Ben Forman – Unlocking Blockchain's Potential (EP.441)

27:08And it was very inefficient. And then you moved to these 20 foot containers and that made utilization higher. It reduced theft. The actual loading and unloading process for those containers on and off boats onto chassis was more efficient. It increased global GDP in a meaningful way because it increased the modality of goods globally. And that's kind of what tokenization does. It makes it easier for goods to move. There's not T plus 10 settlement. There's just a much greater degree of efficiency. How far along are we in that adoption? This is a gradually then suddenly phenomenon because tokenization is a network effect technology, similar to the telephone.

27:51If you're the only one that uses a telephone, it's not that useful. One other person, it's still not that useful. But the utility of a telephone scales exponentially with the number of participants on the network. Metcalfe's law. Similar with tokenization, if you're the only one that holds a tokenized treasury, it's not that useful. But as more and more people do hold it, as you benefit from all these features of tokenized assets, it becomes increasingly useful. And that's why when we start to see these long tail assets reach meaningful penetration rates, that's a meaningful catalyst. Because if you're an institution participating in one of these markets, you're pulled on chain because it's more useful, because it's the place where price discovery and liquidity takes place.

28:37What are some of the other financial market related real world applications we've seen over the last couple of years take some hold in the space? So one of the big ones has been prediction markets, particularly poly market. They call it prediction market, which means you can have a market on whether an event will occur. That event It can be in politics, it can be in sports, it can be in science, it can be in culture, and it will resolve at zero or one depending on whether the event occurs or not. The idea behind these prediction markets are you can get a real-time assessment probabilistically of what the world's view is or what the expected value of an event occurring is.

29:18A great example of this was in the presidential election market. So Polymarket, which is built on a blockchain, facilitated close to$3 billion on the U.S. presidential election. The beauty of markets is there's an objective wisdom in them that you don't see in traditional media. Anyone can say anything on X or on LinkedIn or CNN or Fox. But if you look at markets, they are a more unbiased source of truth. People have actual skin in the game. What was really interesting there is you could actually see in real time what the markets view on of what would happen in the election. There were kind of like two aha moments for me with these prediction markets.

29:58One was in the initial presidential debate between Trump and Biden. As Biden started to falter, you could see in real time the odds adjusting. And then he made a bit of a comeback midway through the debate and he started trading up again. Rather than listening to the pundits talk about who won or lost the debate, you could just look at the odds in real time. And if you disagreed with them, by the way, you could express that view. The other aha moment was the night of the election, after the results started coming in from the seven swing states, poly market reached 95 % probability on each of those seven states, in some cases, many, many hours or a day or two ahead of when the Associated Press called the race.

30:41These prediction markets are an incredibly exciting tool for humanity to basically understand what the worldview is on something. And it expands well beyond politics to areas like science, sports, culture. You've actually seen Polymarket's volume stay very strong post-election. I think that if you think about what this is at its core is some people may look at Polymarket as like a gambling app, but it's actually a new market infrastructure. It allows people to create a market on anything. How many inches of rainfall will there be in the breadbasket this harvest season? And that's a form of insurance.

31:19You can bet on that or you can underwrite that risk. And it has real business utility. So I think this is an area that will continue to grow. In the sports betting world has become very big and regulated. How do you think about polymarket and the prediction markets relative to the regulatory regime around it? regulation is coming very fast and furious to prediction markets in the US. There's been a couple like pretty important landmark cases of web to prediction market companies like Calci. But I think that it's going to be very difficult for traditional sports betting platforms to compete with prediction markets at scale.

31:58These sports books generally like set the odds internally, they'll have like an internal bookkeeper, and then they'll do their own risk management. And if they get too much action on Duke, they'll adjust the odds to be more favorable for UNC and vice versa. The beauty of these prediction markets is they're just software. There's no actual market risk that's being taken. There's no balance sheet at risk. And you're just putting these odds out there into the world. And there's a central limit order book with bids and asks. And people are trading these things in real time. The interesting thing about polymarket and prediction markets on blockchains is that they're global.

32:35So they benefit from global liquidity pools 24-7, 365, versus these centralized platforms where you have to wire in money, wait for your money to clear, and you're typically only servicing users within a specific geography with artificially set odds. It's a more free, open capital market, which I think produces better insights and more liquidity. We're going to take a break in the action to tell you more about Morningstar. Data isn't just a byproduct of your business. It's the driving force. But where's it taking you? Morningstar data clears the way forward. A decisive language of insights for investment professionals to implement conviction-led strategies across both public and private markets.

33:19Visit wheredataspeaks.com to see what Morningstar data can do for you. And now, back to the show. To get a sense of scale, what's the volume that Polymarkets generated through the election you mentioned and then post? There are two ways to think about this. So one is Polymarket is doing about, call it$500 million to a billion dollars a month of volume across its markets. And this is across roughly 50 to 75 ,000 active wallets. That's one way to look at it as a trading platform. But I think the more interesting way to look at this is as a news platform. Polymarket.com in November was one of the 100 most popular websites in the world.

34:03Had about 2x the website traffic as Coinbase.com. Most people referencing Polymarket actually had no idea it was a crypto application. So they're consuming the data from these markets rather than trading the markets. Actual odds are set by, on a relative terms, not that many people. And this data is now being piped into Bloomberg terminals and other key data sources, produces very valuable insights. Post-election, you've seen some drop off in volume, but even the election in Romania, for example, a couple months ago, I think that market had 50 million of open interest. 195 countries globally, there are always elections going on globally.

34:46There are at the presidential level and then at other parts of government in the US, the House, Congress, you have state races, you have different legislation. There's always interesting markets to bet on. What are some of the other financial market related applications? DeFi encompasses everything from lending and borrowing to trading to insurance to more financialized products. There's a whole range of different things you can do with stable coins on chain. And these really started in earnest in like 2020, in the early days of Ethereum, where we realized with these smart contracts, you could basically embed if-then logic to these assets.

35:28And most legal agreements or insurance contracts are really just like an if-then statement. When you really boil it down, if you buy insurance, it's if this event happens, you get paid wide dollars. This market for DeFi has continued to grow. We kind of call them the ING verbs of crypto. So it's lending, it's borrowing, it's hedging, it's swapping. So if you're earning a staking yield on Ethereum that's floating, you can swap that for fixed. You can securitize different yield products on chain. You can buy insurance on chain on different events occurring. There's really this supermarket of different financial products that's emerged.

36:06And a lot of them are really just experiments and are risky. A few of them have really established themselves as having credible moats and strong products that are continuing to compound and grow earnings on chain. What are some of those? A great example is Aave. Aave is a very simple product where you can deposit either a stable coin or a digital asset and earn yield on it. This yield is generated from people borrowing the asset. How do people borrow the asset? Well, they post a digital asset or stable coin as collateral and borrow against it up to a certain loan-to-value ratio. Prices are pulled in in real time.

36:45They're effectively incurrence covenants built in programmatically to these loans. While there are defaults, as you would expect, there's been almost negligible loss given default because of the way the collateral is then liquidated in those scenarios. Aave, as an example, now has close to$30 billion of capital deposited in its platform and single digit billions, maybe perhaps over 10 billion today now borrowed. The business model of Aave effectively takes a cut of the interest paid by borrowers to lenders. In a market like that, liquidity begets liquidity and users beget users because people want to borrow and lend from the most liquid, largest market with the most asset support.

37:33We initially invested in 2019. Here we are six years later and it's continued to compound and grow users and earnings. We've had this explosion of private credit assets. As an institution is looking at these blockchain assets as a way to get yield, how do the economics work so that if there's perceived risk in doing it, you're getting a premium return relative to where all the dollars seem to be flowing in the credit world? The heart of that question is really what's the risk premium for on-chain lending? If I can get 10 % in a private credit vehicle off-chain, what do I need to earn on-chain to make that worth the incremental risk?

38:14Let me answer that question taking a step back. There's like the risk-free rate on-chain, and then there's the risk-free rate in the traditional economy off-chain. In the early days of DeFi, the interest rate on-chain was much, much higher than the interest rate off-chain because doing anything on-chain was perceived as being more risky. So there was a point in time during COVID when interest rates in the real economy were zero, but you could earn 15 % to 20 % unlevered lending on-chain. And over time, that risk premium has compressed pretty materially. We even reached an environment where rates in the traditional economy were in excess.

38:56The risk-free rate was in excess of rates on chain. You could say, well, why would anyone leave stablecoins on chain earning 2 % when they could earn 4 % in the real economy? The short answer was people didn't want to leave the on-chain economy. They didn't want to have to re-on ramp into the traditional capital markets for a variety of different reasons. But more and more today, you're seeing those two interest rates reach a more steady state equilibrium. For private credit, the incremental yield ultimately is roughly similar between a private credit product off-chain and on-chain. There's no real discernible difference between the two today because that perceived risk has migrated towards zero.

39:36Ultimately, it's a function of who the borrowers are and their probability of default and their risk profile. What have been some of the most developed applications outside of the financial world? One of the really interesting areas in the space is called D-PIN. So it's Decentralized Physical Infrastructure Networks. And the idea behind this is if you're a telecom company, you normally would have a lot of capex, but can you get people to set up hotspots to form a network and give them tokens so you don't have to spend that CapEx, but they do. And so this idea of externalizing CapEx has been what's underpinned the growth of networks like Helium or other of these D-Pin networks.

40:23So you've seen a lot of experiments here. A company that is basically paying people to attach a dash cam onto their automobile and drive around and collect data in real time, similar to what Google Maps would create and what's happening on roads. It's a company called HiveMapper. And they've now mapped roughly 10 % of the world's roads in just a couple of years without spending a single dollar of CapEx. They're basically using their native token to incentivize this activity. And they're doing it in a manner that's much more efficient and quick than Google Maps historically was able to do it. it's this idea of can you use a token to incentivize people to perform some action in the physical world?

41:14This concept, I think, will eventually extend to other types of networks. If you think about something like, it'd be almost like if Uber paid drivers in the early days with shares of Uber, as opposed to just actually giving them cash, and then they feel more ownership in the network, and they're participating in the network makes the network more valuable. And you get onto this flywheel. So we're seeing a lot in the deep end category that is very promising, but we're still early there. How does the big movement in AI intersecting with blockchain? There are a few different areas of overlap. One of the big areas that we're seeing is this idea of AI agents.

41:54The end state of AI is not an LLM that you put data into in a call and response format, but it's really this idea of an agent that can take actions on your behalf. Blockchains were almost purpose-built for agents. We often talk internally that people have asked, when are the users going to come to blockchains? When are the users going to come? Well, we think the major users of blockchains just may be AI agents themselves. The reason why blockchains are really useful for AI agents is because they are 24-7, they're programmable rails. And AI agents cannot open a bank account. You have to be a human or a company to open a bank account.

42:35But if you're an AI agent and you want to send micropayments to other AI agents or micropayments to humans, that's really not possible on traditional banking. You really have to go on chain. If you look at the way this AI agent economy is evolving, you have flows between humans and AI, but the biggest category is AI to AI. That type of activity from first principles, I think, makes the most sense on blockchains. And so you're starting to see a lot of AI agents use blockchains, use DeFi, send stable coins to do things. And while blockchains are difficult for humans to use because the UX isn't necessarily intuitive, that's not an issue for an AI agent.

43:15They can figure it out. How do you think about the risk of that activity? The whole sci-fi aspect of, okay, you have blockchain and there's agents moving around now, you're talking about moving around money, feels a little scary. I think there are different levels of autonomy that you can give to these agents. You can program them with an allow list where they can only send or receive from certain other agents or certain other people. And you can cap how much you deposit in their wallet and give them discretion over. So there are safeguards, but there are also AI agents that are basically operating autonomously on chain buying tokens, trading tokens, ingesting data, drawing judgments, and then expressing those judgments in the market in real time.

43:56A really interesting use case for agents comes back to prediction markets. Imagine like a polymarket market about how much the Earth's temperature will warm in 2025. You can have AI agents that are reading every meteorology publication globally that are taking in alternative data on weather patterns from every country in the world. feeding it into their model, and in real time, recalibrating the probability to what extent temperatures will warm over the coming year. How can humans compete with that? So then if you have multiple AI agents that are trading against each other in a weather market, or how many Model Xs will Tesla sell next quarter, taking all the world's information, you start to be able to look at those markets and say, that's actually a fairly valuable data point, if I'm thinking about underwriting Tesla, or if I'm working at an NGO thinking about global warming, like these types of data points can be really interesting.

44:53That's really only possible with AI agents and 24-7 internet rails that blockchain provides. I think you're just going to start to see AI agents become bigger consumers of everything in DeFi, stable coins, tokenized assets, everything in the blockchain application space. As we look out over the next couple years, What other things are you most excited about that may come to fruition? The game theory around nation states adopting Bitcoin is one of the most interesting things I've ever studied or observed. We're now discussing a Bitcoin strategic reserve at the federal level in the US and in 31 states.

45:31And you're seeing other governments globally look at that very closely and think about front-running that. you kind of think two, three, four steps ahead and where this is going, it starts to get very, very interesting and reflexive. Witnessing that adoption curve in the coming years, I think will be fascinating. I'm just excited to watch that play out. Any others? We have a stablecoin bill that just passed the Senate Banking Committee and may get formalized into law in the coming months. Basically, stablecoins have become politicized in a sense, where right now we just basically have dollar-denominated stablecoins, but I think other governments are not going to just lay down and accept that the dollar is going to have a monopoly on blockchains.

46:16Right now, the dollar is used in 70 % of all global commerce in Web2 or traditional finance. I think in DC, there's been a wake-up call that it's a huge benefit for stablecoins to win Web3 rails because every time a stablecoin is issued, on the back end, someone's buying a treasury, and that's in turn incrementally lowering our cost of capital. And Tether alone was the seventh largest buyer of treasuries in the past year. And so if stablecoins grow from$200 billion and change to$2 trillion and change and beyond, this is actually like an area of pretty strategic national importance. I think that other countries are going to furiously compete in this market, and the US is also going to furiously try to win this market.

47:05Eventually, my view is the stablecoin market or tokenized fiat currencies will exceed traditional fiat currencies. This is going to be like, I think, one of the biggest races and most competitive arenas where governments are basically competing over blockchain currencies. And I think that's going to be very exciting to play out. And there's going to be a lot of investable themes behind that trend. We've had a series of crypto winters, even just in the years you've been running Parify. As you look out, are there pockets where you are concerned about risk? Always. And I look at the crypto space, I think like 99 % of things in this industry are not investable, but 1 % are.

47:45The amount of dispersion that you see and the amount of creative destruction is massive. There's nothing systemic that I see right now, where I would say like, this is going to cause an earthquake in crypto markets. There are a couple risks that I think people have been talking about for a while. One of them is Binance, one of them is Tether, the transparency of those organizations. In today's market, crypto is two and a half to three trillion. We're below where we were in crypto market cap in 2021, almost four years ago, despite all the progress in the space. And there's never been more real economic applications of blockchains that are relevant in the world today than there are right now.

48:27And there's never been more institutional interest in the space from the investing side than there is right now. And I think the question is flipped from why should I pay attention? Today, it's more, why shouldn't I have exposure? Oh, why don't you have exposure to crypto? Because having zero exposure to the space is almost a view in and of itself. This has been the best performing asset class of the last 15, 10, and five-year periods. Not having a position today, despite the increased regulatory clarity, despite the institutionalization, despite the use cases, I think is becoming a bit more of a contrarian view than a consensus view.

49:03So I think about this as a special moment in time in the market. I have a bit less worry than I usually do. I'm usually a more worried person. But right now it feels like as I look at valuation and fundamentals, the setup is actually pretty attractive. I'd love to get an update on the various ways you're participating to take advantage of this opportunity you see. On a high level, if you want exposure to blockchain technology or the digital asset ecosystem, there's not just a point and click one way to do it. You can invest in liquid digital assets. That can mean just investing in Bitcoin, or you can invest in all of the other 22 ,000 tokens that are listed on exchanges globally.

49:42You can invest in companies in the space, software, fintech companies, building services for the ecosystem. Those can be early or late stage companies. You can invest in non-directional strategies. There are now public companies in the crypto space, like miners, companies like Coinbase that are providing services. There are all these different parts of the ecosystem. In addition, just in token capital markets alone, there are private token markets where you invest before a team launches a token. There are what we call pipe T's that are private investment in public tokens where you're buying liquid tokens at a discount while agreeing to a lockup.

50:22So crypto capital markets are broad. They're complex. Each of those areas has a different liquidity profile, risk return profile, captures a different element of the growth of this technology. And I don't think there's like a one-size-fits-all approach. So if you're an endowment or foundation or you're a family office or you're a pool of capital and you want exposure to this technology, you really need to think about blockchain technology as a slice of your portfolio. And then within that slice, there are different sub-segments that give you different types of beta and alpha undercurrents to capture the growth and the upside.

50:59Our mandate at Parify, the way we kind of view our role in the ecosystem is we're not just an early stage venture firm. We're not just a liquid token firm. We're really capturing the full risk return profile across crypto capital markets. And there are a lot of advantages to doing that. One is just the information. So we have over 100 different portfolio companies, big and small, that are focused on different areas of this ecosystem in space. And so we can get the data from our private portfolio companies and use that to formulate theses on the public side. And then on the public side, as we're researching public tokens and looking at trading in public token markets, we can use those behaviors and lessons and then apart them on the private side of our portfolio.

51:45So there's this virtuous flywheel in terms of working across the broader ecosystem. What are some of your favorite stories of something you learned from, say, trading that applied to something else you're doing? The best example of this was in 2019, the term DeFi didn't exist. We called it crypto finance. As part of our diligence process, we forced ourselves to use every application that we invested in because the best way to really understand something is to use it. We were early users of Uniswap, which is the largest decentralized exchange, Compound, which is a large decentralized lending and borrowing market, MakerDAO, fiddling around and using them.

52:26As we kept on using these products, we realized ourselves, wow, this is capital markets that moves at the speed of the internet. There are no transfer agents or fund admins. There are no credit agreements or bond indentures. Everything kind of just works and you click buttons and it moves. And just through using these products day in and day out, and we actually became power users of many of these early DeFi protocols, it produced a massive, massive flywheel for our business. One, because we understood what products were good and we ended up investing behind those. Two, because we were power users of DeFi, we could help our private teams build towards where the puck was going and build great products because we were using these things day in, day out.

53:07We understood all the nuances and edge cases. And it also led us to develop different non-directional strategies in the space using stablecoins because stablecoins were the main substrate flowing through these DeFi protocols was. We also found that by using these DeFi applications every day, we had a better sense for what picks and shovels were needed for institutions to use them. So that led us to great companies like Fireblocks or other custodians like Anchorage that are building basically front ends for institutions to interact with DeFi. Those became some of our best investments. So the best way to really understand something is to use it because there's no substitute.

53:47Once you get into the arena and you're using a product and interacting with it, you understand what works and doesn't work. Imagine being like a gaming venture firm, never playing the games that you're investing in. You want to have that type of mentality. What are some of the non-directional strategies? As an ecosystem evolves, do you imagine there should be some inefficiencies to take advantage of? In the early days, stablecoins were an area ripe with opportunity. And there were two different types of opportunities within stablecoins. So stablecoins theoretically should trade at a dollar. In practice, they may trade at a dollar and two tenths of a cent or 99.7 cents.

54:25And they trade at different prices on different blockchains or different prices on different exchanges. And so there were opportunities to play the pull to par game. You go short, above par, long, below par. And there weren't that many pools of capital that were really pursuing that. The opportunities were also episodic. They were capacity constrained, but very uncorrelated and also had a positive correlation with volatility in the market. Stablecoins tended to de-peg when markets were experiencing bouts of volatility. In addition to that, there were markets where you could borrow a stablecoin at 5%, take it and relend it out at 8 % elsewhere.

55:06in a way that was very capital efficient and make a spread. And you could identify these opportunities programmatically and execute on them. And eventually the markets have become more efficient and reaching equilibrium. So stable coins were really like the first hunting ground for alpha from a non-directional standpoint, for us at least. And then as the markets evolved, one of the areas that we're finding very interesting is you have public assets, whether it's micro strategy, Coinbase, Bitcoin miners, public trusts that are crypto proxies, even like Robinhood now is getting deeper into the crypto space.

55:44And then you also have spot assets, spot crypto assets. And there are different ways to think about the relative implied and realized volatility between those two worlds, where there are very, very interesting arbitrages between those two spaces. And then lastly, long short, borrowing digital assets has historically been very difficult, but recently there have been massive improvements in infrastructure to be able to do that and to be able to execute a more fundamental or event-driven long short strategy within the space. So your firm, I think when we sat down three years ago, was probably roughly the size it is today with typical with the cycle, a big dip and a big recovery.

56:25How do you think about continuing to maintain and grow a business over the next couple of years? We have a super long range view on building this business. There's a lot of short termism in crypto, a lot of medium termism, but there's very little super long term focus. There's a cultural answer to that question, which is like every decision we make, every hire we make, we want to have that very long term alignment and build towards what we want our business to look like 10 plus years from now. But really, the core of it is as more and more institutions enter the space and want to generate interesting risk return profiles and also want to understand this ecosystem, we want to be the institutional partners for them.

57:06And then really the North Star is crypto is a secular trend. People think about crypto as a cyclical macro asset, but we really think about it as a long-term secular trend. And we want to invest in real use cases that are bringing GDP onto blockchains. That has to be the North Star. Everything really comes back to that. It all has to come back to what are financial applications or other corporate applications for this technology that actually make sense, actually unlock 10x better use cases because they're on chain. That has to be our North Star as a firm. And I'm just a believer that in building a business, to build something extraordinary, you just have to do something consistent over and over and over again, that Kaizen mentality of just get better and better every day.

57:53Our team is not chasing things. And we're also not trying to get everything right. That is, I think, the other thing that in markets in general, but particularly in the blockchain space, there's so much noise, just being able to say no and really focus on what are the two or three or four things we truly believe that underpin our thesis and finding the end of one entrepreneurs building in those areas or the end of one secular trends and themes that we can invest behind and then put the entire weight of our firm into making those things as much of a reality as possible. I mean, that is like all we can really ask of ourselves.

58:31I think if we get that right, we'll be fine. All right, Ben, I want to make sure I asked you a couple of new closing questions. What was your first paid job and what'd you learn from it? So I grew up in Seattle, Washington. When I was 14, I got paid by the Seattle Times to collect high school basketball game box scores. So I actually got paid$20 to like call in and tell them how many points, rebounds and assists each player and each team had, which was great money at the time. And actually funny anecdote about this is I could only be in one place at a time, right? So I would go to like my high school game anyway, but I ended up calling friends at other schools and getting them to provide me the box score.

59:10And I actually got leverage on my own time, which was a great lesson for me on building businesses and getting leverage on my time instead of getting paid by the hour. How'd your life turned out differently from how you expected it to? Well, I could have never guessed I would be in this industry in crypto. When I was at KKR, I thought I was gonna be there forever. I loved my job at KKR. I loved investing across the capital structure and credit and distress. But I could have never imagined that one, I'd be investing in crypto. But two, that I would be fortunate enough to be working part of such a great team with people that I respect, I just find it very humbling.

59:49And that's one of the things that I'm really, really grateful for. What's a mystery that you wonder about? I'll make this about crypto. Bitcoin was created by this guy or gal or group of people called Satoshi Nakamoto. And the fact that this is a$2 trillion asset that started in an obscure corner of the internet, focused on cryptography, and no one knows who that is, is one of the world's biggest mysteries to me. Will we ever find out? I'm not sure. But I think Satoshi Nakamoto, whoever he, she, they are, has triggered this entire movement. It kind of shows you that a butterfly flapping its wings can compound and cascade into something so incredibly meaningful.

1:00:34To me, that's a big mystery. Ben, last one. If the next five years or a chapter in your life? What's that chapter about? I recently bought this calendar. It's called a Memento Mori calendar, and it has 52 columns and then about 85 to 90 rows. And the idea is each one of these data points is a week in your life. Every week I've now like filled in the bubble. And to me, it's like a great reminder of how short life is and how there's no guarantees you're gonna get to the end of the calendar, by the way. But to me, it's been just grounding to think about the passage of time. and how fast it can move.

1:01:09So I kind of think about my life, not in like chapters, but almost in sentences and try to make things more atomic. I read a great book recently by Salil Bloom, Five Types of Wealth. They talk about many people like go about their lives just optimizing for one or two of these types of wealth, but there are all these different elements to, I think, what makes life rich and fulfilling. It's a multidimensional equation. And so for me, my next chapter, maybe on the surface, won't look that different from my prior five years. It's really just, I want to build deeper relationships with the people that I love.

1:01:44I want to build a deeper understanding of who I am. I want to achieve great things as a business with our team. And I want to have a great family life. So it's all those things, continuation of the journey that I'm on now. Ben, thanks so much for sharing this incredible update on the space. Yeah. Thanks, Ted. Great to talk.

1:02:34Thank you.