What Institutional Money is in Crypto? w/ Ari Paul



we're live what's going on everyone welcome to the next edition of the venture corners podcast we're looking at institutional capital in crypto assets today and we're joined by Ari what's going on hey Luke thanks for having me yeah I really appreciate you coming on I know you've been taking a break from podcasts and a lot of content in general kind of looking to really formulate your next big ideas I guess you could say so I do appreciate you coming on just for people that maybe don't know you as well I know most of the people on Twitter and most of the people that are probably deep in the space understand who you are and what you do can you break down who you are and what is block tower sure so lots hours-a-day own investment firm the we launched just under a year ago it's kind of amazing how fast your flies on his face my own background was conversational finance on the trading investing side I was a oftens market maker and FX and commodity trader for full also spider national group and then the most portfolio manager for an endowment which kind of long-term investing risk management portfolio management um and the idea with lock tower is rockin to Mystic we invest in crypto in every way you could imagine as a firm and Luke I think we first connected link a little bit less than a year ago I think like surely before Lots ever launched you're actually you were you know one of the earlier kind of crypto Twitter people that I connected with and I think I'm pretty good right amazing talent like like I was fairly early on was you were kind of gathering you know creating the group and name for yourself you've created so it's been a pleasure kind of following you and seeing you succeed yes back then I was actually still a Warren Buffett avatar still anonymous and I respect a lot of people that have stayed anonymous in this space I've chosen to kind of Docs myself and still them one of the only ones using my face and real name but the conference that we actually met I think it was in September and it was at the fun symposium in San Francisco and I was still Warren Buffett we talked about meeting and we had a conversation back then so yes it was funny it leads into of exactly what I want to talk about so at that symposium there was a question posed I'm not even sure if it was the panel that you were on or was a different panel someone asked you know who here either works for a crypt of the hedge fund or works for a fund or who's starting a fund and ninety percent of the audience and this was bizarre this is September last year 90% of the audience raised their hand and this wasn't like consensus best there wasn't thousands of people it was still a big conference right it was overflowing there was like a few hundred people there and everyone raised their hand wow you know I want to talk about Institute of crypto what's kind of the effects that how have people came into this space winner you know there's a meme almost of institutions coming into crypto how much of the space do you think or how many institutions do you think are in I want to break down you know what kind of notations are in is it Jess pcs is it pensions endowments sure sure so a lot of people saw you know if it that's a great act owed a lot of people saw Laura shame I think it was in maybe August of last year an article about how like 300 funds launched and the United that's a question I got asked a lot like like is it has it become insanely competitive are there tons and tons of funds the answer is there really aren't so of the 300 funds most were like one or two 24 year olds in an apartment they weren't fonts in any sets and I don't mean that to insult them some of these are really really sharp investors or traders that I love trading insights with but they don't pull any meaningful amount of capital they're not investable from the perspective of an endowment or a pension or a family office it is very very hard for anything any money that's run by a bureaucracy any money that is like if you're an individual and you're looking to deploy your capital all you're worried about is your return in your risk you're not worried about saving face you're not worried about keeping a job you're not worried about looking stupid the money that's being allocated by a family office for example or a VC firm um they have concerns beyond just maximizing return and so one of things they have to do is they have to do diligence if they lose money they have to make sure that it wasn't from negligence so they have to review any that they would want to invest in and if it's a 25 year old working out of his apartment that's very very hard for them to underwrite even if that person is the world's best investor even that person though reality is in the u.s. there's only like 15 thoughts that are there funds in any kind of meaningful sense raise that much money so the funds that are the biggest have generally grown organically so some of the funds that launched prior to 2017 or early 2017 they produce phenomenal returns and they beat up they didn't have that much capital from investors but they've grown to be quite large because you know they earned a 10 or 20 acts on on that capital institutional money that's come in both directly and via Thon's initially it was a lot of a Bay Area venture capital firms so this is totally public Union Square Ventures andreessen horowitz Sequoia they were all very early investing in cryptocurrency they were in and I believe at least two out of those three were seed investors and coinbase a lot of them were early investors and some of the earliest funds more recently they started directly investing in icos as well as exchange-listed assets I think the reason for that was those are firms they're investors that are used to taking risk they're used to having some zeros is your attention fun and you invest in court and basically if your attention you don't want any investment every go to zero if you're a VC fund that's your business model you're used to having some limits and that's kind of part of the game so the early a lot of the earliest is from money it was VC then it was small family office where you would have basically you'd have a wealthy family and you would have one individual running that full of money and so there's a lesson of bureaucracy I think it's one individual making decision it's easier for them to pull the trigger on something risky more recently it's and then it's kind of moved off this ladder of bureaucracy so I mean you have a larger family offices that will have an investment committee or a team endowment finally started writing chess so be I'm not sure if this is public yes I won't name the endowment but one large endowment wrote a chat to one of the the large new from DOE VC funds it's a spin the giant traditional venture capital firms so we have seen and it's kind of worth noting that that was a little more palatable for that endowment to write the check because it was a you know giant old respected venture capital firm run by a grey haired partner Eric votes gray-haired and someone just with a lot of experience and prestige and credibility among traditional investors and they raised that fund they raised three hundred million dollars to do early-stage crypto investing we are seen so money come in just slowly the main obstacles are one element was a lack of credible frankly credible fund managers people who this is very scary when I say credible I I mean this very much in terms of appearances and optics and just a lot easier for an endowment to invest with a forty five-year-old who's been running a fund or a partner at a world-class VC fund for twenty years than with a 25 year old and so you're seeing a I don't want to get too ahead but I think that's in that exact same panel I think that's one of the things you mentioned in why you may have left you know you worked at Susquehanna you worked as a p.m. in the endowment world and you come from digital finance that's one of the reasons you start a block tower correct correct me if I'm wrong was to almost give institutions or those funds more were more of a route to actually invest in this space it was that one of the reasons you started block tower in general definitely yes so when I was at you Chicago I interviewed all the funds I could find at the time on behalf of Chicago thinking I want you to cago to Nestor crypto and I knew it wouldn't be right away and what struck me was on there were just there weren't many funds in total and of the ones that were round even ones that were run by people both who I respect they for an investable and and what that means is there's no way the endowment was gonna be able to get comfortable investing with a young guy working out of his apartment who's never managed money before maybe some you know wealth and beta is who can talk the talk even that person is very very intelligent crypto investor so so we kind of saw you know I saw that black in the market over time what's happening is s crypto is ballooning and gaining attention you're getting more and more veteran DC's veteran Wall Street people getting into the so that's changing a big thing is custody so anyone who this is this is changing right now but for the most part it's still anyone running a fund could probably steal their investors money you get away with it and so if you're underwriting a fund you're really trusting the fund manager in a way that you normally don't have to in traditional assets to do it like Bernie Madoff did is really really hard it's not easy to get away with what Bernie Madoff did for so long Bernie Madoff is the fraudster who just was falsifying accounting for like I don't have me a decade before he was finally finally caught on you know it's possible to steal US dollars but a lot of them but it's hard like you if someone were wire twenty million dollars from a bank account into Cayman Islands or Estonia or wherever they're probably getting cloth because it's easily traceable if someone steals cryptocurrency and they know what they're doing they might be able to get away with it though there's currently a lot of trust involved in investing in a crypto fund or investing I mean how can you trust the slee on their currency you know most people who own cryptocurrency they own it on exchange so they buy a Bitcoin on Columbia leave it on coinbase well clean base is not a bank when base is just a company you're just a creditor of coinbase after goes bankrupt you may or may not ever get your Bitcoin so you know I think the more sophisticated people niihka system know that you can store your own bitcoin using a hardware wallet there's a lot of ways to do it but it's not one it's not trivial that easy for someone to get comfortable with that whole process and to its party and someone easy to use harder wallet as an individual but how do you use a hardware wallet as a bureaucracy as a board as an investment committee who controls our law who has the private key and so having processes around that is what custodians are trying to solve there's at least six credible custodians that we're kind of looking at right now they're in the process of launching so Kingdom Trust is up and running it has been for a little while queen base just went live with their institutional custody solution there's a handful of others I'm not sure where various there was a point where I named drop one of the custodians and apparently they weren't even been like trying to publicly reveal yet so be careful about not like being a hands kind of the official PR release of Estonia but there's there's a handful of others that are very credible working hard optimistic that they'll be fully up and running and likely have been running what I really mean is do I trust them with my own mind that's what semolina standard is and it's almost do I trust them more than I trust myself which is a very high standard because it's even if they're much superior than me from a technological perspective it's just a lot easier to trust yourself and team of people right but I'm very optimistic that they're solving this problem and I think that by year-end most fund managers will be using entirely third-party custody and family offices pensions will feel comfortable at the margin at least starting to you know custody in Bitcoin or ether or anything else with these third-party custodians if that is the point in which a pension can think about investing in the space yep I know there's there's so much x package there we're gonna unpackage it more as we move along the one thing that they don't want to start with is kind of beginning every response and in terms of one institutions are in and and what's going to kind of be the hurdles for others to get in you have a blog post on your site about table selection it's one of the things that I would recommend everyone to check out I'll link it below and you talk about poker playing when you were in college and you didn't play professionally at least to my knowledge but you at least understood that if you were to play at an easier table or a softer table obviously your chances of winning we're a lot higher and and you kind of bring that over to investing in in terms of asset classes and you say in cryptocurrency this might be the softest table this might be the easiest table as more institutions to get in that obviously might change do you still think that's true and and kind of can you break down that analogy for everyone else oh sure yeah so first the high level so the ID idea for people have read the essay is in poker the single most important decision you make is which table to sit at because if you're if you're the 11th best player in the world but you sit down with the 10 best players you're gonna lose money and you're a bad player if you sit down with the worst players or make money so when I was in college at Penn I had a ton of friends were great poker players so um we're definitely better than me we're constantly broke because they would they would sit down with basically the 10 best players in the world and and it was a lot of ego the trove that they just they wanted a little bit of it I admire certainly the desire to test yourself against the best is a very admirable desire I myself definitely lost five say here's the world's three best players very deliberately thinking I'm willing to pay you know I'll take a $5,000 and I'll sit down with Phil Ivey and I'll I know that I'm basically playing basketball against Michael Jordan and I'm doing it for the spiracle a celestial essence for the experience both these these might be I had some friends though who would who instead of it being five grand it would be 50 grand or 200 grand they cannot afford to lose you know maybe and they it was just kind of very ego so yes I'll find that to financial markets it's extremely hard make a living in most financial markets today is is so incredibly competitive so you have these multi-billion dollar pools of capital with the smartest people on the planet below at the highest frequency lowest latency trading the best machine learning algorithms you're competing against a firm like rent tech that has a thousand rancic as a Renaissance Technologies maybe the high the best performing hedge fund in history and if a pool of capital that's I'm throwing out round numbers here I'm not sure the exact but something like over twenty billion dollars a thousand engineers hundreds of millions of dollars of sunk cost on optimizing their electrical engineering their certain boards and and you know teams of the world's best machine learning guys they have the lowest basalis cost of capital the lowest change fees you know everything is optimized and you're kind of competing against them if you're trying to do anything out or the Metra short term if you're competing long term well then you're competing as people like Warren Buffett we got a sweetheart seat or who have better access to information or you have it's not that you can win it just it's a you know who's playing basketball against Michael Jordan you you have you know it's a very tough game crypto currency right now is still 95 percent retail it's still mostly people who have no idea what they're doing and I say very honestly that no one has any idea what we're doing so I have no idea how to fundamentally value group difference yes I try to do so within an order of magnitude you know and we don't know what kind of token economic we don't know it works in token economics but I think we have some idea what doesn't work but at least like you know they give a lot of people unaffectedly I don't like compete against other other people who are professionals I want to compete against the person who is you know who doesn't know hard Fortius and is buying Bitcoin or selling Bitcoin on a CNBC headline a Bloomberg story a rumor that's not gonna change for a while so at the moment there's thirty million people around the world around cryptocurrency yes there's a lot of professional money coming in and professionals are increasing fast outs and controlling more money but you're gonna have periodic waves of new retail in floats that will dwarf the professional life so right now it's a traders market there's not a lot of retail money coming in or out of cryptocurrency so it's actually a fairly tough market to trade right now because it's a lot of people all trying the same kind of short-term ta they're all trying to trade on the same base agents but but it's kind of cyclical so at some point in the next six months they'll be I think foolish but maybe it'll be bearish but you'll have a massive flow of money you'll have a kind of whales and then as a trader you can basically trade ahead of the whale or trade against the whale you know I think you know in early 2017 you saw this massive influx of South Korean money so if you could guess the decline was gonna be listed on bit bone you could buy it in a would go 100 percent even if you just trade it all on the headline you could be ahead of those South Korean retail buyers who are similarly responding to headline six hours later I mean that's gonna happen again periodically this is such a new asset class it's such a nascent industry that I think we have five years of that kind of pattern and one of the things also in that post I've been breaking that down further in terms of kind of even the softest spot maybe at the softest table was you talked about institutions that were in or professional investors that were in and where they're focusing more and still even finding kind of the quote-unquote fish I guess to take the total poker analogy the fish still within crypto you probably saw more opportunity or you were staying away from ICS you saw a more opportunity elsewhere do you still think that's the case are you still staying away from icos and obviously disclose whatever your what whatever you're able to sure yes so at the time I wrote the article I commented I thought the pre ICO space was more competitive than the exchange distance pace in retrospect I'm actually not sure that that was accurate um I definitely think it's accurate today in the sense that um right now there's a lot of capital chasing the handful of ugly if you think about how the ICAO ecosystem works you have early pre ICO rounds that generally go there are often sweetheart deals that go to name investors angel investors the top name funds and there's sweetheart deals in the sense that those are almost they're extremely likely to make money on those investments and the project wants their brand they want to be able to say that this big name person is an investor and then there's a later stage pre I see you around for smart money investors and then eventually the project gets offered it's kind of the average investor either in an IC o—- or when it gets to listen or exchange and those people might still make money but how can those people make money in a sustainable way you almost need the project to fundamentally succeed like in training at something so right so in investing you the actual value creation it's a big point over time can go up you know not forever but almost forever is you has a goes from having 30 million owners to 300 million to three billion potentially for trading it's little more zero stop right if I'm selling someone something someone has to be buying and so what's happened in the last six months is that person who's buying the IC o—- on the exchange is mostly been losing money and so the late the IC o—- buyer is mostly been losing money the late stage creates do buyers mostly losing money so it's kind of like dominoes that we're seeing fall and so right now I would argue that there's actually a ton of capital so you have some funds that have raised hundreds and millions of dollars to invest in pre icos well a free IC o—- project that's early stage doesn't need a fair evaluation of that project might be twenty million dollars there is hard to deploy tons of capital those early-stage project and if you have a 300 million dollar fund fighting to get as much money as they can into the very best early stage projects what you see is they push out everyone else so if it's actually a great project you as a retail investor you're just I'm gonna get it what you're gonna be able to invest in are the projects that the big guys didn't want right you're gonna get us craps and that's not a good setup and then the other issue is that that big amount of capital those early-stage investments pushes up valuations right so if every if our projects trying to be you know they say if they think we think we should be valued at twenty million we want to raise ten million Atonement evaluation and a bunch of funds I'll say we need to write five million dollar chess to you that pushes up the valuation pushes up the raise it makes it a less attractive investment so right now I actually think the pre IPO space is definitely not a great table to sit at there will be people who make money at it if you're if you if if you're exceptional at thinking the top one percent projects you'll make money or if you're able to get access to the best twenty percent of your objects early you'll make money my guess this is then from current values valuations everyone else will probably lose or we'll lose relative to Amman I mean the whole market goes up five s you know it's similarly 2017 kind of everything several means market right everyone can win if the hallmark is up but we're in contrast you know there's kind of no limit to how much capital something like a Bitcoin can absorb like you know if there's if there's about 300 million dollar fun let's put it all into Bitcoin they can pretty easily they won't move the price of Bitcoin that much so at the moment yeah I think cry SEOs are a tough table you brought up access the end of that question and I think it's something good to bring up especially in terms of because you also talked about projects will kind of want big names let's say they want block tower they want pen terror they want poly chain to invest in their pre SEO and retail investors maybe look at that and they say okay where's the quote unquote smart money going you know I think you or someone else in the space had it had a really smart post about this and not a lot of people talk about it just because you know maybe that name or that fund that you quote-unquote think is smart money invested they might have had access to a low around do you think just because a Pantera or just because they insert any name here invested do you think for a retail bar that even matters right does it matter that Pantera just invested my co they probably had way better access they probably better price does it matter in practice it certainly does so certainly I mean there's a reason pay the reason the firm like Pantera gets the sweetheart deal is because the project knows that that matters so much to retail investors the fact that Pantera invested means the project is length lead a successful ICO so the question of shouldn't matter I think it should matter a little bit because the big-name funds do their best to non-vested scams and to not invest in the worst projects so it's a little bit of positive signaling that the project is probably not an outright scam it's probably not portal or bottom half doesn't mean it's great so almost any any any asset that has any value is a good investment at some price and a bad investment at another there's a lot of ICO that are bad investments at any price cancer is probably not investing in those well there's a lot of projects that are great investments at the price that Pantera is gonna get in and are a terrible investment at the price that you as a retail investor are gonna get so I think it's reasonable for the retail investor to take it as some signal but not that powerful one certainly they should not blindly just be chasing I mean we see the same interest for markets just to a much smaller degree where a Warren Buffett invests in a railroad it's a 30 percent of announcement should I invest well 30 percent return is a big deal like the fact that Warren Buffett contstantly on a 30 percent return that made it a great investment for him already the fact that you're investing thirty percent higher the difference with icos is you're not investing thirty percent higher you're often investing three hundred percent I have antarious already can terry has already one at a time you're investing doesn't need anything else down I'm not trying to con Pantera really investor has already want by the time that project gets your plate I don't need it to go in fact you could invest it could fall fifty percent and that really investor may still still one hundred percent return in three months mmm okay cool I want to break that down for I know there's probably a good amount of you guys who are listening and I've been seeing that in my message as well and people will often comment look at a project and say look you know pent errors made a player not to keep picking on Patera someone else made a play you know I should be in this I think that's a really good concept in terms of access also looking at where you know other institutions would be buying I think the other kind of wave of misinformation that gets spread either it whether it's across Twitter elsewhere is people will talk about you know institutions are going to come in whether it's the VCS the risk tolerant VCS whether it's pensions whether it's endowments they're gonna come in and they're gonna buy my bags both in terms of liquidity and also kind of what makes sense there what what kind of coins can institutions even be buying and where would the money flow first are they going on bit wrecks or are they mostly just looking at Bitcoin aetherium maybe top five top ten so this is surprised me a little bit indirectly institutional money is going to some some all coin bags very selectively though so for example some instances some institutions have invested in firms like placeholder capital which is run by Joel brokers pernitskiy for bringing eyes great investors so they have institutional investors and they publicly announce that one of the assets they were investing in was deep red so deep red is an all coin trades on bit rates and that was a little surprising to a lot of people myself included because Chris and Joel are early stage investors and they're investing out it would be Tifa it makes total sense for them to look at both exchange listed assets and three icos because you plenty of Exchange listed currencies their seed stage investments they're very early stage some of them are ERC 20s note writer they don't even have a test Bank yet they just happen to be tradable so it makes total sense for play slaughter do that on a couple other another VC fund I believe I'm pretty sure was Bluebird capital to obtain that they were also investing a secret um so a little bit I would not count on it um I think those VC funds then invest in Exchange listed assets they're only going to be thinking a very small number it's gonna be two three four or five than out of attracting meaningful VC capital pensions and endowments are not gonna have any counter metrics they're just not so the way that Sushil money could float of interest is orb interest coins is through other and funds and firms do hedge funds crypto vc firms but the big way and a small amount of money can be meaningful right so the big dollars I'm very confident or at least enough if nothing changed the nice year are gonna flow to Bitcoin and then to a lesser degree coin based coins a term I use a lot or the corn-based coins and the reason for that is they're not securities so there's something that there's no regulatory issue with with them being securities which is a big concern for institutions and coinbase is just an easy Fiat on-ramp it's an easy way for family officer and mountain to get access and those tend to be the coins they've heard of and that they feel more comfortable with so they tend to have less hair on them from a scammy or regulatory perspective they tend to be a little more decentralized your have a lot of index funds that launched with I mean so point makes itself is launching it as fun the represent ownership it gets coins so I think the big dollar counts are gonna go to Bitcoin and the quite base points but you don't need you know but like a billion dollars to Bitcoin is like a million dollars to sum all coins on business you know so but no I mean I think the moral is I wouldn't count on institutions bidding off the tricks or Polonia access or Finance points most of an institutional money is going to go to the coinbase points that's that's a group of coins that I've kind of coined the term I call it potential on Twitter and you also have a thread recently in terms of concentrated ownership and coins and it obviously makes sense that larger investors are only going to be able to go to coin based coins both due to liquidity reasons and because yes they're probably the safest you know I can't say that's not financial advice but I would probably say that the safest just looking from a bird's eye view can you break down what that even means in terms of concentrated ownership and how let's say like even a big retail investor organization wants to take an investment maybe a smaller coin and they have a meaningful position what kind of problems does that pose all of a sudden and maybe why couldn't they be investing in those smaller coins yeah I mean the quiddity is a huge issue so a lot of the liquidity is fake as we know where you know there's been all these stories about just how much of volume particularly on on Chinese and to a lesser degree Korean changes with squash trading this is very easy to see where you'll have a coin that's trading five million a day and liquidity and if you try to sell $300,000 where she'll crash the price 30 percent which which just makes no sense if that was real quiddity so when I say that it's not real acquittee is not necessarily in any way criminal or market manipulation so a lot of these coins are now using professional market makers we're not doing anything wrong the way market making works generally is the market makers providing Vincente offers and there they're showing a tight fit a spread which provides a very valuable service so if you're a retail trader and you wanna buy a $5,000 of a coin that's the market maker is making a much easier right they're providing you a tight market they're giving you a good price that mark is probably liquid enough if you're a retail trader to quickly asset to use a stop limit order for the market makers providing a really valuable service so the retail trader who wants to create five or ten thousand dollars worth um as the dollar amounts get bigger though that market maker basically wants to be flat they want to have a flat position they want to have no exposure probably every day and so what happens is if there's meaningful net selling the market makers buying but then the market maker becomes a seller very quickly right the market makers like oh man now I'm long fifty thousand a hundred thousand five hundred thousand dollars of this coin I don't want to just be riding this coin as it sells off that's not my job so they may become sellers very quickly so as a result most quiet lately here's a really simple rule of thumb currently at anything outside of the top five coins maybe the top ten realistically trying to do more than half of one percent of volume a day is you're probably going to really drastically move the market trying to do so if you hold one percent position so what does that mean so let's say it's a coin that is a fifty million dollar net worth value right a fairly you know that's maybe right now the 60th biggest coin on corn market cap I mean the often that I'm done guessing um so that you know the coin it's not not a big point but not non-trivial and maybe it looks like it's trading half five hundred five million dollars a day but if you own one percent of that coin that's half a million dollars that's a big position you're a whale you're whale in terms of high end of the market and that liquidity even the five million you can go away so fast so a very real concern for institution is what if you've appointed a moe trades on metrics and bittern ste lists the coin because they're afraid into security or different spaces regulatory problems what happens to that coins value and my view is that for most of them the project probably dies so with this a good project if it's if there's real economic value there they'll get listed somewhere else the project will survive temporarily the price to the coin may fall ninety percent because it may only trade on on adex it may only trade on some tiny exchange but the project will survive and if your long-term investor um most projects will not survive that it won't survive complete loss of liquidity and what you'll find is suddenly you know you thought you had twenty grand of a coin or if your institution maybe you thought you had a million dollars of a coin and suddenly the thing has no value like you just cannot trade it or wear it trades on a desk and it looks like a fine price but it's trading ten thousand dollars a day and you have a half a million dollars worth um so liquidity really matters and and liquidity is a Howard is kind of a classic line right then when you really care about liquidity is when you and everyone else want to sell and you ask one look where the use of assets and in crypto can manage even more aggressively where the coin could be lifted yep in some ways it's reassuring that post you made you know let's say I have a modest modest position in a coin during this bear market where volume is kind of dried up in some ways it's reassuring because it makes the decision a little bit simpler in the sense that I can't sell that position at the same time it also is kind of that thing in the back of your head of this is if this does continue then I mean there's just really nothing you could do so it kind of ties your hands cool so I want to I want to drill down on that in terms of where they can get in one more thing I wanna and package kind of in your first response was you know what kind of funds just breaking apart one more time the actual institutions that are in and maybe what's still stopping them today so you've been pretty open and probably one of those transparent about your previous predictions in the space your previous kind of outlooks and then which are correct and which are incorrect and I watched a video I think six or seven months ago and it was on I don't know what network but you talked about what family offices were in what endowments were in whether their writing that first check and then what also what pensions were in now that some hurdles are kind of getting cleared up in terms of custodial and maybe regulatories also cleared up a little bit what are some of the hurdles that to keep maybe pensions are endowments which are some of the last ticket in water what are some of those that need to be cleared up and also how far along are we our pensions getting in or is that still you know six twelve months out yeah so so the super rough time frame something like the earliest crypto investors were cyberpunk anarchists computer geeks cryptographers then aetherium Australian is techno utopian wait people who were not anti bank or anti-government necessarily the people who believed in what daps could do um a bit more of a sci-fi future and that assured in his whole venture capital wave of both the VC funds themselves and also a lot of a lot of the money that came in the cryptocurrency and say 2016 and and early 2017 there was a lot of CEOs of tech companies a lot of Silicon Valley kind of executives of firms or engineers with some capital or VC partners themselves their personal money now we're getting kind of the wall street wave where Goldman Sachs has launched a trading desk and fidelity is probably gonna launch Bitcoin custody by year-end and you have a huge number of kind of new service providers Bloomberg for crypto being creative every element so here's my example so right now I think one of the obstacles is exchanges so it's very you know we talk about interest of polonius these are so amateurs from the perspective of a pension it's a joke it's a lot of these exchanges don't support institutional accounts so then this is actually an issue for block tower there's a lot of exchanges where you register as an individual with your own personal name that's a very weird idea if you're a regulated entity investing on behalf of other people you know they're not high-frequency they're not a lot of them don't use face API so I'm not an algo trader at all out of my understanding this is very limited but everything the personal finance world financial role uses a particular format protocol called face api in the last remaining 20 trading briefings uses zone some API so a challenge the people face if they want to trade on a bunch of exchanges you have to code a separate connection to every individual API and forget about high frequency a lot of exchanges will only allow you to do say three transactions per second not the thousand per second that you're used to they're constantly changing that as well right that's there's no sense there's no standard let's say if I'm the tracker I'm finance or whoever they're constantly kind of changing me with their custom API set up is at least what I call a change and these changes are down a lot I mean Finance has you know has a ton of issues in the last 48 hours for example where they've been up and down several times they've defensive recreate API keys they're limiting withdrawals all of that is just totally foreign to the additional like the idea that as a family officer pension it's oh we can't take our money off finance we don't know when we'll be able to and we can't get someone on the phone it's a non-starter that's just not professional right now and that's and I'm not trying to go on Finance that's just the state of the crypto industry and that's changing about so there's a ton of up coming in changes that are run by people who I think it was not seeing me clear port I'm try remember doing there's a gentleman who ran one of the biggest exchanges 10 years ago I don't remember was the nicey or or he had a clearing firm I think it was seeing me clear port he's one of many from trips on Wall Street or a lot of credibility of running professional exchanges who are launching crypto exchanges it's a long process they need a regulatory approval you know but that's one of the building blocks we talked about custody event that's that's a big obstacle one element a little bit of regulatory clarity so um a lot of these institutions like a pension they're concerned that you know they don't know they don't know and they don't know what might be illegal so for example if aetherium was deemed of security so this is kind of weird it's reasonable for anyone to currently say we're pretty sure aetherium is not a security we actually really don't know so the SEC does not have authority to declare things securities or not that's actually not up to them on what the SEC the way this works is the Supreme Court issued a ruling how he test and that that Supreme Court ruling in conjunction with congressional law determines what is there is not a security the SEC has jurisdiction over all things that are securities and they can pass rules relating to those the SEC can't decide something is or is not a security that will actually have to be tested in court so what could happen is a different governing body could say no if you're a mrs. security and then that would go to a court or potentially the SEC and this other body might be fighting immediate FinCEN maybe it's in the SEC it's not actually if your ruling they just they had a gentleman get a talk and they posted that talk on their website it's not an official statement it's not a no Ashton letter so and if the theory misses security there's all sorts of rules relating to who's allowed to own a trade and transfer it if your attention you're very scared then maybe you buy aetherium and then maybe the SEC changes their tune you're not allowed to resell oh yeah so there's a lot of you know there's still some genuine uncertainty about the regulation around space is concerning some of it is still lack of knowledge or lack of understanding so I think conversation with an investor recently who said hey you know when I invest in a longshore equity fund or a Lowell macro fun I can look at their portfolio and understand roughly what's going on so you know if they tell me they're overweight materials and and underweight consumer staples or they tell me they're going long the end short the Aussie dollar on this thesis I it's not that I can tell if they're right by these can I know what they're talking about if you talk to a crypto investor and they say yeah I'm long you know D cred and because I like the proof of state proof or hybrid and they like their work on that they're their governance mechanism or I like the staking rewards that investor probably says I have no idea what any other words that just came out your mouth where you can intelligently discuss is proof of say prefer work hybrid good and if so why that's pretty advanced right it takes a lot of time like a week it's been amazing the last year you're going to talk to who pension investors it was what is a blockchain what is a Bitcoin or the lathe or other corn beyond Bitcoin Bitcoin right that was a year ago now they all know a Bitcoin now they can all name five coins or ten coins they all have heard of proof mistake some of them even heard of sharding a rough idea that it's a scaling method but that's after like a year or whore right it takes I think we sometimes take for granted cryptocurrency is so new there's so many basic concepts that take time to socialize take time to get comfortable with it's even there are a lot of people in the world in the crypto world who if they can't define or you know if they don't really understand the question of constantly sharding they've at least heard of it babies have some sense of comfort like okay I know charting is scaling for aetherium or is whereas those terms are just so far in and a pension fund manager is gonna want it like this is how to sell this works in practice the person who at the pension who's gonna underwrite the investment is gonna get quizzed on him by their boss and they need to feel that they will level expertise that they can answer standard questions for two minutes and so but here you know that that pension manager says oh we just invested in this index fund that owns ten assets and the CIO or the committee says oh me two sentences on each asset it means two sentences on Iota give me two senses on rebel and the person gives Justin's ripples as well well it's delegated proof of stake there's there's the ripple company behind it but the the token may be decentralized may take on remittances and sweat and the person says oh well once delegated proof of stake give me four sentences on that right so so it's very hard for someone who's kind of a mid-level manager or a managing director for a manager when he's institutions who invest in cryptocurrency because everything is so far into them whereas even if they're not an expert on corporate bond investing they have an MBA or they have a master's in economics and they know what bonds are and they can talk about the yield you know yield correlation equities for two minutes yep so all those all those concerns are completely legitimate and I hope that makes sense for everyone listening in terms of definitely still some of the hurdles even if they do seem cleared up when you see a headline on Twitter you see a headline on Bloomberg there is still that hurdle there I think one of the simpler hurdles and kind of pivoting to away from risk more in terms of benefits of why an institution would want to get in one of the the things whether you're retail buyer whether you're an institution and are I'm sure you've seen this is people getting in and I think you actually talked about this at consensus invest people getting in will look at it and I've had meetings with with people that I used to work with and different felony offices and they'll look at it and they'll say look it's so volatile it doesn't make sense it's too risky can you kind of talk about why looking at an asset by itself in isolation maybe doesn't make sense for institutions that are that are looking to add this in a small percentage of their portfolio why would potentially be beneficial in terms of actually reducing their risk how could the riskiest asset at least historically potentially lower your risk going forward why would miss didn't want to get in yeah they should be frank this frustrates the heck out of me because so my title UChicago I was perfectly a manager at risk manager I take risks very seriously and I'm very honest about the risks of investing cryptocurrency what frustrates me is it's a mission usually by the professional investor that they're putting their career above the interest of the other of who they were supposed to have a fiduciary obligation to so I'm and I honestly met so there's a lot of professional investors wealth managers endowment investors personally on cryptocurrency but will say it's inappropriate for their institution and what they're really saying with that is so anyone who understands risk in the financial concept anyone who's an MBA or CFA designation anyone who works in a risk management team should have a full understanding of this basic idea which is you only care about marginal risk so I'll explain what that means so in 1920 there was a belief that it was irresponsible for most people to own equities at all cuz equities are risky everybody's are volatile you should only be in blue ship corporate bonds that's safe and if you were in wealth manager and you put your investor let's say you put $1.00 there musters money in any stock or in a corporate bond or a riskier enterprise you would be on the end they lost money you and beyond the window Sam and the judge would say why didn't you think that investment was safe today we recognize that it's nonsense if you invest in the S&P 500 index where you own a basket of 500 stocks you're not saying that every individual stock is safe what you're saying is that as a whole that basket of 500 stocks looks attractive and then maybe there's a really really risky company in that 500 but I only have 20 basis points of my money in that one company and so basic idea of risk is there's two types of risk at a very high level for within a portfolio there's systemic risk which means risk that contributes to the risk of the total portfolio because it's correlated to the market and there's idiosyncratic risk which is the risk of that company or that asset that is nothing to do with the market so it's a simple example um there's some companies that are very very tied to the general economy so crude oil drillers for example tends to be basically if the economy is doing well usually demand for oil goes up if the economy's doing badly goes down there's not that big of a difference between crude oil drillers they're all doing pretty similar things it's hard for them to separate from the pack and so most of the risk of owning crude oil drillers is there is basically price exposure to crude oil and the end the market as a whole in contrast a company like will be your example here a company like Tesla probably has a lot of idiosyncratic risk it's a bet on well Elon Musk in his team to feed what they're trying to do and and will Tesla succeed relative to their competitors there what matters if the economy as a whole does well there'd be more cards that are sold if it does poorly fewer cars but probably what Tesla are betting more on Tesla versus their competitors than on all car companies put up I don't that's the best example though in cryptocurrency what we've seen recently is there's very little diversification benefit there's been very little in use some Craddock risks in practice most of your risk as a cryptocurrency owner is market risk is the risk of the cryptocurrency market is hold everything went up everything went down together I'm oversimplifying but now cryptocurrency has been almost uncorrelated to stocks bonds and gold I'm not saying for sure that will continue but it's pretty a pretty good bet that every currency will remain less correlated with stocks than other stocks are or less correlated with stocks than bonds are so it's not saying the correlation will be zero but a correlation is less than 70% you get a wonderful diversification benefit don't all the concrete numbers to it or or frame it directly if you take five percent of your assets in a typical endowment portfolio or diversifying portfolio oh that's I'll take a step back if you have a portfolio of equity bonds real estate commodities most of your risk you're very highly correlated to the general global economy and to the basically US and global equities as a whole so even your real estate even your bonds are pretty highly correlated to public equities if you take 5% of that exposure and you shift it to a coin to flipping a coin if it lands on heads you double your money if it lands on tails you lose your money that's a very risky bet it's a coin flip but because it's uncorrelated because it's nothing to do with the rest your portfolio it actually reduces your overall risk your currency is kind of like that coin but we hope that instead of being 50/50 that there's this positive expected value so the cryptocurrency is a very very risky bet which chance are going to zero but positive expected value because it's uncorrelated it's all idiosyncratic risk relative the rest your portfolio so your risk Falls in your respective return rises which may sit the holy grail of of investment so endowments pensions shouldn't be drooling over cryptocurrency because it's literally as portfolio manager what you're desperate for you're desperate for a source of uncorrelated returns and uncorrelated risks that's that's just it's for someone outside of Finance or someone new to investing that's one of the things that they'll trip up on and maybe not even dive deep and understand that's one of the things and you said you were frustrated it was it's frustrating for me too even talking to my friends and retail or other people and I don't ever really advocate or try to sell anyone to get into crypto but it's one of those things where institutions I know that's probably still a hurdle or just general people I know it's still a hurdle so I want to break that down to one more thing to talk about now we've gone over risks and benefits of institutions possibly getting in is kind of the one last thing I know some institutions are and whether they're hedge funds and are market neutral or they're VC funds that are more long-term there's been a few catalysts that have kind of at least made retail think more institutions are getting in and a few of those have been kind of CME or futures markets opening which were legitimizing the space in some ways the next catalyst that everyone seems to be looking for is ETFs can you kind of talk about what would be the difference of an ETF being approved what would be the difference of a fund having to or dealers having to stock up an inventory as opposed to just having derivative exposure how does how would that be beneficial would that get more institutions in would that be a massive boom for institutions yes I think it means yet approval would be massively bullish massively there are probably ten proposals in front of us to see right now as a super rough guess and interesting guess I put the odds of approval and the next three months of one if for only anyone knows and so that's literally just a guess it's not based on very much TS that are based on Bitcoin futures are more likely to approve be approved than ETS based on Bitcoin and the reason for that is um the futures are regulated see me and CBOE they're monitor they're transparent and they've been successful so far successful in the sense that there have you been any big failures the futures have worked as advertised so we're having an ETF where the underlying is something that is closely regulated and on traditional changes makes it more easier to finish to your proof I don't have an answer your question about like basically new dealers need to stock up on inventory for the ETF um or does that does that bring more money in if it is an ETF based on underlying versus an ETF based on derivatives what kind of distinction matters the reason being if whenever you buy in Bitcoin future on average someone is buying a Bitcoin so you buy the Bitcoin future you're buying it from a market maker the market maker who's also and they hinge by buying a Bitcoin underlying it there can be in cases where that's not true but um no I think it's basically one-to-one so someone buys said whatever it is sixty six hundred dollars worth of ETF stock market makers selling back to them they buy the futures that them that gets transmitted into the underlying so I think it all works its way to the other line at least most of the time I don't you would have some dealer inventories but mostly it would just be the amount of money that goes into the Yahoo be transmitted the other line I think would be a lot so I'm not instantly but um yeah on the announcement of the ETF I would personally think the fair value Bitcoin should shoot out by 50% least I think it's that bullish that's on the announcement and then over time it should produce the persistent bullish with that yep that's here cool very interesting that's all I really have I think that covers in terms of who's in you know what's kind of stopping other people from getting in risks benefits associated with all that and then kind of catalysts also looking ahead hopefully you guys learn something from this if you want to check out the audio version down below and iTunes SoundCloud I'm also on twitch I'm also gonna have links to all these page and any other resources that we may be referenced down below maybe some of those blog posts are a thank you so much for coming on what's what's next for you I know you've been you've kind of been trying to formulate maybe some new big ideas in the space or kind of staying away from posting as much content what are you working on now it's kind of next on your agenda what's exciting for you in crypto there's there's a handful of really important questions that I've been struggling with for a year that matter a lot and frankly a challenge for me is kind of finding the time to do fundamental deep dives at this point jump trying to manage a firm and job juggle day-to-day and so one of those really important questions is consensus mechanisms for workforce proof of state versus proof of space upon a time versus the last time there's a lot of consistently what was really gonna determine the winning crypto currencies there's only a few things I think that really matter so you know a common discussion point when we talk about can something overcome etherium is well can aetherium just incorporate any new feature so KZ caches ek stars if you're in can add ZK starts and they are aetherium is potentially gonna add something that is very similar to flatpoint with swarm and this is true alternative currencies so uh block stream just announced they were going to add something very similar so on aetherium there's a lot of work to allow for the issuance of real-world assets using polymath or harbor stellar and a wrinkle have had that ability using anchors to issue real-world ass on those chains and now bitcoins gonna be able to as well blossom announced they're adding a feature by a side chain I don't know if it will work but the point is that almost any feature that any protocol can do you're gonna be able to do on any other protocol in five years or maybe much sooner so what determines winners well there's only a couple things I think one is the consensus mechanism so someone if proof stake is actually much much much better than proof of work in all regardless if it's equally secure but much cheaper that potentially displaces big one um and trying to understand that is really it's fascinating and it's very very complex because I need be like here's a really quick summary of my current view I'm forwarding proof state I'm trying to dive much deeper um they both have a whole bunch of game theory at a factors and they're different and so it's hard to directly compare them so yes there's a lot of problems of proof stake their thing there are ways that can be taken advantage of the same is true for work something like approval or pro state hybrid may be interested and or maybe not so that's that Hydra to actually give you the best of both worlds or the worst of both worlds is I think these are really important questions that have not been driving the market so one of the reasons I didn't dive deeply into them six months ago was just I thought the market is not going to know the answer these questions for a while and this is now that's gonna drive price we're getting to a point where we'll drive price because aetherium is talking about hard for King to get proof of take very soon maybe in the next four months I don't know that's actually gonna happen but metallic has indicated it sits on the table and so suddenly owning aetherium is likely to become a bet on predict and I hope to have the right answer before the market does door before reality shows us and at the moment I do not I do not have the right answer to that so and and and so and one sensor that maybe even a higher level trying to understand in ten years is it's gonna be a world where there's one winning crypto currency or where there's a thousand there gonna be a world where there's a few giant winners like Facebook and Amazon and then a bunch of medium-sized companies um the answer that partly depends on which consensus mechanisms work for example I mean with proof of work you're there's no they're an only vehicle secure chains in the entire world because proof of work the security scales linearly with hash power at least the current versions what that means is a proof-of-work protocol that is small is fundamentally insecure and a fundamentally insecure protocol might be fine for a lot of use cases you don't need a billion dollars of security if for a card game or for a simple Pokemon or digital collectables that don't have that much value but in a proof-of-work world we probably don't have ten giant chains there's probably one or two in a proof of capacity world or well a proof Pasi probably is the same but there might be consensus mechanisms that support many many smaller secure chains it's a really important question to even have a high-level view of what we're investing in what this industry is about look like it's me or still unanswered questions yep Ari thank you so much for coming on before you dive into that thank everyone for watching as well already have any closing thoughts anything else you want to say no all right good stuff thanks for coming on this is fun hopefully you guys learned something about institutions and institute your money coming in you can stop asking that one institutional money meme on Twitter but think about this rationally rewatch this if you need to thanks for tuning in I'll see you guys next time thanks Ari thank you

28 thoughts on “What Institutional Money is in Crypto? w/ Ari Paul”

  1. Hey guys – be sure to subscribe to the Itunes/Soundcloud so you can listen to these on the go: https://itunes.apple.com/us/podcast/venture-coinist-audio-experience/id1350247761?mt=2

    I have some exciting episodes ahead and potentially some rewards for people that are subscribing! Thank you for taking the time to check it out.

  2. Thank you for this valuable conversation really interesting I sometimes forget how young the crypto world still is. I like the fact that you let your guest finish his sentences + you are easy on the eyes so you got a new sub 🙂

  3. If you want to have an alternative view of "crypto fund manager" Ari Paul the Twitter private messages released recently are very insightful. The messages make Ari Paul come across like clueless fool who was trying to get talented traders to make him and his Fund look good. Insider trading? Pump and dump? You be the judge =) https://twitter.com/kazonomics/status/1002929593026842626?s=19

  4. Luke! Amazing content. Answers so many questions. Alot of people are blindly calling "institutional money" THANKYOU FOR CLEARING THAT UP on the how and when. GREAT VIDEO

  5. Wow. Ari said it could be 5 years before Wall Street money really arrives in crypto, which is massively different to current crypto Twitter sentiment. People need to get real and really listen to these topics discussed here

  6. Why you hosting somebody who knows shit about trading and makes decisions based on insider info only ? Ari has been exposed ! #dealwithit

  7. I like the idea of reminding people that btc is still a driver for all those pre listed coins and therefore not likely to die in the near future because you can pump your ico investment even more by pumping btc in cycles.

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