Bitcoin Blog

I'm Ryan, and I decided to write down my investment thesis for Bitcoin. It'll be interesting to look back years from now and compare the outcome with the thesis. This will also save me some novel length texts when asked "what are your thoughts on x aspect of Bitcoin"... I will just send people here. This article explains why I have conviction in Bitcoin as an investment asset. While it's up to each person to determine their allocation size based on their goals, financial needs, and risk-tolerance, it is my position that a zero-allocation policy towards Bitcoin presents a significant (and avoidable) risk towards future wealth preservation. Doing the work to understand Bitcoin requires time and energy. Disruptive technologies are often misunderstood early-on since incumbents, and the systems dependent on incumbents, have vested interest in its failure. There are plenty of analogues available in history with wide-spread skepticism and rejection of now ubiquitous technologies such as electricity, automobiles, personal computers, and the internet. Discerning what information is objective, comprehensive, factual, and logically sound is not easy. And after that, it's even harder to then use these facts to assess what are the probabilistic futures, and based on that what investment perspective to take today.

I started reading and listening to Ray Dalio back in 2017, to develop a better macro economic and investing framework. I was persuaded by his global debt super-cycle thesis (HERE) and his principles for dealing with the changing world order (HERE). Dalio lays out a compelling case for why the US, and the world, will be entering an era of severe monetary debasement and inflation. Like Dalio, I initially increased my gold allocation as a hedge to this risk. As I continued looking for alternative solutions to preserve wealth, I dove deeper into Bitcoin and soon realized this nascent, software-compatible, enhanced "Digital Gold" technology was the superior solution to the problem Dalio identified. After COVID crashed markets, Governments responded by printing trillions of dollars (see terms like "Quantitative Easing" or "Yield Curve Control"), and the macro setup for Bitcoin to explode in price became clear and I decided to write this blog (original publish in April 2020, with charts and sources updated later in year). 

Outline:

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Overview of Bitcoin Thesis:

Bitcoin is the best store of value technology in history, and exists at a point in time when storing value is (i) the single greatest problem to solve for individuals and institutions globally and (ii) other traditional vehicles for storing value are overvalued and offer low expected future returns. In this article, we will examine the problem with holding fiat currencies (i.e. government prescribed currency subject to supply inflation) in the current macroeconomic environment, explain why Bitcoin solves this problem, size Bitcoin's total addressable market, and compare Bitcoin as an investment vs. other "stores of value". This blog post is called "offzerobitcoin" because while it's difficult to recommend how much Bitcoin any given individual should hold, I believe getting off zero and then learning more about the asset yourself is the right start. 

Debt is the Problem:  Rapid fiat debasement and inflation is the most likely outcome of the global debt super-cycle 

The world added another $24 trillion dollars in debt (+9.3% annual growth) in 2020, leading to an unprecedented 355% Debt-to-GDP ratio. Governments specifically accounted for $12 trillion, increasing their debt to 105% of global GDP (up from 88% in 2019). This is an acceleration of a longer term trend. 

Table: Total global debt goes parabolic to 355% of GDP

Policy responses to the COVID-19 pandemic are turning the trend line parabolic. The U.S. Federal Reserve, Bank of Japan, European Central Bank, and the Bank of England expanded their Quantitative Easing (QE) programs by a total of $7.8T in 2020 (+50.6% vs. 2019). United States fiscal spending sent debt soaring to $29.6T in Q3 2020, representing 127.2% of U.S. GDP. 

Table: US Government debt spikes to 127.2% of GDP

The United States, and other indebted nations, are faced with the option to hard default (meaning: national bankruptcy claim with debts wiped out and lose all credibility on global stage), austerity (meaning: taxes are hiked aggressively, while social welfare programs, education, and military budgets are slashed by 50% or more) or a "soft default" (meaning: government finances its debts by printing increasing amounts of its own currency). Hard default will be avoided at all costs and there is no political appetite for austerity because elected officials seek re-election and policies to hike taxes and cut spending are incompatible with that. The only path forward for governments is the soft default, which is to inflate their way out of debt. It is the nature of fiat to lose purchasing power over time, and the macroeconomic conditions are accelerating this trend.

What is inflation? 

Inflation is a complex subject and impacts asset types and socio-economic classes in varying ways. Due to its complexity, inflation is often misunderstood. Without getting too technical, I'll cover two common mistakes I see people make on the subject: 

1. The US government's Consumer Price Index (CPI) is a frequently reported on metric that is often used interchangeably with "inflation". This is misleading, since the CPI represents only a small, subset of economic goods. Many of the most valued assets that impact quality of life, such as college tuition (+497% in the last thirty years), healthcare, real estate, and stock prices (the P/E multiple expansion in the S&P and NASDAQ correlates with the expansion of the Fed's balance sheet) are not included in the CPI measurement but are amongst the most impacted by inflation. With that said, even if we go with the artificially low CPI metrics, the U.S. dollar has lost 50% of it's purchasing power since 1990. Some argue (and I agree) that a better long term indicator of the true rate of inflation is the expansion of the money supply. In 2020, the U.S. printed 70% of all M1 money stock and 25% of all M2 money supply (ever.. since inception). A reasonable estimate for M2 money growth over the next decade could range from 5% - 15% annually, I argue this is a better long-term forecast for inflation than CPI. 

Table: CPI Purchasing Power of US Dollar gets wrecked, and this under-reports it. 

M2 Money Stock: goes parabolic (not stopping)

2. Inflation exacerbates wealth inequality. The pernicious consequence of inflation is that it most negatively impacts the 50% of Americans in the lower and middle class who's net worth is primarily parked in cash, while it drives up asset prices of the ultra-wealthy causing increased wealth disparity. Americans increasingly are taking on debt to afford a home, college tuition, a car, and healthcare. Additionally, inflation growth far exceeds the growth of minimum wage salaries. In CPI inflation-adjusted terms, minimum wage has declined by -36% since it's peak in 1968 (just before the U.S. went off the gold standard, and experienced a decade of rapid inflation).  Check out https://wtfhappenedin1971.com/ if you want to see some mind-blowing charts that outline the impact of inflation on society. 

So what does all of this mean for individual investors and corporations? It means that holding cash is like holding a melting ice cube. It means that everyone needs a strategy for how they plan to beat the cost of capital and preserve their wealth. In this environment, if you're getting less than a 10% annual salary raise or your investments are returning less than 10% per year you are operating at a loss. 

Bitcoin is the Solution:  Bitcoin's superior monetary properties

To understand Bitcoin, one must first ask themselves the question 'what is money?'. Money serves two primary functions, a store of value (SOV) and a medium of exchange (MOE). Gold was chosen on the free market and lasted for thousands of years because it best approximated the five characteristics of sound money: scarcity, durability, divisibility, recognizability, and portability. Money should be scarce so that its value cannot be debased, durable so that one can store it and use it later, divisible for different purchase sizes, recognizable so it cannot be counterfeit, and portable to easily move it from place to place. While gold served both SOV and MOE functions for thousands of years, it's shortcomings in the divisibility and portability properties ultimately led to the introduction of paper notes (i.e. fiat). Governments issued notes and coins that represented claims on Gold, and were much easier to transact with (better MOE). Over time though governments fell subject to printing more money than they had gold backing, and became insolvent. To address this, the US confiscated the privately owned gold of individuals, and then detached the value of the fiat notes from the value of the underlying gold. Now that fiat has no backing, governments have no check on their ability to print as much money as they deem necessary moment to moment, crisis to crisis. This results in the primary drawback of fiat, which is the lack of scarcity and the bad incentives which lead to the inevitable debasement of it's value over time (worse SOV). Elected officials will consistently choose to discount future costs in favor of immediate benefits since it improves their re-electability, leaving future generations with a ticking time bomb of debt that ultimately can only be serviced by hyperinflation.

When we apply this framework to Bitcoin, it is clearly a superior store of value than any other form of money, and it is just starting to demonstrate its long-term potential as a medium of exchange.

Bitcoin as a Store of Value: Bitcoin is superior to Gold on all five dimensions of sound money. Where gold supply is scarce and inflates at an average rate of 2% per year, Bitcoin supply is terminally fixed at 21 million. Where gold is clunky and costly to transport, Bitcoin can be sent anywhere in the world, with final settlement, in minutes, for a few cents. Where gold is costly to divide from bars to coins and has a high barrier to purchase, Bitcoin is infinitely divisible at no cost and you can buy as little amount as you want. Where billions of dollars of gold are counterfeit, Bitcoin is perfectly recognizable and constantly audited by the mining network. Bitcoin's properties as decentralized, cryptographically protected information make it more censorship resistant than gold (US Government confiscated its citizens' gold with Executive Order 6102 in 1933, this is not realistically enforceable with Bitcoin). And since Bitcoin is software, companies can plug into the bitcoin network to add value, drive adoption, and build second layer innovations on top of it.

Source: https://winklevosscapital.com/the-case-for-500k-bitcoin/

This store of value thesis is gaining mainstream adoption as private and public companies adopt it as a treasury reserve asset.

Critics of Bitcoin's store of value thesis often refer to its volatility. While Bitcoin is volatile over short time frames, if one expands their time-horizon to multi-year and reframes volatility through a lens of point-to-point risk, this volatility becomes less of a concern. In only two of Bitcoin's first twelve years has it posted a negative year over year return, and its average annual growth rate is +173.4%. Volatility can also be addressed through allocation sizing. Allocating 1%-5% of your portfolio to Bitcoin can allow your portfolio to benefit from price appreciation while nerfing its impact during drawdowns. 

Other critics claim that since there are thousands of cryptocurrencies (in the present and in the future), Bitcoin is likely to be disrupted. This view fails to identify two key insights:

Bitcoin as a Medium of Exchange: It is important to understand that any currency which will eventually be used as a medium of exchange must first prove itself on the free market as a good store of value. Proving to be a good store of value is the first phase which drives adoption of the currency. Then, once a critical mass own the currency it can be useful to transact with it. Nik Bhatia wrote a phenomenal book called "Layered Money", that explores this on a much deeper level. Many critics of Bitcoin as an MOE will say that transactions take too long and that fees are too high. These critics make two errors in their assessment: 

1. Bitcoin transactions are settled in finality. Mastercard/Visa/AMEX transactions are not settled in finality and as such are not the right comparison. The right comparison is Bitcoin vs. Wire Transers/ACH/SWIFT. When compared apples to apples, Bitcoin is orders of magnitude quicker and cheaper. 

2. Bitcoin's second layer Lightning Network is starting to demonstrate its value for scaling Bitcoin transactions. Jack Maller's company Strike, is built on the Lightning Network and is revolutionizing cross border payments on an open source network. Through Strike, you are able to send US Dollars from New York to a colleague in London who wants to receive them in British Pounds, in an instant, for no cost. Jack's company does this by using the bitcoin network to instantly convert the USD into BTC and then into GBP as it sends from one party to the other. This could profoundly streamline the global remittance process in the short term, and represents a real threat to closed network payment platforms such as Venmo, Paypal, and Square in the medium term. Even if Lightning fails, Bitcoin can still scale in a semi-decentralized way with layer 2 and layer 3 technology companies building functionality on top of it. Aggregating and processing transactions on behalf of their users. 

Another criticism of Bitcoin as an investment is that governments will ban it or regulate it out of existence. I agree that taxation is the primary tool that governments will wield should they view bitcoin as a threat to their sovereign currency. As long as Bitcoin is heavily taxed it will be challenging to gain MOE adoption. In this scenario, Bitcoin could exist as a store of value asset alongside fiat currencies, which will continue to be used as a medium of exchange. This future would be non zero-sum and bitcoin can still establish itself as a multiple of Gold's market cap just as a store of value asset that doesn't threaten sovereign currency.

With that said, Governments that tax bitcoin too heavily will do so at their own risk. Politicians risk not getting re-elected once their voter base increasingly holds Bitcoin and wants pro-Bitcoin policies. Additionally, the world is increasingly interconnected and mobility is high. Punitive taxation on an innovative technology will create a flight of human and capital resources to other more "Bitcoin friendly" locations. The U.S. embraced the internet in the .com era and as a result the FAANG stocks are driving much of the economic growth and value in U.S. economy. Other regions, like the EU have not benefited to the same degree. If Bitcoin provides a similar degree of economic value then governments who embrace the technology stand to benefit, both proactively and/or reactively when other governments try to ban. This is the game theoretic perspective of why governments who try to ban or regulate bitcoin out of use (China, Pakistan, India, Nigeria) have failed so far, and will continue to fail (adoption typically goes up). 

Bitcoin's value proposition actually grows stronger when world governments debase their currencies, increase censorship on their citizens, and accumulate more centralized power. 

Sizing the Market for Store of Value Investments: It's MUCH larger than Gold's $10T market cap

While Bitcoin's narrative as "Digital Gold" is useful, it risks under-sizing the true "total addressable market" (TAM). Some of the more aggressive price targets for Bitcoin are based on it overtaking the "Gold" market capitalization of $10 trillion USD ($500k per Bitcoin). My view is that this is actually still too conservative, because Bitcoin is a market expanding technology.

An analogy I'd draw here is with Uber. Many investors initially sized Uber's TAM based on the taxi market, but in fact Uber's value proposition is so superior to taxis that it is disrupting the entire transportation market (including car ownership, car rentals, public transit, and delivery services... all in addition to taxis). 

In a similar manner, Bitcoin's value proposition is so superior to Gold's, it will surpass not only Gold's $10T market cap, but it will eat into the entire "Store of Value" market globally. Companies like Coinbase, Square, PayPal, Strike, and many others are already plugging into the bitcoin network to offer solutions to individuals that expand it's market use. There is no programmability or innovation to gold, and gold does not exist in a digitally native format usable by billions of peoples via their mobile phones.

When we look at other SOV market sizes, bonds are sized at $128T globally, equities drive $89T, and residential real estate is $220T. This is $447T in market cap between gold, equities, bonds, and real estate. To clear the 10%-15% cost of capital hurdle rate, investors will move out of low to negative yielding bonds. The bond trade has been running it's course since the 1980's and has no juice left, this is where I see the biggest opportunity for Bitcoin (even larger than Gold). Bitcoin will also eat into the equities trade as P/E ratios are at historic highs and bitcoin offers better risk adjusted returns than most individual stocks and most ETF's that are littered with zombie companies waiting to breathe their last breath. Residential real estate is often used for storing value, especially in international markets such as China, which now accounts for the largest share of global residential real estate value globally at 26%. This is a less obvious market for Bitcoin, but the advantages are clear, Bitcoin is more liquid, it has no property taxes or upkeep expenses, and it's price appreciation is far superior. 

2030 Bitcoin Price Target: Disrupting a percent of each global store of value asset class

Summary: 

Bitcoin's superior monetary properties make it the best store of value technology ever created, and its exists at the perfect moment in time. The clear path forward for governments is to continue debasing their fiat to try and inflate their way out of debt. Bitcoin offers individuals and corporations a life-raft for the upcoming flood of new money that will be pumped into global economies. 

Bitcoin's decentralized, high powered computing network protects against single points of failure and makes it highly anti-fragile. Increasing adoption drives price, which drives demand, supply remains unchanged, and this creates a virtuous cycle that is highly reflexive to the upside. Bitcoin is when a perfectly engineered, digitally native, decentralized financial system meets network effects. The result is that Bitcoin adoption can be modeled in line with Metcalf's law (or in meme terms, Bitcoin = number go up technology).