Tim Johnston

A New Framework of Ownership

Image | via Lorraine Grubbs

Image | via Lorraine Grubbs

Ownership of crypto assets is about control. ‘Owning’ a crypto asset allows the holder of the private keys to control future transactions of those crypto assets. Ownership of crypto assets doesn’t feel the same as ownership of other assets, which usually comes with physical possession and/or legal rights. 

Let’s look at an Ethereum transaction. I provide Bob my Ethereum public address and he sends me 5 ether. My public address can only be controlled by the corresponding private keys, which I store securely. A helpful way to think about public addresses and private keys is like email. Anyone can send to my email address (public address), but only I can send from my email address with my password (private keys). 

I now ‘own’ 5 ether and this ‘ownership’ affords me the right to control those 5 ether. They have been assigned to whoever has the corresponding private keys, which in this case is me. The 5 ether will always reside on the Ethereum blockchain. I cannot take my 5 ether off the Ethereum blockchain, store them on my hard drive and at a later date bring them back onto the Ethereum blockchain to sell or transfer them. They are digital assets that live on the Ethereum blockchain. The 5 ether I own are assigned to me, or transferred to me, such that I now have control of 5 ether that I did not have before. I, and only I, have the ability to control these 5 ether through my private keys.

Ownership of crypto assets doesn’t feel like ownership in the same sense that I own a house or I own a gold bar. Ownership of other assets comes with more than just control, usually physical possession and/or legal protection. 

Let’s consider other assets:

  • Gold - owning a gold bar likely means I have physical possession of that gold bar, which I can store in a vault or bury in my backyard. I continue to own the gold bar until I sell it or forget where I buried it

  • Property - owning land gives me control of the land, physical possession and legal rights

  • Shares - after buying shares in a company, my name goes on the company’s register. Nowadays, this is largely a digital experience. I have control of these shares until I sell them, usually on an exchange. Sometimes I do not have control of these shares, where for instance I am a minority shareholder and a critical mass of shareholders decide to sell all the shares in a company to an acquirer, in which case I am also forced to sell my shares

  • Cash (paper money) - I control and have physical possession of the $20 note in my wallet, but ownership of cash in circulation resides with governments and central banks. I control the cash until I exchange it for goods or services

Ownership of crypto assets is limited to control. There is no physical possession or legal protection. This might feel like a weaker form of ownership, but it is arguably the strongest form of ownership. Crypto assets are the only assets in human history which are unseizable. Cash, gold, shares and property can all be seized by the centralised actors behind these assets. Unfortunately, this is not an uncommon experience where governments cannot always be trusted to act in the best interests of their citizens.

Crypto assets are digital assets that reside on a digital ledger where ownership is the assigned right to control future entries on that ledger. If I buy or receive more crypto assets, I have the ability to control more future entries on that ledger in the future. This may seem incredibly simple but it is, in fact, incredibly powerful.

Crypto is Based on Thin Air

President Trump recently shared his thoughts on Bitcoin and other crypto assets. We were unsurprised to learn that he is not a crypto enthusiast. The President’s concern that crypto assets are “based on thin air” is not uncommon. Crypto assets are not backed by anything. But the premise that an asset cannot be valuable if it is not backed by something is short-sighted. Gold, fiat currencies and paintings are all valuable assets not backed by anything. The true determinant of whether something is valuable is the tension between supply and demand for that particular asset. 

First, let’s start with valuing assets. How do we value assets? The simple answer to this age old question is the value of anything comes down to what someone is willing to pay for it. The financial services industry has developed models and techniques to determine the value of a variety of assets. While these models might help determine a range of potential values, the inputs to the models inevitably involve a great deal of subjectivity. (Let’s consider the alternative. If the models didn’t involve subjectivity, everyone would use the same inputs, the models would provide the same answers and asset prices wouldn’t fluctuate). Valuation is art as much as it is science and while these models may help, the true value of an asset comes down to what someone is willing to pay for it. Any other definition can only be theoretical.

How do we work out what someone is willing to pay for an asset? The answer: markets and the forces of supply and demand. Markets exist to facilitate the trade of assets. Less liquid assets are traded infrequently and price discovery is more difficult. Supply and demand are the forces that drive markets. Supply comes from issuing new assets and from sellers of existing assets. Demand comes from buyers looking to purchase at an attractive price. The value of any asset comes from the ever-present tension between supply and demand. 

Markets tell us that crypto assets are valuable. Crypto markets are currently worth around USD$250bn. That’s a lot of value based on thin air! As is the case with every other asset class, supply and demand determines the value of crypto assets. Supply comes from new assets, increasing supply of existing assets and sellers. Demand comes from the increasingly large number of people who are realising the value of crypto assets. The question is not “how are crypto assets worth anything if they’re not backed by anything?” Rather, the pertinent question is “what is it about crypto assets that makes them valuable”? The answer: crypto assets have unique characteristics that are unlike anything else known to mankind.

Crypto assets often have the following unique characteristics:

  • Scarcity - using Bitcoin as an example, there will only ever be 21 million bitcoin in existence. If we think of Bitcoin as money, this is ‘hard’ money. Unlike fiat currencies governed by central banks, it is impossible to print more bitcoin, thereby devaluing all the other bitcoin

  • Digital - crypto assets are digital. The concept of assets in the digital ether is often difficult for people to grasp, they cannot touch or feel it and nor do they receive a share certificate. Native digital assets can be traded digitally with less friction than alternatives. As the world becomes more and more digital, digital assets make sense

  • Utility - crypto assets can be used for a variety of purposes, with different assets suited to different means. People can use Bitcoin as a personal, unseizable bank account, and all they need is a smartphone and internet connection. Crypto assets are often programmable, leading to a number of novel use cases, often disrupting and disintermediating incumbents. The unique economic model of crypto assets means they can capture enormous amounts of value in the process.

Gold

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Let’s compare Bitcoin to gold. Why is gold valuable today? The short answer is because of supply and demand. There is demand for gold because it has always been valuable, because thousands of years ago, a group of people decided that gold has a number of unique properties which meant it would function well as a form of money. Gold is somewhat scarce, so it cannot be duplicated and printed (unlike today’s fiat currencies). Gold is durable, so people can store their wealth with some degree of assurance. It is malleable so it can be shaped into functional coins. Gold is fungible, meaning any piece of gold is replaceable with another piece of gold. Gold, particularly when shaped into a coin, is portable, meaning it can be carried around and exchanged with other people to facilitate trade. Gold became valuable because of these properties. The people of the day decided that gold is valuable and should be valued. This cycle developed further and further until gold was recognised as being valuable, by people all over the world. 

It is important to note that this process did not happen overnight. Imagine presenting a group of people a new asset and proclaiming that it should be immediately valuable. It takes a long time for people to realise the value of a new asset class, as they become familiar with the asset and as network effects develop. Just as gold did not become valuable instantly, nor did crypto assets and nor will they realise their full value for some time. 

If we compare Bitcoin to Gold, Bitcoin’s properties are superior. Bitcoin is more scarce than gold, easier to transfer, more divisible, equally fungible and easier and cheaper to store. On top of this, Bitcoin is programmable and is impossible to seize, unlike gold in the United States in the 1930s which was seized by President Roosevelt. The only advantage gold has over Bitcoin is it’s shiny. In time, more and more people will realise Bitcoin’s superiority to gold, demand will increase and the value of Bitcoin will increase. The estimated market capitalisation of gold is between US$8 and US$10 trillion dollars. Given Bitcoin’s current market capitalisation of around US$170bn, we believe there is a strong case that Bitcoin will capture some of the value from the gold market which is around 50 times larger.

Fiat Currency

When we talk about crypto assets as currencies, many compare to fiat currencies (US Dollar, Australian Dollar etc) which is “backed by governments.” I often smirk when I hear  people say the US Dollar is backed by the full faith and strength of the US government. The problem with this argument is this ‘backing’ exists until it doesn’t. Fiat currency is valuable, until it’s not. If macroeconomic problems creep in, people start to doubt the value of the currency. Once doubt creeps in, it can be a slippery slope until the currency is worthless. 

Sadly, there is no clearer example of this than the current state in Venezuela. Hyperinflation has recently been reported at 10 million percent and the local Bolivar currency is worthless.

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Venezuela is not an isolated incident. Hyperinflation has plagued many countries over the course of history.

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I’m not suggesting that the US or any other major economic force is soon to be affected by severe inflation. I am suggesting that because something is ‘backed’ by a government gives it no more value than a crypto asset that is based on thin air.

Paintings

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Let’s consider a painting by Claude Monet. A Monet painting is not backed by anything other than a canvas. The painting has no intrinsic value. Yet, it is undeniable Monet paintings are valuable. Different paintings by Monet will have different value, depending on the particular beauty of those paintings. And of course, paintings by Monet are scarce. Monet died in 1926, so we know that there will never be any more Monet paintings.

We can draw a comparison to crypto assets. Crypto assets and rare paintings are backed by nothing, they have no intrinsic value. Yet this does not stop them from being valuable. Investors often ask why crypto assets are valuable if we can simply create new crypto assets. We would say the same about paintings. I can paint a picture of some water lilies at my local pond, but this will likely be no more valuable than any crypto asset I produce. The crypto asset that I create needs to have unique characteristics that are deemed valuable by the broader crypto community, just as my painting needs to be deemed valuable by the art community.

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The advantage that gold, fiat currencies and paintings have over crypto assets is they have been recognised as valuable for centuries, even thousands of years. Crypto assets are ten years old. It is highly unlikely that the value in the US Dollar will evaporate over a short period of time. While we think it is also unlikely this will happen in crypto assets, any unravelling of value in crypto assets is more likely than the same for assets which have long been recognised as valuable. In this regard, crypto assets are riskier than the traditional assets discussed, and this is well known and understood.

Crypto assets have unique properties that make them valuable. They are not backed by anything, they might be based on ‘thin air’, but this does not mean they are not valuable.

Investing in Crypto Assets: Apollo Capital vs DIY

Investors can invest in crypto assets in a number of ways. Historically, the only option has been a DIY approach. More recently, as institutions enter the market, structured investment options have appeared, including Apollo Capital.

We have analysed the advantages and disadvantages of each approach. While we won’t pretend our conclusion is not biased, we have tried to keep the analysis balanced. Hopefully this will help investors considering a DIY approach versus investing in Apollo Capital.


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Let’s start with the benefits of a DIY approach.


Save on Fees

This is the most obvious advantage to DIY investors. The Fund charges a 2% management fee and a 20% performance fee, subject to a high watermark. A DIY investor saves these fees.


Investment Approach

The investment strategy of the Fund may not be suitable for every investor. The Fund’s strategy offers exposure to broad crypto markets, including large liquid crypto assets, newer projects and a third bucket called opportunistic trading. An investor may prefer greater exposure to other parts of crypto markets. For example, an investor may prefer a portfolio dedicated to ICOs and new projects.


DIY Advantages

Many DIY investors simply prefer doing it themselves. Many investors like having control and flexibility of trading crypto in their own way. Typically these investors are heavily involved in monitoring crypto markets.


Trust

Trust is a big issue in crypto. Crypto assets are a major technological breakthrough in removing the need for a trusted third party as intermediaries. For example, Bitcoin removes the need for a trusted intermediary to move money from one person to another. Some investors may question the need to place trust in a Fund when they can hold crypto assets themselves. Some investors may question the trustworthiness of Apollo to hold crypto assets on behalf of our investors. I understand where these concerns come from. If I were objectively analysing a crypto Fund where I didn’t personally know the key executives involved, I would have the same concerns. 

At Apollo, we try to do more than simply say ‘trust us.’ Contrary to the typical hedge fund, we are deliberately transparent with our operations and analysis of crypto markets. We release a weekly newsletter, monthly performance, quarterly market analysis, regular Webinar updates and we readily make ourselves available to investors and those wanting to learn more about crypto assets. We are publicly verifiable and we have staked our personal and professional reputations on Apollo Capital. We realise trust needs to be earned and that’s what we seek to accomplish. And we understand this may not be enough for some people that prefer to DIY.

The market infrastructure for investing in crypto will eventually mature to the point where this no longer becomes an issue. Just as investors don’t think twice about the level of trust or security involved in an equities Fund, we are confident crypto investments will mature to the same point. In time, we will see more crypto Funds with sophisticated and segregated approaches to custody, as well as a range of other crypto investment products like ETFs, indexed funds and listed derivatives. We like to think Apollo is helping pioneer the maturation of the asset class.

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Now to the advantages of investing in Apollo. 

Rather than make this a blatant sales pitch, we’ll highlight some of the advantages of investing in the Fund that investors may not have considered.

Trading & Execution

Trading crypto assets starts by opening accounts at trusted crypto exchanges. First and foremost, this involves knowledge of the more reputable exchanges and avoiding those that are less trustworthy. Investors will need to pass AML/KYC checks for each exchange, transfer fiat currency and transfer crypto assets to cold storage once assets are purchased. To construct a diversified portfolio, investors will require accounts on various exchanges and will need to track crypto assets as they are transferred. 

Unlike equities, trading crypto is not as simple as opening one brokerage account and gaining access to half the world’s listed securities.

Security

Securing crypto assets is very difficult. While we mentioned above that trust in Apollo or our custody processes might be an impediment for some investors, we can easily flip this and say our security processes are almost certainly stronger than a DIY investor’s. All crypto investors (us included!) should not leave crypto assets on exchanges. Investors will need to source, configure and use a suitable cold storage device. Cold storage devices typically only offer support to a limited range of crypto assets, so multiple solutions will be needed for a diversified portfolio. Lastly, DIY investors should consider a disaster recovery plan. If they are hit by the proverbial bus or if something goes wrong, are their assets recoverable, including by their estate? In December last year, one of Canada’s largest crypto exchanges went down with $190m in customers’ funds due to the death of the founder and CEO. He was the only one with access to the assets. 

Storing and securing crypto assets is complex and technical. Investors must invest a great deal of time and energy to securing their assets properly. 

Reporting & Tax

Reporting and accounting for crypto transaction is straightforward for a simple portfolio of Bitcoin and Ethereum. Trading a range of crypto assets is significantly more difficult, like trading a range of foreign currencies. Transactions from one currency to another, to another and back to the original all must be reported and accounted. Crypto is far more complicated as trades are usually into Bitcoin or Ethereum, then into another asset, then into another asset and back to Bitcoin or Ethereum and maybe back in to Australian Dollars. Unfortunately, investors cannot simply declare gains or losses back into Australia Dollars. Every trade must be accounted for with a corresponding gain or loss.

There is an economies of scale benefit to investing in Apollo. Our third party administrator performs these calculations for the benefit of all investors. 

Alpha

The biggest and yet most overlooked advantage to investing in Apollo is Alpha. As well as our expertise in crypto assets, we have two people constantly monitoring crypto markets. This is very hard for a DIY investor. While we admit that effort does not always equal results, over the 18 months we have been operating, net of fees, we have outperformed our benchmarks C20 ( an index Fund) and the Eurekahedge Cryptocurrency Hedge Fund Index (an index of our peers).

One key advantage we have over DIY investors is access. Our growing size and network in crypto communities means we have access to investment opportunities that many DIY crypto investors wouldn’t have even heard about, let alone gain access to. 

Fatigue

Lastly, it should be mentioned that a number of seasoned DIY crypto investors are tired of following crypto markets. Crypto markets are fast paced, evolving quickly and it takes a great deal of energy to keep up. While we know a number of investors that have retired from fatigue, we can’t get enough of crypto markets, we love it!

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Whether it’s through the Apollo Capital Fund or a DIY investment approach, the most important issue is that all investors consider an investment in crypto assets. Crypto assets are a groundbreaking technology with enormous return potential that show little correlation to traditional assets.

Investors would be foolish to ignore them.


Our Thoughts on Libra

Last week we saw the biggest announcement in crypto since the Bitcoin Whitepaper. We are clearly not trying to downplay the enormity of this announcement - it is huge. A consortium of companies, led by Facebook, introduced the world to Libra - a cryptocurrency backed by a reserve of fiat currencies and government bonds.

As your trusted source on everything crypto, we have cut through the noise to distill the possible implications of the Libra announcement. While the project is not without concerns, we think it will be an enormous boost for crypto assets.

Let’s start with some of the positives.

Exposure

Slowly but surely, more and more people are coming into crypto. We regularly monitor metrics like transaction count and unique addresses, where increasing numbers suggest more people are using crypto assets. With Libra, this is set to accelerate, rapidly. The Libra Association includes companies like Uber, Stripe, Booking.com, Visa, Spotify and of course Facebook. The number of users connected to these members has been estimated at over 4 billion. In comparison, the number of blockchain wallets worldwide has been estimated at 35 million. Libra will serve as an on-ramp to crypto assets. Users might start with Libra and as they become familiar with wallets and crypto transactions, migrate to other crypto assets. We are not suggesting that every Facebook user will use Libra or migrate to other crypto assets, but when you compare 4 billion to 35 million, there only needs to be a tiny conversion rate to make a colossal impact.

Ambition

The Libra Association has enormous ambition. In practical terms, the goal is to send money as simply as we send a message - instantly and borderless. This will allow users to easily send, receive and store money - a “simple global currency and financial infrastructure that empowers billions of people.” The Whitepaper cites ambition to help the 1.7 billion people in the world that are still unbanked. Financial exclusion breeds poverty, which breeds civil unrest and in extreme cases, terrorism and war. Libra believes that “global, open, instant, and low-cost movement of money will create immense economic opportunity and more commerce across the world.”

How is Libra better placed to achieve this than existing crypto assets, including Bitcoin?

There are a few reasons why Bitcoin has been slow to be adopted as a Medium of Exchange. First, it is volatile. Second, user adoption has been slow - it is hard to use Bitcoin if your friends and network do not use Bitcoin. Lastly, there is a lack of infrastructure that allows users to pay with and merchants to accept crypto payments. Merchants need additional infrastructure to receive Bitcoin payments and to convert receipts into fiat currency. While there are a number of companies trying to solve this problem, they are all middlemen charging middleman rates, up to 3% either to the customer or the merchant. Why pay with crypto if the fees are higher than existing options like Mastercard or Visa?

The members of the Libra Association can attract the adoption necessary to build the infrastructure. It is a problem of economies of scale. The Libra Association is raising funds to tackle this infrastructure problem and in our view, will be much more likely to succeed than any existing crypto asset or middleman.

Credibility

JP Morgan, Fidelity, Yale, Harvard, New York Stock Exchange, Goldman Sachs and now Facebook, Uber, Mastercard, Visa and Vodafone. These are just some of the names that are now actively involved in crypto assets. The addition of the Libra Association founding members adds more credibility to crypto. This is having a direct effect on investors We are seeing this first hand as we talk to potential investors that take comfort from their involvement.

If you still think crypto is nothing more than magical internet money, it’s time to wake up.

User Experience

The user experience associated with many crypto assets is still poor. Facebook, Uber and eBay all know a thing or two about user experience. They also know that user experience can be the difference in creating and distributing a successful product. Libra will be seamless, beautiful, easy to use. Our grandparents will be able to use, send, store and receive crypto assets as easily as they can receive a text message.

Collaboration with Regulators

The Libra Association is actively talking with regulators. As regulators develop a better understanding of crypto assets, we see this as a step forward in the push for widespread crypto regulation.


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While there are a number of positives about Libra, there are a few concerns.

Privacy

Facebook and privacy. Two words that by themselves evoke mixed responses. When put together, the response is uniformly negative. Facebook has a terrible track record when it comes to privacy. Facebook already has control of vast amounts of our personal data, allowing it to provide a wonderful service to marketers around the world. It is unclear whether it is using Libra to go after our financial data. The cynicists argue that Libra is an attempt to capture our financial data and use this data to Facebook’s advantage. By combining our personal and financial data, Facebook will make even more money from marketers looking to target their advertising. The optimists focus on Facebook’s global inclusionary mission, described above. The Libra Whitepaper is short on detail. It proclaims it will “evaluate new techniques that enhance privacy in the blockchain while considering concerns of practicality, scalability, and regulatory impact.” We retain a healthy skepticism and put the burden of proof on Libra to convince us that transactions and financial data will remain private.

Centralisation

Libra is centralised, not decentralised. Decentralisation is a fundamental property of valuable crypto assets. The most valuable crypto assets are decentralised. While it is an improvement over fiat currency that Libra is not centralised in one actor’s hands, it is not the same as being truly decentralised. Libra will start as a permissioned blockchain and start transferring to a permissionless, decentralised blockchain within five years. We won’t hold our breath.

When there’s someone in charge, an interested party – a policymaker, a banker, a regulator, a shareholder – can lean on them to make changes.

Michael J Casey, CoinDesk

Reserve

Libra will be backed by a reserve of fiat currencies and short-term treasury bonds. “The assets behind Libra are the major difference between it and many existing cryptocurrencies that lack such intrinsic value.” While we see it as an improvement that Libra is not backed by one fiat currency, rather a basket, let’s not pretend they have intrinsic value. A major reason for the introduction and development of crypto assets was in retaliation to the devaluing of fiat currencies globally, which still persists today. An appreciation for crypto assets often starts by realising that fiat currencies do not have any intrinsic value. The claim that the Libra has intrinsic value is nothing more than marketing spiel.

Marketing Speak

In addition to the intrinsic value claim mentioned above, there is clearly a degree of marketing freedom within the Libra Whitepaper. Another example is the promise of pseudonymous transactions and anti-money laundering compliance. These are intrinsically opposed. The Libra Association is trying to appease regulators who require AML compliance and crypto purists who value privacy. The presence of marketing speak, like these examples, makes us question the veracity of other claims in the paper.

The Lord of the Coins

Will this be the “One Coin to Rule them All?”

A potential negative is Libra could squash a wide range of other crypto assets. Will Bitcoin lose its appeal as users take a preference to Libra?

We have previously discussed how we divide crypto assets into key verticals - money, privacy, smart contracts, decentralised finance, Web 3.0. It is impossible to optimise crypto, including Libra, across all of these verticals.

Libra poses the greatest threat to the money vertical, specifically as a Medium of Exchange and stablecoins. We do not think Bitcoin will be challenged as “digital gold,” a decentralised, censorship resistant, deflationary, store of value. We do think the Medium of Exchange crypto assets (eg: Litecoin, Bitcoin SV) will be challenged. We think users will prefer Libra over alternatives as it is likely to be accepted more widely and easier to use. Libra will also challenge stablecoins. Tether, USDC, Pax Coin, Gemini, DAI all stand to be tested as Libra enters the market as an alternative stablecoin.

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From a humble whitepaper released to a small mailing list in 2008, to one of the largest technology companies in the world releasing its own version, it is clear crypto assets have come a long way in the last ten years.

We at Apollo Capital are very excited to see the developments over the next ten years.


Volatility, Opportunity & Position Sizing

Our edge at Apollo Capital is our experience in both traditional financial markets and crypto markets. On a daily basis, Henrik and I draw upon our experience from traditional markets to construct a portfolio of crypto assets. Combined with our knowledge of crypto assets, we are the best in the country, if not further afield, at managing a crypto portfolio.

While I don’t pretend to know as much about crypto or financial markets as Henrik, my experience* is different and has undoubtedly shaped the way I approach crypto funds management.  I thought it timely to share a few thoughts on investing in crypto, in particular volatility, opportunity & position sizing.

(*for more information on my background, please feel free to visit my LinkedIn page.)

1. Volatility

A number of traditional financial ratios and models use volatility as a measure of risk. Modern Portfolio Theory (MPT), developed by Harry Markowitz in 1952, is used to optimise portfolios based on their expected returns and observed risk. The standard deviation of an asset’s returns is used as standardised measure of risk. MPT, CAPM, Sharpe Ratio, Sortino Ratios, nearly every ratio I have come across uses volatility as a unit of risk.

The general theory is that the more volatile the asset, the higher the standard deviation of returns, the riskier the asset. The words volatile and risky have almost become interchangeable in financial markets.

If we put crypto through these models, I suspect the models would spontaneously combust. Crypto is extremely volatile. I usually check crypto prices a couple of times a day and it is common to see 24hr price swings of greater than 10%. Imagine if that were the case in equity markets! Throughout the 16 months since inception, the Apollo Capital Fund has already delivered monthly returns ranging from +45% to -34%.

In Berkshire Hathaway's 2007 annual meeting, Warren Buffett said the following about volatility and risk:

“It's nice, it's mathematical, and wrong. Volatility is not risk. Those who have written about risk don't know how to measure risk. Past volatility does not measure risk. When farm prices crashed, [farm price] volatility went up, but a farm priced at $600 per acre that was formerly $2,000 per acre isn't riskier because it's more volatile.”

Instead, Buffett prefers the dictionary definition of risk: “risk is the possibility of loss or injury.”

Why is crypto risky?

It is clear that investing in crypto is risky: there is a possibility of loss (hopefully not injury!) and that possibility exists because crypto is young and the future is uncertain. Any groundbreaking technology is going to be met by opposing camps of skepticism and fervour. Crypto is a complex topic and it’s future is anything but clear. It is easy to forget, but many people thought the same about internet stocks in the mid 90s - they were risky investments.

Why is crypto volatile?

Crypto is volatile for two reasons: it is risky and prices are retail driven.

Crypto prices are predominantly retail driven. Retail investors are more easily caught up in the waves of greed and fear that drive financial markets, especially crypto markets. While the equities that represented the internet hysteria were certainly volatile, they were not as retail driven as crypto markets. Crypto assets are more accessible to the world’s population than equities on listed stock exchanges and equity markets are largely driven by institutional capital.

The distinction between risk and volatility is important:

“Crypto is not risky because it is volatile. Crypto is volatile because it is risky”

Once we accept this important distinction, the solution to deal with the risk is clear: position sizing.

Position sizing refers to allocation of capital to a particular investment in the context of the overall portfolio. For us as managers of the Fund, we discuss the size of positions such as Bitcoin and Ethereum. Do we invest 10%, 20% or 40% of the portfolio in Bitcoin? For the individual investor, position sizing refers to the amount of capital allocated to crypto relative to the overall portfolio.

Although we do not provide advice to investors in the Fund, we certainly do not advocate investing 50% of a portfolio in crypto, it’s too risky. The possibility of loss is too great and the consequences of any loss too severe. Many of the greatest thinkers in crypto suggest allocating an amount of capital that the investor is prepared to lose. Studies of institutional investors in crypto suggest starting allocations of 0.2% to 0.3%. Crypto is risky and for any investment in crypto there is a possibility of loss of capital.

2. Opportunity

I used to work at a funds management company that managed more than $500m of client funds in Australian equities. My former boss, a veteran investor with more than 30 years experience across a range of markets, taught me a number of lessons about investing. One of the key lessons that stuck with me is “the best returns often come from the ones you feel uneasy about.” I didn’t realise it at the time, but I now understand why.

“Risk creates opportunity”

When a company’s future is uncertain, when the risk feels high, other investors often reach similar conclusions, many choosing to avoid that risk by either selling or not investing. Risk can create opportunities to buy assets that are cheap. It is the job of the investor to discern from risky opportunities that are worth investing in, compared to those that are doomed to fail.

I see similar circumstances to crypto assets. There are numerous reasons why crypto assets may not succeed. Investing in crypto is risky. This creates opportunity. One of the main reasons for this uncertainty is a lack of understanding. The vast majority of people have not or will not spend a little time trying to understand crypto. This is a missed opportunity to learn about a technology with enormous disruptive and innovative potential.

This creates opportunity for those that have a keener understanding of crypto. It is interesting at this point to stop and consider, “how much do I need to understand to make an investment in crypto?” An investor doesn’t need a comprehensive understanding of the intricacies of crypto assets to make an investment. Just as we don’t need to understand the code behind Google’s search algorithms, we don’t need to understand the of code that powers the Bitcoin network. A more relevant understanding is the power of Google’s search algorithms to its users, the power of the Bitcoin network to its users and why both are better than the alternatives.

“Investors need to understand the three forces driving crypto innovation.”

First, it is a groundbreaking technology. We have written at length how crypto removes the need for trusted intermediaries and the resulting waves of disruptive innovation. Second, it has attracted huge amounts of capital. Third, the world’s best computer software engineers are flocking to work on challenging crypto projects. Understanding the power of innovation that is likely to come from these forces is more important than knowing the details of the Ethereum code.

For those that see the potential, for those that read Apollo Capital’s weekly newsletter and understand why crypto shows promise, investing a small amount in crypto is obvious. Investors realise the inherent risks in these investments, but they accept these risks and in doing so, give themselves a chance of capturing the upside.

Again, we come back to position sizing. The future of crypto is uncertain and accordingly, it makes most sense to only invest a small percentage of the portfolio in crypto assets. Despite working in crypto and understanding crypto assets better than most, I only have a small percentage of my net worth in crypto. I have a far, far greater percentage in my house, despite having greater conviction in crypto than the property market in Australia.


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An unfounded fear of volatility and a lack of understanding is causing the majority of investors to miss out on the crypto opportunity. Many are waiting to understand crypto in full, or for there to be greater understanding from their peers and the media. They are missing the point. By the time this happens, the market capitalisation of crypto assets will be in the trillions.

Once crypto becomes mainstream and well understood, the opportunity will be long gone, leaving many investors to regret the omission of a small allocation in their portfolio.

**please note this article does not constitute financial advice. My thoughts are my own.


The Unimportance of Coffee and Cake

When people think of “money”, most think about using it to purchase goods and services. Bitcoin is terrible as a means of payment. It is slow, can be expensive and is not widely accepted. We are often asked, “what you can actually buy with Bitcoin?” The answer is not much.

Crucially though, it doesn’t matter.

Bitcoin offers little improvement for users when it comes to purchasing coffee and cake. It is easy to underestimate the importance of user experience. Often it is the difference between success and failure. The innovation behind a number of successful technology companies is not necessarily the complexity of the technology, but the improvement it offers to the users’ experience. Amazon originally succeeded as a book seller because it allowed customers to browse, purchase and receive books from the comfort of their lounge chair. Uber offers users a superior customer experience as they order a lift from anywhere, track when it is due to arrive and pay with ease. AirBnb offers users a wider range of accommodation options, often for a lower price than hotels.

Bitcoin does not offer customers a better payments experience. In fact, it is far worse and while it might improve with new technology like the Lightning Network, it is unlikely to be a giant leap forward in payments. The bar for payments is currently very high, by design. Existing payments networks are designed to reduce friction for users. Less friction leads to more payments which leads to more profits for payments networks. Visa’s Paywave allows users to buy their coffee and cake with the tap of a card. Paywave is seemingly everywhere. Apple Pay has improved this again by allowing a simple tap of the phone. Any further improvements are likely to be marginal and are unlikely to come from Bitcoin. Bitcoin is slow, difficult to use and does not improve the customer experience.

Bitcoin might be an improvement for merchants. Using Bitcoin eliminates the risk of fraudulent purchases. Global credit and debit card fraud has been estimated at around US$25bn, a great deal of which is worn by merchants. Bitcoin is a digital bearer asset. Bitcoin can only be spent if the customer is in control of the Bitcoin. There is no room for impersonation. Bitcoin as a means of payment may also result in lower transaction fees to merchants. Credit card issuers charge merchants up to 3% for the privilege of receiving payment. The fees for using the Bitcoin network are typically lower. On the flip side, the Bitcoin network isn’t going to roll itself out to merchants and a middleman is required to build the required infrastructure. Just as Visa and Mastercard charge a healthy commission, it’s safe to assume any middleman will as well. While in theory there might be some improvements to merchants, the customer experience improvements aren’t significant enough to convince customers to absorb the switching costs and start buying their coffee and cake with Bitcoin.

There are two use cases where Bitcoin might flourish as a form of money to make payments. The first is micro transactions. Bitcoin is useful for tiny payments, such as 5c. Credit cards often charge minimum fees per transaction, such as a 30c flagfall, making micro payments impossible. Micro payments could become commonplace for new uses on the web like micro donations or paying for content. Secondly, Bitcoin might flourish for large payments. Transferring $1m to someone else through existing banking infrastructure can be difficult, slow and expensive. Bitcoin happens almost instantly and is relatively cheap. However, the problem of transferring large sums of money is not widespread and Bitcoin’s edge in this regard is unlikely to drive mass adoption.

While Bitcoin struggles as a medium of exchange, many forget that there are other roles of money. There are three roles of money - a store of value, a medium of exchange (buying coffee and cake) and a unit of account.

Bitcoin excels as a store of value - this is where the value of Bitcoin lies.

The following highlights four scenarios in which Bitcoin is appealing as a store of value:

  1. An alternative to gold - Bitcoin is superior to gold. It is easier to divide, transfer, store and secure. Gold has an estimated market cap of $8 trillion and only a tiny fraction is used (in jewellery for example). It is easy to see Bitcoin competing with gold and capturing some of this value.

  2. Offshore banking - it is estimated that $15 trillion is stored in offshore bank accounts such as in Switzerland. There are many different motives for storing funds offshore. It is easy to see Bitcoin competing with offshore bank accounts as an alternative place to store value, outside the purview of others.

  3. Investment hedge - just as many store value in US Dollar or Swiss Francs, many will look to store value in Bitcoin. Storing valuing in Bitcoin is a hedge against macro economic events. Bitcoin is free from association with any country, central bank, political movement or individual. Bitcoin is completely independent and has proven to be uncorrelated to other assets.

  4. In developing economies - for citizens of countries that are ravaged by inflation and political influence, like Venezuela, Bitcoin is an attractive alternative to storing value compared to local currency. For citizens of developed economies, it is easy to underestimate the value of a digital currency that is independent, permissionless and censorship resistant

A common counter argument to Bitcoin as a store of value is volatility. Bitcoin has been highly volatile, which is expected of an asset and technology that is still going through the discovery phase. Bitcoin is only 10 years old. It will take a long time for Bitcoin to be more widely recognised. In the interim, as with any new technology, Bitcoin will be met with both skepticism and enthusiasm. We expect this to continue as the technology and its understanding develops. Gold and fiat currencies have taken a long time to be widely accepted and even today, are at times more volatile than Bitcoin. And volatility works both ways. Just as an investment in Bitcoin may lose value due to volatility, it may increase significantly. Bitcoin clearly has greater potential than gold or fiat currencies.

In most respects, Bitcoin is not a very good form of money. Bitcoin struggles and will continue to struggle as a medium of exchange. People focused on where they can or cannot buy their coffee and cake with Bitcoin miss the point. Bitcoin will continue to break ground as an alternative, superior store of value. Other scenarios to those listed above will likely develop, drawing upon Bitcoin’s groundbreaking properties. There is clearly a large enough market for demand to outweigh supply, as more people learn about and embrace a truly unique form of money.

And if one day it so happens that you can buy a cake with your Bitcoin, well that will be the cherry on top.