#33 - Matt Hougan: Bitcoin History & Outlook

28:26Yeah, I think that's right. Yeah, money moves on these tectonic timeframes. And 15 years is a blink of the eye. I think it's done remarkably well. I think it's sort of cleared every hurdle you would expect to clear to this point. What characteristics does Bitcoin possess that make it an attractive currency? Well, it's a limited supply. It's extremely secure. And it moves instantaneously around the world. And importantly, it's not reliant on any central bank or government. So I think those are the key characteristics. I think the world wants a digital, non-political store of value in currency. And Bitcoin has an extremely high probability of being it.

29:15It doesn't have to be it. We can talk about why I think it has that almost lock on that market and won't be replaced by something else. But I think that's the answer. The world wants this to exist. And Bitcoin is probably going to be it. I assume there's a very significant early mover advantage in that market. That's exactly right. There's an early mover advantage in two ways. One is just community know-how, right? We know about Bitcoin, it's past regulatory hurdles. You can exchange it to fiat currencies in over 100 countries around the world. A new startup won't get there. But there's an even more fundamental thing.

29:53People wonder, why can't I just start another Bitcoin or Alex MacCoin. The problem with Alex MacCoin, aside from that no one knows about it, is that the security of the network depends on the number of people that contribute computing resources to process transactions and secure the network or what they call Bitcoin miners. The downside of Bitcoin mining is it costs a lot of money and consumes a lot of energy. The upside of Bitcoin mining is that to attack the Bitcoin network, you have to have more than that amount of computing power, which makes it extremely secure. A startup coin that we ran on our laptops, you would only need three laptops to attack and shut down our currency.

30:36So it's just, it's a network effect that's both community-based, but also security-based. And that's just very hard to overcome. And what attributes make it a good investment? So in a portfolio context, it's sort of the greatest alternative asset in the world. If you strip the name Bitcoin from it, and you stripped all the angst that comes around with crypto, you would be left with an asset that has high potential returns, no guarantee, but high potential returns, extreme liquidity, 24-7, 365 liquidity, and historically low correlations with other assets. If you put that into a portfolio optimizer, it's going to love it.

31:17It's not going to want to put 100 % in. But if you put a small allocation, 2%, 3%, 4%, 5%, historically, you've increased risk adjusted returns. It's hard to find non-correlated liquid assets with return potential. Usually, either they're illiquid, like early stage venture, or they have no return potential, like short-term treasuries. This combines all three. And so, yeah, it functions like hot sauce in a portfolio. A little bit makes it taste a lot better. Do you consider Bitcoin a good inflation hedge over the long run? I do. Yeah. I think actually the track record suggests it's been a good inflation hedge.

31:57I encourage people to close their eyes and imagine US CPI running at 10 or 15 or 20 % and ask yourself where you think Bitcoin will be. I think when most people do that exercise, they realize that Bitcoin would probably be very much higher because people would be running to it. So I do think it's a good inflation hedge. Our last episode, we talked about gold and you touched on it earlier, which is another alternative storeholder wealth. Do you think of Bitcoin as digital gold or do you think of it differently? I think of it as digital and functional gold. So I do think of it as digital gold because it's a non-sovereign store of value.

32:39It doesn't depend on any government or entity, and you can hold it yourself without relying on anyone. So it's very similar. The two differences are, one, it's much less established than gold. That's why it's more volatile and also why it has more return potential. But the other half of it is it's much more functional than gold. If I need to send you, well, let me frame it another way. I have a Bitcoin ETF. It holds$3 billion of Bitcoin. That, if it were gold, would weigh something like 10 ,000 pounds. and if I had to send it to you, I'd have to hire a tanker or an airplane and it would take days or weeks or at least hours to get to you.

33:20I can wire you Bitcoin and it would settle in the next 10 minutes. It's a more functional transactional currency. That's why I think, and I know this is an out there idea, that's why I think that in four or five years, it'll be used for international transactions. You can't really use gold. It's so hard. Yes, you can move it by name in one vault from one person to another, but you can't actually send someone gold. You can really send someone Bitcoin. So I think of it as digital and functional gold. I want to ask you some questions about risk that investors may consider when deciding to invest in Bitcoin.

33:57So let's start with one of the biggest ones. And you mentioned this briefly earlier, but what is the risk that the value of Bitcoin goes to zero? Yeah, it's non-zero.

34:11This is a new, unproven technology to an extent. It's only been around for 15 years. I believe it will work long-term. I believe the trends that have pushed it to$65 ,000 will push it substantially higher. But you have to have some humility and say that we've never run this experiment before. There are things that could theoretically break Bitcoin. There's quantum computing as a risk. There's governments banning it as a risk. There's developers accidentally introducing a bug into the Bitcoin code that's catastrophic. That would be a risk. I suppose there's a risk that people could just lose interest, particularly if US governments slashed spending and reduced the budget deficit.

35:01All of these are risks. There's a risk that it could go down substantially. I think it's very small, but I do think there is that risk. if there is risk of it going to zero, some would argue that the next crisis, whether if it's small or big, if there is a risk that it goes to zero and the investors in it feel that there is a risk and go to zero and there's a crisis, then it could theoretically go to zero because of that risk and people will just sell and you get the downward spiral and then it ends up going to zero. How do you think about that scenario? I mean, history would suggest that's not going to happen.

35:42Um, you know, as I mentioned, we've been through seven 70 % drawdowns in Bitcoin and it's the best performing asset in the world. I think theory suggests that not, that's not, that would not happen. I think the world wants a digital store of value and Bitcoin is that. I think digital assets and trends have gone in a singular direction. So I don't think it's going to happen. I mean, the value of gold could go to zero. What if everyone decides that it's only Bitcoin now? Gold is like this metal we use for rings, but you can't use it. You can't spend it. You can't send it anywhere around the world.

36:20What if the value of gold goes down to like$200? What if NVIDIA is disrupted because either AI models move to much smaller sizes or there's a huge investment in chip competitors and its value go to zero. You can almost spin up anything that goes to zero. I think if you look at the track record of Bitcoin, it's overcome multiple crises. It's proven itself as a technology. It's gaining institutional adoption. I personally think it's sort of too big to fail at this point. But intellectually, could it theoretically go to zero? If no one wants the service Bitcoin provides, which is the ability to store digital wealth without a bank or a government, If no one wants that service in the whole world, then the value is zero.

37:08But I just find that very unlikely. And you could say the same thing about any other service. Any other service. You say the same thing about the dollar. In fact, again, every fiat currency in history has eventually inflated away 90 plus percent. And as you said, any service in the world. I just think it doesn't really look likely. And we know there are thousands of cryptocurrencies. Is there a worthy competitor that could overtake Bitcoin or is second place too far behind at this point? I think for monetary applications, second place is a long way behind. There are, for the reasons we discussed earlier, for the network effect and the security reasons, I think those are hurdles that will be hard to overcome.

37:54There are other applications of blockchain other than being money. Like as an example, Ethereum is a programmable blockchain that creates sort of a decentralized supercomputer. I think it's enormously exciting. I think there are world changing applications being built on Ethereum. I just don't think they compete with Bitcoin. So I think there are other interesting crypto assets and we could talk about why, but I don't think Bitcoin has a legitimate competitor in the monetary space, which is arguably the largest addressable market in crypto. I assume you don't think that this is just a fad or a cultural phenomenon that will pass at the next crisis or two.

38:34Yeah, I don't think so. I mean, we've lived through some pretty crazy crises. Bitcoin has lived through the Euro crisis. It's lived through COVID. It's thrived in both instances. I think Bitcoin is going to be around for the next 500 ,000 years, to be honest. I just don't think we're becoming less digital as a society. I don't think we're becoming less community oriented as a society. I don't think faith in institutions is going up. And as long as those things are true, I think Bitcoin is here to stay. It's proven that so far. And I assume confidence in the storeholder of wealth is important. And one of the obstacles it has to overcome is not being heavily regulated.

39:21And so you have a consumer that has to be confident in a currency that's not heavily regulated. How do you think about that? To some degree, the core value of Bitcoin is it's not reliant on any government or central institution. That does mean that there are risks that aren't the same as the risks you see in traditional currencies. But the good news is, I think it's made real regulatory progress, right? Again, there was a time and place where people thought the government might ban Bitcoin. Now BlackRock has a$20 billion Bitcoin ETF. Bitcoin ETFs have been approved by the SEC. Anti-money laundering has been applied to the Bitcoin space, it's been clearly identified as a commodity by international regulators.

40:05I think it's sort of made it through the regulatory keyhole. But you don't have the same protections with Bitcoin that you have with a bank account. For instance, if someone steals my credit card and charges money, the bank will reimburse me, right? Banks are costly, but they do have that service. Someone steals my Bitcoin, there's no one to reimburse me because there's no bank. And so you have more personal risk. And that's just, you know, everything has pros and cons. You talked about having cash in the bank. The bank is kind of safeguarding your cash, securities and financial institutions. There are safeguards there.

40:42How are Bitcoin investors confident that their wealth won't be taken away? And how difficult is it to get hacked or to lose your password and not be able to access your Bitcoin? Yeah, I'm glad you asked. You know, when you hold a Bitcoin, what you hold effectively is a password. And so if someone steals that password or you lose it, you've lost your Bitcoin. And we've all read these stories about, you know, the guy who lost his password now is missing$200 million of Bitcoin. What those stories forget is that when he acquired that Bitcoin, it was worth like a dollar, right? And so he bought $50 of Bitcoin on a lark.

41:22He probably wrote his password down on a piece of paper. And it's only now that it's worth$200 million that you hear that story. If someone was buying$200 million of Bitcoin today, they wouldn't be writing down their password on a piece of paper. The way we custody Bitcoin at Bitwise is we use a qualified custodian with insurance in place who's been managing these passwords, this way of storing your Bitcoin for 10 years that uses very sophisticated technology and has a track record of doing it exceptionally well. For what it's worth, the underlying technology of how you own Bitcoin is the same cryptography that all of the internet is based on, all military communications are based on.

42:05They're tried and true methods to secure your password in a safe way. And as long as you do that, the track record is extraordinarily good. I don't believe that there's been any qualified custodian that's ever lost any Bitcoin at all. Bitwise certainly hasn't over seven years. But if you walk around a major city holding$10 ,000 in your hand and waving it around, that's probably risky. But if you store your wealth responsibly, it's probably safe. The same thing is true in crypto. So what's the risk that today's price, which has obviously gone up a lot, is ultimately where it'll be in five or 10 years because the returns have been front loaded because of all the excitement about what the future holds?

42:54I think this is the best question. This is really what gets at the heart of it. And it's a very hard question to answer. But the reason I have confidence on that is twofold. So one, as I mentioned, I think we're at this sort of unstable equilibrium where it's too big to be irrelevant, but too small to be systemically important. And I don't think it can sort of hover in this intermediate land forever. And so I think it's early enough that we're still going to slide down that slope to be a multi-trillion dollar asset. But the other thing I would point to is just from a numbers perspective, like if you look at U.S.

43:37stocks, U.S. stocks are owned 79 % by institutional investors. If you look at crypto, crypto is owned maybe 1 % by institutional investors. If crypto were to look like the U.S. stock market, institutional investors would need to buy a trillion dollars of Bitcoin at the current price. I'll give you another example. central banks hold 19 % of all gold. If central banks had to buy 19 % of all Bitcoin, they'd have to buy hundreds of billions of dollars of Bitcoin. I'm not saying that institutions will own 80 % of Bitcoin or central banks will own 20 % of Bitcoin. But the point I'm making is that most of the money in the world right now has zero exposure to Bitcoin.

44:22The ETFs just launched, they were the most successful launch of all time. They're the fastest growing ETFs at BlackRock, at Fidelity, at Bitwise, at others. But we're still like six months into probably a 10-year transition of this asset being retail-owned to institutional-owned. And so if it looks like every other asset in the world, there's still so much money that has to come into the space just to normalize it that I think we're pretty early. And if all of a sudden, let's say the assets grow up massively, because there's a finite supply, I suppose that means the price has to rise. Is that correct?

44:59That's exactly right. There's only 21 million Bitcoin. There will never be any more. As another example of this numbers, I know these numbers sound extreme, but they're true. There are 59 million millionaires in the world. If they all want to own one Bitcoin, they can't, right? Because there is this limited supply. So you have this massive potential new demand against a fixed supply. And the only answer to that is rising price. And there's no way to create more Bitcoin? there is no way to create more Bitcoin. It's all we got. So I've asked you some questions about the downside risk. Let me ask you some questions on the other side.

45:37What's the risk that the market may be dramatically underestimating the long-term impact of Bitcoin? I think it's really significant. Yeah. So we defined the left tail as zero. I think the right tail stretches very far. I gave those two examples. What if institutions want to own just 20 % of Bitcoin, a quarter as much as they own stocks? You know, we've had$17 billion flow into these ETFs. They would need to put another$300 or$400 billion in at current prices. And I think that would have a dramatic impact on the price. As another example, without wading into politics too much, I was just at the Bitcoin conference where the GOP nominee for president, an independent candidate for president, and multiple senators proposed a US strategic Bitcoin reserve that would own a million Bitcoin, to use Senator Lemmes' example.

46:39If they do that and other central banks around the world decide to do that, there's just not enough Bitcoin to go around, right? I mean, the price would be exceptionally higher. If Bitcoin were worth as much as gold, which I think is a reasonable idea, I think, as I mentioned, it's more useful than gold. If Bitcoin were worth as much as gold, every Bitcoin would be worth$900 ,000. Currently, like$65 ,000. So I think there is a significant chance that this surprise is on the upside. And is there any way to tell what's discounted in today's price or what the intrinsic value is? Well, no. No is the answer.

47:21I mean, you can look at ownership. You can look at what percentage of its addressable market Bitcoin has captured. I think its addressable market is something like$40 trillion. dollars. So you can think about how much of it's captured, right? It's captured a couple percent of its market. But that is as close as you get. It doesn't create cash. It doesn't create cash flows. It's unique. That doesn't mean it has no value. People ask me that question all the time. I don't think it's true. I think it's a service. If you want the service, you have to buy Bitcoin, which is different than if you want another service, usually you have to pay a fee.

48:00but it doesn't have a discounted cashflow model. But you can look and see that it's only attacked maybe 2-3 % of its addressable market. So two down, 98 % to go. I suppose that's similar to any currency. I think that's similar to any currency or any store of value. What do you think are the odds that Bitcoin seriously competes with fiat currencies over the long term? I think it's pretty good, which I know is going to strike some people as crazy. But I would put your mind into a multipolar world. We're already seeing that countries are uncomfortable with only settling transactions on dollar-based rails.

48:36We've seen China look to push people to yuan-based rails. We've seen Russia moving to euro-based rails or trying to push people into their own currency. We've seen Saudi and Brazil try to settle bilaterally with each other's currencies. if we move increasingly, and I'm saying I want this, but if we move increasingly from a unipolar world to a multipolar world, I just think there's a meaningful chance the world will want a non-political currency that's neutral, the Switzerland of currencies. And the only Switzerland of currencies that can withstand the volume needed to transact is Bitcoin. And so I know it sounds crazy, but I do think in 10 years, it will exist like strategic drawing rights or like other currencies that are used in that fashion.

49:26And it won't mean we'll necessarily use it here for our mortgage. We'll probably still use the dollar. But I do think it will have this currency-like role. Are there any other risks you'd like to share about not owning Bitcoin? I mean, digging your heels in on any new technology just is risky. Like saying, I will never own X is just sort of closes your mind down to it. I would encourage people to think about what it would take for you to believe that Bitcoin is real. Would it take the world's largest asset manager launching an ETF? Because we've seen that. Would it take ETFs moving into the market?

50:06Because we've seen that. Would it take central banks putting Bitcoin on their balance cheat, great. Write that down. And then if it happens, maybe it's time to reevaluate. So I do think there are risks to having a 0 % exposure. If you're 0 % exposed, you're effectively short. It's an asset in the world. And I don't know that many people want to take that view. That's really, really insightful. I appreciate that. I'm going to ask a few questions about regulation and Bitcoin ETFs to end our conversation. So we had this historic collapse, FTX, the third largest crypto exchange by volume, went to zero and we had a failure of a stable coin or two.

50:48What did all of that do to the urgency to regulate the space? Yeah, I think it should have accelerated the urgency to have fair and balanced regulations in the market. If you think about those two examples, why were people using FTX? People were using FTX, which is an offshore entity, because we've strangled the ability for good actors onshore to develop viable markets. It reminds me a lot, we've made a lot of technology analogies, it reminds me a lot of Napster. Why did people use Napster? Because they wanted individual songs. As soon as we had iTunes, we were all happy to pay a dollar because we didn't wanna buy the full album, we just wanted a song.

51:27We wanted that service. Napster was an illegal way to deliver that service and so we went there. But once there was a legal way, great, awesome, everybody wins. The same thing would be true in crypto. If we had vibrant crypto exchanges, which had regulatory clarity, which knew which tokens they could trade and which tokens they don't, where the SEC and the CFTC stopped disagreeing over who should regulate the industry, FTX would have been a pipsqueak. How many people trade stocks on an offshore stock exchange? Like zero, right? The only reason people did that was we squeezed the regulated version.

52:02And the same thing was true of the stable coin that collapsed. Stablecoins are great, world-changing ideas. They're dollars, digital dollars on the cell phone of everyone around the world. That's something we want as Americans. It would make the world more efficient. And there are highly regulated stablecoins like USDC that hold BlackRock money market funds. Great. Awesome. Let's export those to the world. But because we made it difficult for regulated stablecoins to thrive, people moved to these unregulated versions, which had terrible designs and ultimately collapsed. I think it should be a clarion call that we need balanced, reasonable regulation to make everyone safer, make the US the center of crypto.

52:47And it strikes me as a win-win. And I suppose it's an oxymoron to consider that, let's say the US government comes out with a digital currency as a competitor. I think it wouldn't compete with Bitcoin in the same way that the dollar doesn't compete with gold. It would just make the dollar A, more efficient and B, less private. So there's a pro and con there. But yeah, people worry about that. I don't worry about that. Core offering of Bitcoin is it's not issued by any government. So a US dollar can't compete with that. It took a long time until the SEC allowed Bitcoin ETFs. Would you provide some background about the issues that we're faced in this battle and the main arguments on each side?

53:34Oh, man. Alex, I took 33 trips to D.C., believe it or not, to talk to the SEC about ETFs. My favorite hotel, my favorite coffee shop. I'm a secondary resident there. Look, let's give the SEC some credit. When the first application for a Bitcoin ETF was filed, the market wasn't ready for an ETF. There was no institutional custody. There wasn't liquidity. There was a lot of fake volume on the market. There was a lot of fraud and manipulation. So it's not that they should have greenlit everything. They were right to say no. The issue as it emerged is as those sort of table stakes were solved, as we had institutional custody, as we had institutional liquidity, the big hang up was on this question of market manipulation and whether you can surveil the Bitcoin market to make sure that there's no funny business going on in that market.

54:26Ultimately, that was resolved because we got regulated futures markets, which track the price of Bitcoin. And you could surveil those markets to get an understanding of what's going on in Bitcoin. So ultimately, the SEC got there. But the arguments were all around this question of market manipulation and whether you could trust the underlying Bitcoin markets. And eventually, we got there. I think we should have gotten there three or four years earlier, but not 10 years earlier. So we were a little bit delayed, but not as delayed as people make it out to be. Well, there are a lot of examples of regulation taking longer than the technological advances.

55:04You could just see that with self-driving cars and a lot of different areas. Yeah, I think that should be our default case. So maybe we shouldn't be that surprised. Is an ETF the best way to get exposure to Bitcoin in your views? Yeah, for a lot of people, right? So I think there's an argument to hold Bitcoin directly through self-sovereignly custody. That's the original way of owning Bitcoin. We love when people do that. It's like holding gold directly, holding a gold bar instead of holding a gold ETF. But for many investors, the ETF is the most efficient, lowest cost, and most secure way to access Bitcoin.

55:42If you look at something like our Bitcoin ETF, BITB, it's 20 basis points or 0.2 % as the annual fee. You have it traded by crypto experts. The fund is audited by KPMG. It's administered by the Bank of New York. It follows the protections of the 33 Act. Look, that's the great promise of ETFs. The great promise of ETFs is they allow individual investors to access the market on the same terms as the largest institutions in the world. That's what these Bitcoin ETFs are doing. So I think it's a great way to own Bitcoin. So you mentioned your Bitcoin ETF. Would you just tell us high level about the others and how they're different?

56:20Yeah, sure. So there are, I think, eight or nine Bitcoin ETFs. Our largest competitors are probably from the big companies like BlackRock and Fidelity. We're different than them in three ways. One, we're lower cost. We're 20 % cheaper than those ETFs and costs matter. Two, we're a crypto specialist. So both in terms of how we trade the crypto, how we custody it. And most importantly, if you have questions about crypto after you buy the ETF, you're working with a specialist, a team of 65 people instead of a generalist that also manages stocks and bonds and other things. And then the third thing which appeals to people who love crypto is, you know, we're crypto native.

57:00We donate 10 % of the profits from our ETF to Bitcoin open source developers to support the ecosystem. We publish our Bitcoin addresses. So you can check to see that we have the Bitcoin we say we do. We support the ecosystem in other ways. So, you know, look, plenty of people are going to buy the BlackRock ETF because they're a BlackRock exceptional institution. More crypto native people are finding their way to our ETF and we welcome them there as well. We started our conversation talking about your experience in the world of ETFs. We spent most of the discussion on Bitcoin and now we're bringing a full circle talking about Bitcoin ETFs.

57:37So what would you say is the importance of Bitcoin ETFs in providing easy access to the largest markets? Yeah, absolutely. They're incredible. Look, crypto has gone from zero to$2 trillion based mostly on retail investors. And retail investors only control about 20 % of the money in the world. ETFs open up the market to the remaining 80 % of the money in the US. And that's just an enormous step forward. They also bring a lot of regulatory clarity and certainty and security to a space that has been lacking it. So I think they're fundamentally helping lift up the Bitcoin market. Matt, you've been very generous with your time.

58:21You've explained things in simple to understand terms, which I appreciate. And I know our listeners do as well. Thank you. Thank you for having me. This was a lot of fun. Thanks for listening. We hope you enjoyed this episode. Please visit our website at insightfulinvestor.org to access past shows and learn more about our podcast. If you have questions, feel free to email us at info at insightfulinvestor.org. And if you enjoyed the discussion, please subscribe to this podcast to ensure you don't miss future episodes. And don't forget to forward today's conversation to others you think would enjoy listening.

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