine, a hundred million dollar fine from the FCC for some of their yield products. And so what some people are doing is they're staking their cryptos. And so you could hold this on an exchange. And so in Gemini, they'll pay you 8% interest on your Gemini stable coin.

They'll pay you 150 basis points a year on your Bitcoin or Ethereum. So now this becomes in the stable point sense, it becomes like a money market in the Bitcoin or ether. It becomes like a stock dividend. And now this starts getting interesting with, what is this yield does this yield become taxable?

Does this yield make it a security? And so in, in block FI's case they ran a foul of the sec in some area of offering these yield price.

Chris: Isn't some of this staking really just securities finance. I've read through some of the documents and it reminded me a lot of reading through securities finance documents of great I'm staking.

It was the same way of, hypothecating securities for custody, and then having those lent out, and then you were getting a yield for that. It's very reminiscent of that. The one thing that's a little scary is you're basically have this securities finance industry that's growing, which I, listen to, it allows shorting.

There's lots of advantages to building this out, but on the current situation where everyone has their opinion letter from some countries saying I'm not a security, a lot of this activity doesn't fall under any regulations, which should mean we can go back in history. And we've seen lots of further regulations on securities finance for a variety of different reasons.

Dr. Keith: And part of this is the protocols are also trying to attract. And whoever pays the best staking rate is going to attract the most liquidity. And so when you're trying to build a decentralized exchange, you want to have market makers want to have assets deposited. You don't have trading volume, and you're going to incentivize that by giving people tokens.

So the more you trade on a decentralized exchange, the more they'll rebate their native token in order to trade there. So it's venture cap, right? Where we're, again, we're trying to put money into a business we're trying to grow that business.

And then they're giving you, dividends for paying attention or contributing capital to that business. But in staking you could actually delegate your crypto to someone else. And they pay you. And as you said, that sounds a lot like securities lending.

Chris: Yeah. In my mind. There's good and bad to that. There's a lot of advantages to having a growing securities lending industry within crypto and the ability to create short market. We're not going to dive into that in this call for certainly as we're running short on time. There was a couple of other questions that came in.

Some of them are extremely specific. Hopefully, Keith, you can have a chance to maybe answer some of those directly just in typing. But in our last couple of minutes, I wanted to take this time and understand, some of the things that you're working on and that you're seeing in some of the nuances of the people that are doing that next step in this market that is going to affect people's view of am I going to adopt this as an investment platform?

And how investors should think about next step. Cause there's a lot of people out there that as much as we're seeing growing numbers I still get a lot of questions and there's a lot of money in the hands of our RIAs that are being bombarded with questions about how should I think about, crypto, should it be a part of my portfolio?

What can you supply as that next step of thought for the people on this call or the people who are gonna listen afterwards? How can they get over the hump of should I adopt this and for what kind of client? Perhaps, maybe

Dr. Keith: the first thing. Trade this small, right? It really shouldn't be above, one or two or 5% of an allocation.

And these kids who are putting all their money on one speculative coin and making millions of dollars I hope they have an exit strategy before it turns the other way. And as adults and professional investors we want to manage the risk of our portfolio and be diversified.

So the first thing is, do this small and believe that this is your risk allocation. So this is for risk seeking investors, this is going to be the most volatile part of your portfolio. But to some extent it does replace venture cap or, small cap tech stock investing say.

And so this is going to be for your most speculative clients. But if they do it small, it might have some interesting portfolio implications. But you have to do your homework, you really need to know what's going on. Do that fundamental analysis we've talked about.

And really the number one thing, is differentiate between what's a pure speculation, right? And what's an investment in a business that really does have a long-term use case. So investing in a decentralized exchange or a borrowing and lending platform that has billions of dollars locked in, and, a lot of transaction fees going back and forth, that's a completely different investments that you could fundamentally justify relative to, Doge, Shibu, it's just a new pets.com, right?

It's inherently speculative. And somehow the valuation has gotten to $10 billion. But it can't stay there in the long run.

Chris: What blows it up? What, you always hear I remember this was in the.com era. I remember in a lot of different it's oh, this is a bubble.

And you have half the camp. That's saying, no, it's not. And half the camp saying is this is just not sustainable. And we all know, hindsight's 20, 20, we can look back in history and we knew it blew, finally ended the dot comes. I don't know. In your opinion what's that catalyst that makes people stop pushing random, no-named tokens to, billions of dollars of valuation.

Dr. Keith: I think one of the things that got us. And it's actually bizarre is that, Benjamin Graham says in the long run, the market is a weighing machine and in the short run it's a voting machine. And, at this point in the cycle, people have a huge tolerance for speculation, right?

Especially the retail investors, they got their $1,400 stimulus check. They didn't need the money. And so they put it in some speculative crypto, and it blew up 10 times, and then they were addicted to this. But you could say that there's been some enablers here in that these centralized exchanges have a lot of power because there's 15,000 tokens and those topics changes only list a hundred or 200.

And one of the biggest increases in the value of a coin. Often comes surrounding that exchange listing. So if it goes from only being accessible on a decentralized exchange to one of these top centralized exchanges, if it's listed on Robin hood, it must be good.

It can't be where zero of Robinhood's going to let us trade it. that some of these crypto trading platforms, they're allowing access to these things that are inherently speculative. And when they do that it's making it easier for people to put assets into those protocols.

Chris: Yeah. I agree. I was amazed when I first, even years ago, decided to dive in and deploy some real money and watch and monitor and educate myself how easy it was. It was almost too easy for me to just wire money, buy assets, move things around, obtain. Some things I just had no idea what they even were.

Dr. Keith: So it was like buying a stock, you just type in a random sicker and you come up with a stock. The creator, the biggest movers of the day and

Chris: the creators of these platforms they're no dummies. They made it look exactly like you were logging into your brokerage account.

You're going to buy some stock. They made it extremely easy. On that point any final comments, cause we're coming down to the last couple minutes. Anything else you want to share? You think is important from an investment standpoint.

Dr. Keith: So think about this. At CAIA, we say, do your own homework, right?

We've got a 900 page level one book, a 900 page level, two book, and it's all there for people to learn, to do due diligence. And so whether it's hedge funds, private equity, real assets, and now Defi is on the CAIA level two exam. And in October we might have an article on natural language processing for classifying NFTs, right?

In the FDP curriculum, classification and clustering of NFTs using machine learning models. But what CAIA and FTP are all about is doing your homework and being educated and hopefully we've given you some tips. This is all super volatile, right? Don't try this at home.

Don't trade it too big. And know. What you're doing, look at the fundamentals. And if if a platform has millions of dollars of trading volume, billions of dollars of total value locked, that's inherently a better investment in the long run than something that says, oh, look, we have a cute dog.

And, we're here for fun. And you should be able to differentiate between those two.

Chris: Yeah. There's some very interesting names out there that I many websites, I still haven't figured out what they do, but

Dr. Keith: they have a catch-on answer to not repeat on a webinar.

Chris: Oh, yes. Yes. I won't don't say any names.

Keith thank you for your time. And for everyone listening, this is really just scratching the surface. There's so many other things that unfortunately we didn't have time to dive into that are occurring in this space. Be sure there's tons of white papers and research out there at CAIA.org, a lot of different articles written by Keith himself.

So there's no lack of resources for education. As Keith said, take your time research, educate yourself and, have some inclination of, what you're investing in and how you're going to allocate that. And why thank you, Keith, for your time. And didn't see any other questions come in last minute.

So will. I cut that here. And if you do have follow-up questions, reach out to me or we have chapters all over the world. If you've got questions or you want to have follow-ups reach out to your local chapter, learn who they are. They're all people who work in the alternative investment space.

They're a great resource for continued education as well.

Dr. Keith: And thanks for inviting me to this conversation today, Chris, and hopefully next time it will be in Seattle. Yes.

Chris: Hopefully we'll start to do some. In-person nice to get that to live events. I agree.

This concludes our webcast. Thank you all for joining us. And we hope you'll connect with us again at our next event. Thanks, everyone.