Behold RippleGram!

Source:  Ripple  

Source:  Ripple
 

Fine, we'll talk about Ripple. The partnership between Moneygram and the blockchain startup for using XRP for money transfers hit the media, and we think it's a big deal. As far as we know, this is the first real example of a circulating public cryptocoin intersecting with a western financial firm as an operating tool, which is different from deploying Enterprise blockchain internally (see DAH, Hyperledger, EEA). If so, it is a major win for Ripple and seems like a smart move for Moneygram, which prevents short-term disintermediation by crypto. Good also for the customer, who won't need to understand crypto in order to benefit from it. Bad news for Bitcoin and fully decentralized currencies that hope consumers care to have the coins themselves in a wallet, especially since (1) the fees are lower and (2) the speed of transfer and transaction capacity are higher.

One thing to note about Moneygram is that it was almost acquired by Chinese mega tech firm Alibaba (Ant Financial) for $1.2 billion. But the US government blocked the deal. For the payments industry, many people believe companies like AntFinancial or Wechat, with their embedded billions of users and Artificial Intelligence powered virtual assistants are the future. By that definition, Moneygram is the past -- but it has physical infrastructure, global distribution, and regulatory blessing which is valuable to new entrants. So Moneygram now has two bets: China, which didn't work out, and crypto.  An $80 billion public/private crypto thing is then not a bad back up gamble.

The crypto natives are unhappy. Ryan Selkis (former Coindesk, Digital Currency Group) highlights that to justify the XRP multi billion dollar market cap, one has to believe a series of increasingly low probability events -- from full retail adoption, to banking industry acceptance, to regulator and central bank cooperation, to limited volatility in crypto currencies. Social influencer / trader "Crypto Yoda" penned an essay about XRP being a currency issued by a private company controlling the trust nodes, which is of course more efficient than a decentralized currency burning electricity for manufacturing trust from nothing. In that way, XRP is a philosophical challenger to Bitcoin's attempt to decentralize money movement. 

Another line of questioning is about the separation between Ripple the company and XRP the currency. If we look at RippleNet, this is a meaningful industry consortium focused on solving the international payments problem. We know that the global payments revenue pool is about $1.8 trillion in revenue, of which cross-border business payments is about $300 billion. Remittances are about $30 billion. This is a big market to go after. But Ripple's rentable blockchain network for banks is not the same thing as the XRP currency. The two are not required to be used together, but when combined financial institution cost savings may double from 30% to 60%. The savings comes from not having to maintain bank accounts in multiple currencies across the world in order to effect international money transfer. But on the other hand, XRP does still need to be exchanged from fiat and back into fiat, so local exchanges are needed. Until Moneygram, much of this was a hypothetical. We are excited to see how this develops.

Source: Autonomous Research (with help from Matt O'Neill

Source: Autonomous Research (with help from Matt O'Neill

Google and Amazon Augmenting Humans

Source: Magic Leap

Source: Magic Leap

Here is your futurist palette cleanser. At the world's largest consumer electronics show, augmented reality and virtual assistants dominated this year. It's like the tech companies are living in a completely different world than the rest of us.

First the data points on virtual reality. A pair of augmented reality glasses called Vuzix Blade are attempting to do again what Google Glass and Snap's Spectacles failed to do, i.e., matter at all. But, this time *may* be different. Augmented Reality is more mature, is plugged into various operating systems, and has developers building cool apps. Vuzix is working on an interface layer on top of the real world, which could theoretically power a payment experience. Another example is Magic Leap, a developer of a mixed reality headset that raised $500 million last October, and finally revealed its Lightwear product end of last year. The developer kit is out there, and one of the advertised uses is AR commerce (see the promotional image attached). And as a last data point, HTC Vive now has a wireless adapter. So you no longer need to have wires sticking out of your head to use VR -- just beam it over please!

Did we mention that the Vuzix Blade comes built in with Amazon Alexa? So expect to see people talking to their smart glasses, which solves a major user interface challenge for something you cannot touch. Google is heavily invested into this trend as well. One of the biggest platform battles today is around bring artificially intelligent assistants into the mainstream, a battle that Amazon and Google have only begun. To that end, Google is embedding its AI assistant into cars (Android Auto) and smart displays that will likely be embedded into refrigerators and other willing appliances. So finally, we will be able to talk about our finances to the car, and ask the toaster about investments.

But let's generalize just a bit more. What we are seeing is the rise of the augmented human. Whereas computing previously lived mostly in our sense of touch (keyboard, phone), it is now moving to our sight (AR/VR) and our speech (assistants). Yes, everyone looks like silly cyborgs in the stock photos, but understand that this is just the beginning and we are in the awkward teenager phase of such augmentation. Further, as our senses are digitized, their function will be tokenized and used as a medium of exchange. Projects like Brave and Gazecoin point the way.

cff6d932-9051-4ab3-a549-4e1a7c3e585c[1].png
Source: Vuzix, Magic Leap, Google

Source: Vuzix, Magic Leap, Google

The Small-Cap Coin Rush

Source: Coinmarketcap (and its 300 million monthly uniques)

Source: Coinmarketcap (and its 300 million monthly uniques)

Literally everyone around us is either trading crypto or starting crypto companies. Two conclusions are possible: (1) from now on all startups are crypto startups, like all tech startups use Web and Mobile, and (2) people are chasing the dragon because it's a dragon. Checking in with investors that have gone through the DotCom experience, most say that it feels like 1997 -- where both the excitement and the bad decision-making are palpable and public. So what are the key symptoms?

The first data point is that the mainstream excitement about crypto has shifted from Bitcoin into alternative cryptocurrencies, i.e., alt coins (XRP, IOTA, ADA, TRON, ICX, etc). The reason is simple. Many people have onramped from fiat into crypto via Bitcoin in 2017. But you you have to believe some wacky things to get Bitcoin to increase 100x from here. With tradeable coins that have a $50-500 million marketcap, it is still possible to imagine (rightly or not) those 100x returns. And in fact, there is a cottage industry of Youtube personalities that keep publicly available spreadsheets that evaluate Initial Coin Offerings, Twitter day-traders working through candlesticks and resistance levels, and well-branded investment newsletters. Talk of "pump and dump" is rampant, and celebrities are leveraging influence to drive coin prices. Tetras Capital penned a great article on Coindesk about the black hole of this phenomenon, and how to navigate it.

One of their conclusions was that the cheaper the price of a particular token (not the marketcap, just the $ price), the better return it had in the last month. That's not a great investment rationale, and has nothing to do with technology or potential. So if you participate in this market, understand that while a technical innovation wave is indeed underneath it all, the current market is a set of options whose strike prices are based on sentiment, fear of missing out, and social media marketing bots.

The antidote to dragon-chasing is data. The good news is that there are some great data providers out there. If you use Google sheets, check out the Cryptofinance plugin. To track social media activity, see Solume (and the chart below that shows the correlation between social discussion and XRP price). We are impressed with OnchainFXCoinmetricsSeigniorage and Iceberg for quantitative and fundamental data. The other antidote is indexing. The best thing thing that could happen in the space are boring vanilla ETFs priced at 5 bps, tracking (1) large cap, (2) mid cap, and (3) small cap coins. We track many crypto funds that are pursuing token basket strategies, but Crypto 20Crescent Crypto and 2030 come to mind. The race is on to be the next Dimensional Fund Advisors and get your name on a business school.

Source: Solume.

Source: Solume.

Public Company Blockchain Pretenders

Source: Autonomous Research

Source: Autonomous Research

Welcome to the first rumblings of Crypto Eighteen. We are calling it that to make the whole year more valuable! Apparently this is a tactic that works -- by our count, some 31 public companies have already jumped on the crypto bandwagon by either adding Blockchain to their name or putting out a press release announcing a pivot to Blockchain technologies (including our favorite, Long Island Iced Tea becoming Long Blockchain Corp). If history is a guide we’ll see 100+ instances of this in 2018 – an academic study found that in the Dot Com bubble the instances of name gaming went from 13 in 1998 to 126 in 1999.

The DotCom name game dropped to 36 in 2000, and from late 2000 through 2001 the trend completely reversed with 57 companies deleting DotCom from their names. Oops! But let’s be honest: No one likes to talk about hangovers in the middle of a party. Turning to performance, the median stock in our Blockchain sample is up 265% in 2017. This puts the Dot Com name game to shame, where stocks with name changes only went up 118%. Paltry compared to the rise of Bitcoin, but what isn't. And if you haven’t started hating yourself for not being a Blockchain millionaire yet, let us just point out that these "Blockchain" companies have a combined market cap of $22bn.

Without further ado, here's the sample: The Crypto Company (CRCW), Natural Resources Holding Ltd (NRHYY), Global Blockchain Technologies Corp (BLKCF), Intercontinental Technology (RCGR), LongFin Corp (LFIN), UBI BlockChain Internet (UBIA), Riot Blockchain (RIOT), MGT Capital Investments (MGTI), DNA Dynamics (DNAD), Online Blockchain PLC (OBC-GB), Digital Power Corp (DPW), Nodechain Inc (VPTK), Siebert Financial Corp (SIEB), Xunlei Ltd (XNET), Seven Stars Cloud Group (SSC), Overstock.com (OSTK), US Global Investors (GROW), BIG Blockchain Intelligence Group (BIGG), Net Element (NETE), Gain Capital (GAIN), Nxt-ID (NXTD), NQ Mobile (NQ), Long Island Iced Tea (LTEA), Hive Blockchain Technologie (HIVE), 360 Blockchain Inc (BKLLF), Social Reality Inc (SRAX), On Track Innovations (OTIV), Future FinTech Group (FTFT), Chanticlear Holdings (BURG), Marathon Patent Group (MARA), Blockchain Group  (364-HK)

We don't recommend anything about these companies, other than noting that they exist, are doing this, and are gaming the pinballing valuation mechanics between the public, private and crypto markets. Speaking of, did you say Uber's price collapsed by $30 billion?

Tigercub Roboadvisor Roaring

Source: Google Trends

Source: Google Trends

Hmm. So one of the most cut throat hedge funds, Tiger Global Management, just led a $75 million round in #2 American roboadvisor Wealthfront. There is some irony about an alpha-chasing investment product manufacturer putting in a growth stage check into a passive-ETF asset allocator that targets techy Millennials. Is Wealthfront the ultimate tiger cub? Is this the death knell of equity alpha? Or maybe just another example of an asset manager investing in a distribution play to the consumer, like BlackRock and FutureAdvisorWisdom Tree and AdvisorEngine, or Jemstep and Invesco? Regardless, we wanted to kick the tires around what this $75 million check could mean to the $9 billion RIA. 

Raising money signals multiple things. First, it signals the need to raise capital. This can be driven either by a large cash burn, or the desire to scale quickly to take over a market, or both. In the case of B2C digital wealth, we know that there are no winner take all dynamics for the first wave of roboadvisors by watching the AUM trajectories of the companies in the space. For asset allocators, AUM growth is linear, not exponential. Acorns, Stash, Robinhood, Coinbase are different. Perhaps Wealthfront can tap into their customer acquisition dynamics and product set to open new options (i.e., add crypto like Revolut and some money movement AI). Or perhaps $25 billion in assets is breakeven, and the venture play is for a much longer time horizon, like 10 years from today.
 
Second, raising money signals the company’s skills at raising money. This can be dependent on product traction, the impression of equity scarcity, and personal networks. In this regard, we do think that Wealthfront has a powerful hand. Living at the heart of the Valley and being run by a well respected venture capitalist implies continued access to capital given sufficient company progress. But, in the global landscape, capital is cheap. If Softbank can write $100 billion of venture checks into American fintech, capital access can't be the determining long-term winning factor. So how is Wealthfront going to do against Betterment? Check out the customer demand below and let us know what you think!

005e4541-7f91-485b-af33-373bec0a43b7[1].png

 

 

World Building Artificial Intelligence

520be1a1-19e9-4ee3-8ec5-22f3c4a1922d[1].gif

We were awestruck by two projects. The first allows sketches of objects to become rendered images using generative neural networks. We've shared similar versions of this idea -- from Google's open source library of 3D rendered models to 3D gestures that map onto a space of virtual objects -- but this particular application shows how simple it is to go from concept to realistic (ish) environment. Yes, it's still ugly and messy, but for how long?  

The second project does an even more impressive trick. It takes the visual environments rendered in the 3D bubbles (or "360 video") of Google Maps and generates background sound for the environment. Note that this isn't the actual recorded sound, but a neural network hallucinated auditory experience that is correlated to the image mathematically. Listen to the video for full effect.

The melding of physical and digital spaces requires steps like this to become scalable and repeatable. We believe that once this type of technology is polished around the edges, augmented reality experiences and commerce will become profound.

What Will 2018 Fintech & Crypto Look Like?

We are thinking about 2018, and here you will find our best educated guess about the year to come. 

Crypto Eighteen  

If you thought 2017 was loud about crypto, just wait till 2018. Up or down, that doesn't matter -- what will certainly be in play is massive volatility as the crypto economy beats on against traditional finance, regulators and sovereign power. The largest mountains to climb are the development of institutional crypto custody and a vanilla ETF product to absorb the splurging demand, and we think this will happen. In terms of creative destruction, we expect one of the top ten 2017 currencies to collapse 80%, one of the enterprise blockchain consortia to fall apart, and new technical solutions like the Tangle or Hashgraph to challenge our assumption that Bitcoin is the endgame.

Source: Pexels CC0

Source: Pexels CC0

 

Augmented Commerce 

Let's go out on a limb, with that limb being a 3D rendered object in virtual reality. We think there's a storm brewing in digital goods spilling out into our real world (think Crypo Kitties), and physical goods becoming virtual (think Ikea). Machine vision combined with Whole Foods, Amazon's augmented reality app, and the iPhone X signals to us that a new type of commerce is emerging. Symptoms like the dominance of eSports and the popularity of sponsored SnapChat filters will only increase, and lead to a new purchasing and payments experiences. Financial companies will miss this completely.

Source: Minecraft

Source: Minecraft

 

Social Selling Meets Propaganda Bots 

How can financial advisors, insurance agents, bank tellers and other human front office staff compete with bots? How can they compete with Kim Kardashian and kitten GIFs for attention? They can't -- at least not without some automated help. We think that 2018 will see a much fuller implementation of Social Selling, i.e., using social networks like LinkedIn to prospect for business, and that this channel will become plugged into roboadvisors, neobanks and insurtech startups. Further, social selling is all about content marketing, by using writing, podcasts and video. To distribute these at scale, we expect the technology behind propaganda bots to find a way into the mainstream economy and become a more acceptable strategy. Call it demand generation.

Source: Pexels CC0 

Source: Pexels CC0 


Here is the long form update on all the themes we are tracking for next year.
 

#Blockchain for Enterprise

  • A major incumbent custodian will offer an institutional platform for crypto assets and will see inflows of $5 billion in response
  •  Traditional securities, like equities and fixed income, will be traded on a production blockchain platform that also supports crypto instrument trading (not just futures, but the actual thing)
  •  An industry consortia will fall apart and give up its proprietary blockchain format for a public alternative instead; and a non-blockchain technology, like the IOTA tangle or the Hashgraph, will create a new rush of excitement for incumbents 
  •  1,000 back-office financial services staff will be laid off resulting from settlement / reconciliation automation

#Bitcoin & Initial Coin Offerings

  • The SAFT will face a well respected challenger for how to legally paper crypto currency investing
  •  Five exchange traded funds will be in the American market by year end, two of which will purely track single instruments (Bitcoin, Ethereum) and three of which will be indexes of the top coins. Decentralized exchanges fail to be widely adopted due to a lack of global liquidity.
  •  There will be 500 crypto funds managing 20 billion in assets, using strategies from AI to distressed investing, and two of them will be managing over a billion each.
  •  Protocol-level token interest is replaced and outgrown by use-case/app level token interest (e.g., machine economy, fintech startups) in terms of ICO funding and human capital. ICO funding eclipses all Fintech venture capital funding.
  •  One of the top 10 crypto currencies today will collapse over 80% in market cap

#ArtificialIntelligence

  • Things get worse before they get better. Deep Fakes (i.e., videos with superimposed faces of other people and their voices) spread by propaganda bots hit the Internet and cause a media stir, with a particularly painful media scandal affecting a political party
  •  The Asian artificial intelligence giants (Alibaba, Baidu, Tencent) outcompete anything Google or Facebook can do by (1) creating a more powerful neural network cluster, say by a factor of 2x, (2) investing twice as much capital into R&D, and (3) having unprecedented access to government data
  •  Decentralized Autonomous Organizations with certain functions defined by machine judgment start to battle with the traditional economy

#Roboadvisor 

  • An ETF with a price point of 0 bps will be created
  •  Mid-sized stand-alone roboadvisors begin to die in droves, as venture investment into the space moves onto greener pastures. Seed stage wealth tech investment is lower than 2015 numbers. 
  • A micro-investing service reaches 10 million users, introduces crypto currencies and becomes solvent based on the crypto-fees
  •  One of the incumbent roboadvisors (Schwab, BlackRock, et al) turns on industrial-strength content farming and social selling, clogging up LinkedIn and Twitter with bot armies of asset allocation advertising

#Neobanks & Digital Lending

  • Neobanks will become cryptobanks, and cryptobanks will become neobanks. Personal Financial Management and budgeting will recede into the background as currency conversion becomes the most important part of a mobile bank app. The category will raise $2 billion in funding.
  •  The two largest digital lenders by underwriting volume will be Amazon and Goldman Sachs, or similar high tech and high finance players. Standalone digital lenders will continue to struggle with scale and capital.
  •  A neobank will get hacked, and will thereafter die

Financial #APIs and Banks-as-a-Service

  • Open banking and PSD2 will hit Europe like a tsunami and force the opening of data ... but nothing drastic will actually happen. Bank-as-a-service infrastructure startups, like ClearBank, may see a few dozed $ million shift onto their platforms, but incumbents will not see major consumer behavior change.
  •  The data availability will contribute to the progress in virtual financial assistants, who can move money between accounts, spot the top interest rate, and tell you about it on chat and voice channels
  •  An enterprise tech player, like Oracle or IBM, will package all the bank APIs together into a single service offering and capture all the usage

#Chatbots & Voice

  • 3D rendered avatars begin to represent traditional brands in virtual worlds and retail locations, and are able to sell financial products
  •  One of the voice assistant, like Alexa, Google Home or HomePod, will have 100,000 skills, but none of them will be good at financial advice just yet
  • A startup focused on being the virtual assistant for financial services will reach 5 million users

#Regtech, #Crowdfunding

  • Centralized government technology becomes a major investment theme, as sovereigns battle decentralized crypto chaos, North Korea hackers, Russian propaganda bots, and Asian AI giants. A marquee check of over $5 billion is spent on a GovTech venture.
  • Identity solutions -- face ID, blockchain KYC/AML -- create the impression that we are safer. But another massive 100 million person hack happens and catalyzes a major innovation in identity theft recovery (rather than prevention).
  • Billionaire crypto whales becomes patrons of a new wave of art and entertainment, especially in VR and eSports

#Payments 

  • Augmented reality payments are seen in the wild, using for example machine vision on fruits and vegetables at Whole Foods to create an experience without checkout
  • International B2B payments begin to see margin collapse as Ripple, or potentially consortia technology, begins to meaningfully eat into SWIFT's network and technology
  • Standalone messenger apps like Kik will fail to replicate the success of WeChat in combining payments with messaging, but one of the GAFA will see an unexpected surge in payments volume within its broader platform and will offer a savings product

#Insurtech

  • Claims assessment using machine vision goes mainstream at a top 5 insurance company, and results in 500 layoffs for claims adjusters
  • A B2C insurtech startup like Lemonade reaches 500,000 customers, with a better loss ratio than its legacy competitors
  • Another unprecedented hurricane season catalyzes large insurers to campaign against climate change and for green energy

#AttentionEconomy & Millennials

  • Millennials are supposed to inherit $30 trillion in a wealth transfer over the next 20 years, but crypto will have accelerated that transfer by 5 years
  • The number of hours humans spend on media will have peaked at 12 hours, and will stay flat in 2018
  • Media companies will begin to optimize not for attention but for emotion, and advertisers will expect to be able to buy an emotion associated with their brand and web traffic
  • The quantification of human attention units, being built by projects like Brave or GazeCoin, will be integrated as a core functionality by one of the GAFA

#VirtualReality & #AugmentedReality

  • Virtual Goods (e.g., 3D rendered objects in video games and virtual worlds) continue to grow in value relative to the overall economy, and a massive commerce company for AR/VR objects is born
  • Augmented Reality social networks and games will be the new normal. A new viral phenomenon, bigger than Pokemon Go, will take the world by storm.
  • The number of VR headsets sold, however, will be a disappointment as dedicated VR content struggles

#InternetOfThings

  • There will be 3 times more smart IoT devices in the world than human beings. A new botnet more powerful than anything we've seen yet will be run off several hundred thousand of these devices to attack Internet services.
  • On-demand risk insurance -- either via telematics inside of smart cars or biometrics / chip implants inside of humans -- will become a major source of innovation, similar to on-demand cloud storage or processing power 
  • The machine economy, powered by AI aggregators like Amazon or Hut34 and cryptocurrencies like IOTA, will begin to take shape, with a marquee $100 million venture investment in the space as a signal

Raisin and Lemonade Raising Raises

This week, Softbank and PayPal are competing for the B2C future of finance. PayPal put an undisclosed amount into German neobank Raisin. We use the term neobank loosely. Raisin helps customers comparison shop for the highest deposit rate across 40 European banks. Once PSD2 rolls out (i.e., in Jan of 2018), auto-switching between banks could be a trivial virtual assistant task. That makes Raisin a better Amazon Alexa skill than, let's say, UBS. PayPal has just announced an Acorns partnership in the US, so they seem to be moving from money in motion (payments) to money at rest (savings and investments).

Second, Softbank is splurging its $100 billion fund on Fintechunicorns across categories. Remember it owns some SoFi and Kabbage. And now it has put $120 million into the freshest of Insurtech startups for renter's insurance, Lemonade. According to a back of the envelope from Coverager, the startup would need to sell 2.5 million policies to return the investment in 3 years, a far cry from its current 70,000. That makes the likelihood of cashflow economics working out pretty low. And this is exactly the same thing people say about Betterment, Acorns, N26, Revolut, et cetera et cetera.

Our usual refrain to this is (1) many of these companies are attention economy companies with winner-take-all dynamics for the next generation, and overinvesting in them means building brands that work for the future, (2) demand generation and monetization are separate things, and this is why many of the million-use-base companies are diversifying across products, and (3) what's expensive to acquire for traditional finance incumbents is cheap for Facebook, or, maybe an Ethereum billionaire. We'll call that trend "Vitalik goes shopping". But better yet, let's look at this from Softbank's point of view. A portfolio of millions of American financial services companies with modern technology stacks and cool brands, spread across different verticals. You only need one of them to be Goldman Sachs.

World's Largest Botnet Born from Minecraft

Source: Minecraft

Source: Minecraft

This is a lego piece for the future. On the Internet (we're there right now!), a distributed denial-of-service attack ("DDoS") is when a group of computers access a server so many times that traffic spikes and the server crashes, taking down whatever it is hosting. So for example, if you don't like the NY Times, just overwhelm it with robots and bring the site offline. These robots, collectively a botnet, don't have to be particularly good computers -- one could for example hack into thousands of baby monitors over WiFi and then point them at a target.

In 2016, a tremendously powerful botnet attacked the internet infrastructure of the United States, like never before. It used 600,000 Internet of Things devices. Where did this weapon come from? The answer is the video game Minecraft. In 2014, the virtual sandbox had 100 million registered players and a GDP of $400 million. Part of these economics is hosting Minecraft servers for local communities, and the corrollary of that is that executing a DDoS attack against a competitor makes you a modern-day Minecraft mafia monopoly. The 21-year old creators of this infamous botnet built it to snipe out other video game tycoons and make more money on their Minecraft servers. Later, they used the same botnet to defraud advertisers (selling hundreds of thousands of clicks and traffic that came from robots, not humans).

At some point, the creators open sourced the software and it spread through the dark web. That means any black hat hacker can get the code, change it up, and try to create its own infection of IoT devices. We know that, for example, North Korea is pretty good at cyber attacks and is now hacking crypto currency infrastructure. The links between 21-year old computer savants, video games, Internet money, and international geopolitical power struggles are here to stay. Which world is more powerful?

How to Set Up a Crypto Fund

We don't do this often, but we'd like to give a major shout-out to HFM Week by summarizing their excellent webinar on Demystifying Cryptocurrency: Best practices for trading digital assets. Go listen to the replay now -- featuring a crypto focused lawyer, a crypto hedge fund operator,a CPA who audits crypto funds, and the president of Gemini Hedge Fund Services, which provides back-office support to hedge funds (can you tell we love financial infrastructure). So how similar or different are crypto vs. conventional fiat hedge funds?  

In many ways similar. First, human psychology is always the driving force in the markets, which we’re seeing it play out “in overdrive” right now. Second, when setting up a crypto fund, as with a fiat fund, service provider diligence is key. Find an auditor, attorney, and other partners who truly understand crypto. The market for such providers is expanding dramatically, and there are too many faux "experts". As with any investment fund, carefully describing the fund’s strategy and paying close attention to disclosures (and making sure they evolve with the asset class) is paramount. Tax considerations are similar to those for fiat funds, at least in the US. Fee structure is also shaping up to be similar, with a 2/20 structure becoming most common. On liquidity, many crypto funds are aiming to be fairly liquid with side-pockets for investing in less liquid assets. As a side note, we know that about a third of the funds are traders, a third are venture investors, and the rest are indexes and quants.
 
As far as differences, the main one is that crypto has yet to find a formal custodian mechanism. The few attempts out there are small and not suitable for a large market. This is a problem that will need to be solved, especially if the instruments are deemed securities, as it makes a fund unable to comply with the custody rule. Following on this, how can an auditor verify the existence of assets without a reputable custodian? Blockchain-based transactions allow for transparency and record but not necessarily validation of control (although there are third-party confirmation of wallet services that are helping solve this problem). Solutions to these problems are evolving, and it’s reminiscent of the 1994 internet, which also created questions around accounting and auditing.  

Some of the other outstanding questions without answers: (1) Tax treatment: Crypto currency is treated as property by the IRS (so if you sell, you incur a capital gain or loss). But if you use crypto to buy into crypto denominated share class and never touch fiat, what is the tax treatment? (2) What type of insurance is available for the sector? Right now, there’s no mass market product. (3) With no central clearing of pricing, how should mark to market be handled? (4) When does an ICO have market depth to be priced and to be marked to market? And the question we have is how long do these funds have in the market before ICOs are heavily regulated and a large asset manager vacuums up assets with an ETF!

Prediction Surprises for 2017 and a Year in Review

It's prediction season. But before we get into 2018 and the coming trends (which we'll publish on January 2nd), we wanted to grade ourselves on 2017. How did we do in thinking about the future, relative to what happened? And more importantly, why? None of the prediction text is edited -- we add a subjective accuracy verdict, rationale for the score and an update on the sector.


Top 2017 predictions ( Published on January 03, 2017 )

(1) Revival of Cryptocurrency. 10 countries will have issued central-bank backed cryptocurrencies, and Americans will still not understand why that's important. And a multi-billion dollar enterprise will finally try to use the public Bitcoin blockchain as an application layer. 

Verdict: 85%

We got this one mostly right. At the end of last year, several African countries were looking into using a private labeled blockchain system to run their own crypto currencies, and we thought that would revitalize interest. Today, Russia is working on the cryptoruble, Japan the J-Coin, the US Federal Reserve isat least thinking about it, as are SwedenChina, and many others. Not to mention Venezuela. What can also be highlighted as progress are the capital markets settlement coins between large financial institutions, and the role of Ripple in developing international payments. Certainly the ASX announcement of adopting Digital Asset Holdings for its core trading system resonates here as well. What we were wrong about is just how much reach crypto currencies had into the lives of regular people, and the wealth transfer implications of the public blockchains (at least $400 bilion worth). Certainly none of the central bank issued crypto coins are yet worth anything when compared to Bitcoin.

AAMAAQDGAAgAAQAAAAAAAApmAAAAJGEyMGNmMTdiLWQ0YzgtNDYzOS04ZjJlLTgxMjZmODE2ZjhjOA[1].png

Source: Cointmarketcap


(2) What Roboadvisors? Almost all roboadvice assets will be (by %) at Vanguard, Schwab, and Bank of America. Every large firm in the wealth management business will have gone digital. And we will see a large tech firm unexpectedly acquire an Acorns or Digit, and totally scare everyone that they're getting into finance.

Verdict: 90%

Ah, you have to feel bad for the unicorn roboadvisors. Betterment, Wealthfront and the rest have been in this game since 2008 or so. And yet, while their assets have been creeping up to about $5 to $10 billion each for the independents, powered by hundreds of millions in Fintech venture capital, the incumbents are putting up a massive fight. Vanguard alone has more than $65 billion in its digital hybrid, Schwab is likely over $20 billion, and of course Morgan Stanley,Bank of America Merrill LynchWells FargoDeutsche Bank and most others are in the game. And that's not to mention the asset managers, like BlackRock launching its digital wealth division. We haven't seen an acquisition of Acorns or Digit, but the partnership between PayPal and Acorns certainly looks like the right theme, and reminds us of Ant Financial and Baidu.

AAMAAQDGAAgAAQAAAAAAAA1vAAAAJDAyZjkxMmFlLWNkMzktNGY5OC1hNTIwLTk3ZjkzZWYxYTgzZA[1].png

Source: Atlas (mid-2017)


(3) APIs Everywhere but Disappointing. In a watershed moment, every single large retail and corporate bank will have a Developer portal with open API keys. However, most of those APIs will do nothing other than pull information. Actionable APIs will be too expensive to use, but Venture Capital firms will overfund companies that tell a story about how to tap into them.

Verdict: 60%

So maybe we were a year early with this. The PSD2 (European regulation) date is in January 2018, and by then European banks are mandated to share APIs with the world. We thought that means banks would get ready and open up in advance, but instead we have a smattering of portals from select providers. This Daily Fintech thread has done a nice job of collecting those available. And there are many non-bank financial APIs, for example collected by Programmable Web orLetsTalkPayments. Still, we get a kick from seeing a Deutsche Bank developer portal site open to all. What's happened with this theme instead is (1) the creation of a few bank-as-a-platform startups as a venture backed investment (e.g., Cross River Bank in US, ClearBank in UK), (2) some existential hand wrangling by traditional banks as they watch Amazon move into lending and Apple move deeper into payments, and (3) Ethereum becoming the world's API and programming language for things like crypto-banks.

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Source: BBVA


And here is the long form update on all the themes we track and the lessons we've learned this year.

Digital Wealth Management (Roboadvice)

Predictions:

  1. Angel and small Series-A funding into B2C roboadvisors will be pretty much $0. Series B funding into digital wealth management companies more broadly will be a little more than half that of 2016. 
  2. One digital wealth company from the second generation, like Acorns, Stash or Digit, will get bought for a ridiculous amount by an unlikely and surprising bidder.
  3.  Almost all roboadvice assets will be (by %) at Vanguard, Schwab, and Bank of America. 
  4. Everyone will start saying "artificial intelligence" instead of "roboadvice" but none of the business fundamental will have changed

Verdict: 75%

The higher granularity than in the top 3 predictions makes us more wrong. Indeed most roboadvisor funding and interest shifted to micro-investing services (e.g., StashAcorns) and financial chatbots (e.g., Earnest, Trim, Cleo). Instead of AI for roboadvice, people do say micro-investing or chatbots. The underlying business change, however, is that those services have now customers/users numbering in the millions. That implies very small accounts (about $1,000) at very large scale. And nobody has been bought just yet at a massive price.

 

Blockchain and Digital Ledgers

Predictions:

  1. Bitcoin, the technology and not the $ value of the digital currency, will be relevant again, and will see at least one multi-billion dollar company leverage its public blockchain 
  2. Big banks will try to patent troll their vertical solutions on top of the open source projects (Hyperledger, etc.) and will feel a sense of false confidence. It will be the year of lawsuits between the incumbent and startups communities, and open source will win.
  3. A blockhain-based production ready system,in either trading or money movement, will replace the legacy tech stack of a multi-billion dollar firm. It will actually increase costs in that year, and observers will draw the wrong conclusions even though the firm is more competitive in the long run.

Verdict: 90%

Still feeling pretty good here. While the Bitcoin $ value did become extremely important (climbing towards $20,000 at one point as futures on CBOE were about to launch), the technology of the blockchain has catalyzed over $4 billion in Ethereum-based token launches and thousands of related startups. Banks certainly are trying to patent their enterprise blockchain solutions, but that is unlikely to matter in the long run we think as open source code bases grow exponentially.

 

Artificial Intelligence

Predictions:

  1. Intel and AMD will keep making hadware chips optimizing for neural networks, and will drive the execution speed of image recognition and similar tasks to be 10x faster than what we have today 
  2. Real time video face recognition and editing will become a consumer toy. The first instance of someone releasing a viral video impersonating a politician using face-overlay and voice-replacement technology will get a massive negative backlash from conservative thinkers
  3.  A political movement against unemployment caused by self-driving cars, chatbots, and other AI products will rise, but it won't be able to articulate its concerns in a way our political system understands or can address

Verdict: 80%

It wasn't Intel and AMD, but NVIDIA that experienced the most growth resulting from their neural network hardware and developer resources. There is an arms race in determining who will power all our self-driving cars, trucks and augmented-reality devices. That race is not yet over. In terms of image editing and forgery of people's visages, check outFaceApp, which allows you to morph gender, age and other variables in real time. And as this Verge story describes, such algorithms ("deepfakes") are now being applied to adult content. This dangerous technology has not yet hit the mainstream and crossed wires with fake news and propaganda bots, but we have a better idea than ever just how dangerous AI-based communication has become, and the political effects it has had

 

Neobanks & Challenger Banks

Predictions:

  1. Incumbent banks will wake up and come down extremely hard on challengers and neobanks. They will fight them on mobile apps, chatbots, instant payments, and user experience. You won't be able to tell apart the website designs of new and old firms. 
  2.  Startups will try to do everything to become financial supermarkets. Expect to see lending, payments, banking, data aggregation and insurance combined in an attempt to grab at least some consumer attention. Regardless, neobanks will struggle getting to any scale beyond 10,000 early adopters.

Verdict: 75%

We were right that all established banks will trend towards becoming neobanks, with native mobile apps, chatbots and digital capability. One example of this is payments app Zelle vs PayPal owned Venmo. We also got the trend of unicorn Fintech startups becoming financial markets generally right (though it was easy) -- see SoFi, N26, Paypal/Acorns, or across to China as Ant, Baidu and Tencent build the Fintech of the future. We were wrong on the magnitudes. Incumbents aren't particularly scared of Atom or Monzo, as the tech banks struggle to get licensed or funded. The real story in licensing is the ability to hold deposits to lend out -- you know, to have a business model. The other part we missed is the scale of early adopters. Revolut has a million customers, as does Transferwise. You can say that those are international payments apps, to which we say, yes, you mean global banks?

 

Financial APIs & Banks as a Service

Predictions:

  1. In a watershed moment, every single large retail and corporate bank will have a Developer portal with open API keys. However, most of those APIs will do nothing other than pull information. Actionable APIs will be too expensive to use, but Venture Capital firms will overfund companies that tell a story about how to tap into them.
  2. BBVA and Santander will retain their position as marketing leaders of a BaaS offering, and we will start to see apps using their infrastructure.
  3. Someone will write a malicious app that crashes one of the API stores, generating tons of press and cyber security premiums.

Verdict: 60%

APIs are coming not with a bang, but with a whimper. 2018 will be the year where APIs really get test and implemented by incumbents, so we were off here. BBVA and Santander indeed do maintain their marketing positions, reinforced in a quantitative study we've done on bank innovation. But JP Morgan and Barclays also matter. And the biggest security breach of the year wasn't from these APIs, but from horrible security procedures at Equifax, exposing over 140 million Americans.

 

Chatbots, Conversational Interfaces

Predictions:

  1. Virtual assistants will start to appear in business locations, from banking branches to shopping experiences. People in customer service from a major brand will be laid off.
  2.  Amazon Echo, Google Siri and Google Home will start a nuclear war over the connected smart home. Like with its other products (Kindle, Fire), Amazon will lose its lead, especially as self-driving cars develop their own AI assistants. 
  3.  Facebook will get into the hardware business through an acquisition, and Messenger/Whatsapp will gain a physical form

Verdict: 60%

Hmm, maybe too much science fiction juice in this one. 2017 did see millions of hardware sales of virtual assistants -- Google Home vsAmazon Alexa has Amazon in the lead; Apple HomePod is nowhere. But anthropomorphic AIs are still in early development. As an individual data point, the incredible human renders from Soul Machines are starting to emerge from the uncanny valley. Not so much for the robotic Sophia, who despite being granted citizenship in Saudi Arabia is still a pretty creepy robot. And we're not aware of any hardware acquisitions yet to give the brand-name AIs tangible form. Amazon did buy Body Labswhich does 3D scans of human bodies, but that's probably to sell clothes in Augmented Reality.

 

Democratization, Regulation and Crowds

Predictions:

  1. As consumer protection is rolled back, equity and real estate crowdfunding experience major scams that lead to a public backlash.
  2.  Crowdfunding technology ends up creating asymmetric benefits for those already in power (think about who can really use Syndicate investing on Angellist, stock earning estimates from Estimize, or invest in Numerai's crowdfunded AI hedge fund). Income inequality becomes sharper despite equality of access to cheap investments.

Verdict: 100%

This happened in a surprising but big way with the crypto economy. Consumer protection did not exist at all as Initial Coin Offerings raised increasingly more capital in 2017, fulfilling on the original promise of crowdfunding. The year ended with over $4 billion in ICO funding. Scams and hacks proliferated, from the $170 million Parity failure, to fraudulent ICOs being shut down in China, to the hundreds of millions of crypto locked up in the Tezos litigation. And of course, the story would not be complete without the huge concentration of mining power in Bitcoin, the 170 crypto funds trying to profit from the opportunity, the billions "created" in the Bitcoin Cash fork, and the general distribution of wealth in favor of crypto whales. Black swan outcome.

 

Bitcoin & Cryptocurrency

Predictions:

  1. 10 countries will have issued central-bank backed cryptocurrencies, and Americans will still not understand why that's important 
  2. Another massive Initial Coin Offering like that of the DAO, over $50 million, will get people's heads shaking again. This one won't get hacked. Traditional Venture Capital firms will have invested 10% of the amount.

Verdict: 100%

Again on the ball here, especially around ICO funding. Think about Filecoin, the CoinList powered SAFT launch where venture investors put in $50 million at $0.70 per coin and regular investors bought $200 million worth at $2.50 per coin (give or take). That's a 20% allocation of the overall raise to private investors, and a massive uptake by the public. More generally, ICOs are a 10x increase on all annual venture investment into blockchain and Bitcoin companies.

 

Insurtech

Predictions:

  1. Venture investment will continue to pour in, increasing by over 50% globally.
  2. There will be a major exit at a price point comfortably above $100 million to a legacy insurance company
  3.  A scandal, either on the underwriting or regulatory side, like the licensing issue with Zenefits, will hit an insurtech startup and lead to renewed finger-wagging

Verdict: 70%

According to Coverager, venture investment in Insurtech sat at $4 billion in both 2016 and 2017, so the theme is not seeing increased YoY activity. But it's not falling off either. In terms of acquisitions, there is healthy appetite in the sector to modernize and own software assets, with over$10 billion being spent on M&A. One example that fits the bill isTravelers buying Simply Business (online broker for small business insurance) for $490 millionCVS acquiring Aetna is certainly a big deal, but that has more to do with the state of healthcare in the US than artificially intelligent drones powered by machine vision. There is also something to be said for China's Ping An Insurance going public at a $200 billion valuation, but it is a stretch to tie that to the predictions above.

And on the scandal point we did get it directionally right. SoFi, which does have an insurance offering via partnership, got into the news on account of the CEO's sexual harassment allegations, which led to his resignation amid the broader transformation of our society with the #MeToo movement.

 

Generational Shifts

Predictions:

  1. Generation Z will become a bigger buzzword than Millennials. Banks will wonder whether then Snapchat generation even knows if banks exist. 
  2. Valuations in the Gig economy (AirBnB, Uber, Task Rabbit) will crater, due to poor exit opportunities in the public markets and a churning contractor force dissatisfied with the lack of stability and benefits

Verdict: 50%

So Gen Z is definitely on the radar, and includes everyone born after around the year 2000. But Millennials still reign. The brightest example is Olaf Carlson-Wee, the 27 years crypto-king of Polychain Capital. And the gig economy is still around. Despite setback for companies likeUber in London, most private unicorns are continuing their journey, and the crypto economy in particular is adding more steam to pinballing valuations. The perceived failure of Blue Apron's IPO (falling from a $2 billion offering to $800 million), however, does create a cautionary example.

 

Attention Economy

Predictions:

  1. Snapchat holds on to its lead with younger demographics by understanding its customers better than anyone else, resulting in a flashy public exit that leads to multiple new businesses being started in the Los Angeles ecosystem, many of them in VR film
  2. One of Google, Apple, Facebook, Microsoft and Amazon will get into financial services in a way that makes financial incumbents extremely anxious, and will create public outcry. Financials will fail to understand why the tech firms are pursuing what seems like a dead end, but is really a way to engage with users and get more data

Verdict: 80%

Snapchat certainly did go public, at $24 billion, but has since fallen to $18 billion. But unlike the GAFA tech giants, it has not been perceived as an artificial intelligence leader, and its bet on Spectacles has not gone the way it wanted. But the big tech firms have indeed gone further into finance -- from Amazon's SME lending, to Apple and Facebook messaging payments, to Google's machine learning and financial cloud. We would highlight Amazon's digital lending moves as particularly threatening to incumbents, given their higher quality data for automated underwriting.

 

Virtual and Augmented Reality

Predictions:

  1. Millions of virtual reality headsets will hit homes across the United States, leading to an explosion of VR apps powered by Valve's Steam store, Playstation, and Google. 
  2.  A multi-billion dollar investment firm will open a virtual reality branch with live customer service, potentially on Google Earth or another VR world
  3.  Payments in VR will go live in Asia first, and will set the default behavior for the rest of us to follow. Credit card networks will open VR incubators or invest in VR companies.
  4.  Augmented Reality will still be mostly unknown to consumers, but will see multi-million dollar contracts between enterprise clients

Verdict: 85%

This is one is almost right, helped by Apple's latest hardware. Millions of VR headsets have indeed been sold to American consumers, but the general sense is that VR is not ready for mass adoption. Augmented Reality, however, has absolutely landed in the hands of consumers in the form of iPhone X, which comes with a ARkit, a development kit of software engineers. Ikea, Amazon and other retail apps are thinking about how to implement AR commerce, which we continue to think will drive payments activity. And of course, don't forget Alibaba's $20 billion revenue "singles day" shopping spree, in part powered by this technology.

 

Internet of Things & Wearables (IoT)

Predictions:

  1. Unsexy businesses in the "old economy" of manufacturing physical objects will position themselves as technology companies that generate terabytes of proprietary data. Hedge funds and other investors gladly pay for that data, repeating the experience of expert networks.
  2.  Self-driving cars continue to beat performance expectations and end up in production-mode on roads all across the world, leading to unemployment and outrage. Governments, trying to stem the bleeding, file lawsuits against tech companies for breaking regulations. It doesn't work.

Verdict: 50%

Broadly speaking, Alternative Data is a big growth area with many companies looking for ways to monetize their internal data exhaust. But the role of old manufacturers is perhaps not as drastically helpful as we had hoped (yet). As for self driving cars, we got it backwards. For some reason, the US House of Representatives is in favor of looser regulations for self-driving cars, and had passed a bill as such. Perhaps the auto industry as a whole, and not just Tesla, is seeing this as a way to boost its fortunes. And the cars aren't quite in production mode at scale, but may hit the roads by 2020.

 

Singularity

Predictions:

  1. Human addiction to technology will reach a new height. People will spend more than 12 hours a day on their screens.
  2. The cost of sequencing the genome for an anonymous consumer falls to $25. Genome data can be made available between services via API.
  3.  3D printed organs will be implanted into human patients successfully.
  4. Scientists will claim they have simulated a full rat brain, which will become easier due to newly available hardware. There will be no implication in the physical world from this discovery.

Verdict: 65%

Yep. People now spend 12 hours per day on media. The cost of sequencing a genome is somewhere between a $1,000 and $70, depending on granularity. Organs are not routinely 3D printed yet, but a Wisconsin company offered to implant NFC chips into its employees. And no, there are no stimulated rat brains yet -- but here's a worm brain in a robot body and optical neural nets on a silicon chip.

Kittens, Star Trek and the Internet

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In a classic Star Trek episode, "The Trouble with Tribbles", cute furry aliens reproduce so quickly in the Enterprise that they get everywhere and clog up the ship's systems. The same fate befell the Ethereum blockchain last week, as adorable virtual cats ate up more than 10% of its processing capacity. ICOs, payments and other smart contracts all waited in line as collectible cats were born into the world according to a generative algorithm. Each crypto kitty is a blockchain-powered digital object, meaning it is scarce and true. All in, over $7 million has been spent on these troublemakers in about a week, with the top cat going for over $100,000.
 
This is not silly. It is, instead, the perfect storm of internet culture, ground breaking technology, and human behavioral hacking. Consider that in many emerging technologies, the motivating examples that find quick mainstream adoption are driven by cute animals. The cultural language of the Internet, memes, is in part a large production factory of kitten pictures. Machine vision, the technology that enables Tesla cars and trucks to drive autonomously, was trained on millions of publicly available dog and cat photos as a benchmark, and can now recognize dogs down to their breed. Augmented reality, the technology that Amazon is using to enable a new type of virtual commerce, has had its first viral hit in the form of Pokemon Go. Which, you guessed it, was about collecting a variety of cute cartoon animals. On the Internet, first come the cats, and then mainstream recognition.

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So is investing in a crypto cat a great idea? Probably not -- even though the utility of a virtual pet may be higher than many ICO tokens today, it still looks like the irrational exuberance about beanie babies (once 10% of eBay sales) or collectible trolls. But what is relevant to understand is the underlying technology. Because of blockchain, anything from a cartoon cat to a traditional equity to an autonomous car can have unique digital presence, engage in commerce, and be traded in capital markets. If generative DNA can be stored on the blockchain, and effectively managed to create over 100,000 unique individuals, it's not that big of a stretch to imagine medical data or personal identity taking a similar path. And all of this is happening right meow.

Sources: Crypto KittiesStar TrekAmazon / VergePokemon Go / Zugara

The Ethics of Sovereign Technology

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The Chinese tech companies sit comfortably between media, software and finance. No distinction needs to be made between using someone's social media data, search history, shopping habits, education and financial track record -- all of these data points flow into massive AI power-houses with half a billion users, inside Alibaba, Baidu, Tencent and others. Now, imagine if your Facebook friends and Google searches and Amazon shopping and Visa purchases determined if you could get a student loan to go to university. China's social credit system will do just that, reports Futurism.com while referencing an infamous Black Mirror episode that explores a dystopian view of this concept.  While countries like the US certainly struggle with systemic bias in the commercial activities of free participants, at the least such bias is not put into software by the federal government and used to determine access to services. 

Or is it? Consider that a regulatory agency, the Federal Communications Commission (FCC), is working to remove net neutrality rules in order to allow Telecom companies to meter how and where Internet traffic flows. While Comcast may not turn off access to some particular site, they could in theory tier the speed of the Internet according to economics, politics or whim -- such that, for example, Goldman Sachs or Amazon load quickly, while Crypto Kitties or Telegram load slowly. And loading time is a major determinant of consumer behavior and information exposure. We can't trust the Telecoms to not extract economic rents. Therefore, this policy choice will strengthen the ability of entrenched commercial interests to determine what people have access to, and consume.

And what if the rationale for such policy decisions is not even driven by the sovereign, or the collective will of that state's people? Data Scientist Jeff Kao deed a deep dive on the FCC comments using natural language processing analysis. In the best case, at least 1.3 million of the pro-repeal comments sent to the FCC were automated. In the worst-case, only 800,000 of the 22 million submitted comments came from real people, with 99% of those opposing the repeal. In the graph below, the height of the bar shows how often a campaign was repeated on an exponential scale. The color Red is associated with repealing and the color Green with keeping net neutrality. The clustered Red middle suggests the work of spambots that can generate slightly different language with the same meaning. The long Green tail is likely to be written by real people, though the first top bar shows a form letter repeated 7.5 million times. This cuts in every direction.

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And of course, other examples of propaganda bots are well documented -- already in use by 30 governments, with election impact in 18 countries. According to a recent report from Freedom House, Internet freedom is declining on a global basis. The mental stretch from a government controlled social credit system to global information warfare over national policies is not as unlikely as it may first appear.
 

Source: Freedom HouseJeff Kao

Behold Production Blockchain!

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With public crypto funding at $700 million in November alone, it is easy to forget that anything else matters. But let's check in on the progress of sovereigns and incumbents in capturing and controlling blockchain technology. Take for example, the Australian Stock Exchange working with Digital Asset Holdings ($115 million in venture raised) on replacing the entire trading chassis with a proprietary "Distributed Ledger Technology", i.e., a private blockchain with the attributes of confidentiality and scalability.  ASX is moving forward with DLT as a production system, which is a big deal. For context, the sum of market capitalizations on ASX is $1.5 trillion, or 3 to 5 times larger than all of crypto. Which of course raises the question of how private and public chains will interact. For that, see AionPolkadotBlocknetWanchain, and various others.

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Another development is the growing progress towards sovereign digital currency. Certainly the US Federal Reserve is flirting with the idea, especially after Russia has indicated strong interest in building the crypto ruble. Also surprising is the news that Venezuela, famous for putting people in jail for Bitcoin mining, is going to launch its own cryptocurrency. The planned offering sounds like an ICO of the country's national resources. If you can't beat them, join them.

The silliest data point we've seen is this. Bulgaria, a country with a $60 billion GDP and $16 billion of national debt realized it owns on $3 billion of Bitcoin, which was seized in a law enforcement action earlier in the year. 5% accidental GDP growth (or 20% national debt repayment) is nothing to sneeze at. Will Bulgaria go long BTC or hedge out some of that risk using CME futures? Or, manipulate public opinion with some soverign propaganda bots to impact the price?

Source: Australian Stock ExchangeDigital Asset Holdings

Value of All Economic Activity (or Max Bitcoin)

Source: WSJ

Source: WSJ

Ah, Bitcoin opinions -- it used to be that only geeks cared, then it was millionaries and financiers, and now everybody has one. With the advent of crypto-derivatives, institutional investors can bet on these opinions. You can steal one from this Bloomberg visualization telling us what every "important" business magnate thinks about BTC. Of course, most of these folks have little technical understanding, thereby lacking at least some subject-matter credibility, so why not check out the ground zero of Reddit or BitcoinTalk.

Assign no magic importance to today's price. The only thing special about $10,000 is that it is a round number, made special by the fact that humans are social animals that use shortcuts in their thinking. The growth from $1,000 to $9,839 vs to $11,483 is not meaningfully more or less impressive. Further, BTC can be subdivided into teeny fractions. So owning "1 Bitcoin" or "0.93 Bitcoin" or "0.0001 Bitcoin" is technically equivalent. No argument should be based on the unit. What we need to think about instead is the overall stock, and the best we have today is the total Price x Quantity of about $200 billion. Looking at all crypto, that is trending at $350 billion. But remember that this is also a fragile number -- it is both extremely volatile and also not particularly liquid. If I pay $100 USD for 1 percent of 1 percent or 1 percent of a company, that company would have a market capitalization of $100 million. How confident would you be that, let's say, another party would put in $5 million at the $100 million valuation based on my $100 USD?

So let's go on a numbers adventure. Suspend all disbelief (as you should when trying to take seriously an argument on its own terms), and imagine that Bitcoin is not a cryptocurrency but an inevitable technology that required first the global adoption of the internet. Or put a broader way -- the crypto economy, that uses blockchain as infrastructure, grows according to Moore's law and is not merely a foolish human meme

What can crypto become? See the spectacular visualization from the WSJ. Total US currency in circulation is $1.6 trillion, about 5x the size of global crypto. Total marketcaps on the Nasdaq in the 1999 DotCom bubble reached $3.2 trillion (adding $1.6 trillion in a year prior), which is about 10x. All gold ever mined at today's prices would be valued at $7.6 trillion, let's say 20x. Global foreign exchange reserves are at $10 trillion, or 30x. All equities of all public companies are worth $80 trillion, or 230x, and if we add in all other asset classes including alternatives and real estate, we can get up to $500 trillion. Another way to get to $500 trillion is to get the net present value of global GDP (obviously a silly exercise, but why not). That would be about 1,400x today's global crypto. And if we want to go completely bonkers, we can estimate the statistical value of all human life on the planet -- that would be $5 quadrillion, or 14,000x current crypto valuations. So there you have it. Now you know how much more it can go up, adjust your belief system accordingly.

Source: Adamant Research  

Source: Adamant Research
 

Skeptical View on Pinball Machine of Bitcoin Valuation

Source: Pinball machines (in different flavors like Crypto tokens) by Rob DiCaterino  

Source: Pinball machines (in different flavors like Crypto tokens) by Rob DiCaterino
 

Much of the current price movement in crypto currencies today is speculation, which we may want because there is a precious grain of underlying technological breakthrough and innovation. For example, avoiding the Bitcoin fork was helpful to keeping the community together and correlates with a positive price impact. Or, token launch activity shows Ethereum being used for a "killer crypto app" and validates blockchain for enterprise, which should therefore correlate with a price increase. These things can be naively measured as transaction volume on the blockchainrelative to the value of the overall market supply.
 
But on the concerning speculation side, price seems to go up regardless of whether the news is good or bad. Just having crypto in the media increases mindshare and exposure. So, for example, Bitcoin futures being launched on the CME and CBOE is in large part a way for traditional financial companies to take short positions on the price of Bitcoin. But the market is interpreting all developments in financial services around Bitcoin as positive. Or, China cracking down on ICOs mostly just puts ICOs into the news, which leads to retail investors reading about crypto coins, which creates a desire to invest, which leads to them buying Bitcoin. So there's this unintended consequence. Perhaps we can separate out technology or mindshare adoption from actual utility or financial adoption to justify the rapidity of growth, but that requires some science fiction thinking.
 
Further, the private, public and crypto markets are connected like a Pinball machine. Valuations in the private markets for Fintech can be 5x higher than those in the public markets -- see OnDeck vs Kabbage. Valuations in the crypto markets are 5x higher than those in the private markets. Venture investors see this price disparity, where ICO funding is driven by a near limitless supply of crypto capital gains, and some push their (unprofitable) portfolio companies to do ICOs. Because those companies have VC credibility and an operating product, like Kik for example, they raise multi hundred million dollar rounds without much effort. Venture investors have a fiduciary responsibility to monetize this, so they may exit after the ICO and lock in their pre-sale discount. Traditional fintech is also bleeding into crypto markets because fundraising is easier, there is no equity dilution, and startups can tap a narrative of actually disrupting the incumbents, rather than supporting them as vendors.

As more and more companies launch ICOs, retail investors become aware of the trend. Most are not technically savvy enough to buy Crypto, other than perhaps at Coinbase. Note that Coinbase now has more accounts than Schwab. They also look in the public markets for anything resembling blockchain, bidding up assets like Overstock. Supply and demand means that very few public companies will get this asymmetric benefit right now -- thus the rush in by traditional finance to offer products that trade on regular exchanges (e.g., Van Eck). And in response, the crypto markets look at the public markets and see "the mainstream economy" adopting or pricing up crypto companies. That is interpreted as a positive development for the whole ecosystem. But it could, instead, just be capital flows looking to find a way to back an idea in low supply. 

History of Bitcoin and the Crypto Economy

Source: VisualCapitalist

You may not have been a crypto native from the beginning, so how did this whole thing get so big? The journey started with Bitcoin in 2008, stuck in incremental open source development for many years, until venture capitalists began to fund infrastructure (2012-2014) that could compete with financial incumbents (wallets, exchanges, miners). That funding proved some amount of scale, but the corporate world still did not trust a decentralized currency deemed to be for hackers and drug dealers. So by 2015-2016 there was a major shift to “enterprise blockchain”. Funding moved to corporate venture capital, and financial institutions joined consortia like R3Hyperledger and EEA among many others. All talk was of distributed ledgers, not public markets.
 
But while this was happening, Ethereum did its own token launch and came pre-built with a way for projects to be written in a Turing-complete development language, and to simultaneously raise money. This led to first a trickle and then a waterfall of Initial Coin Offerings leveraging the Ethereum blockchain. Much of that funding into ICOs came from capital gains in Bitcoin and Ethereum by early adopters. Fintech innovation shifted to crypto, and the movement became global. It started to involve regulators across the world, created debate among CEOs, and put something from the crypto-economy into the news every single day. It brought in Paris Hilton and other celebrities.
 
The issue is that investing into an ICO is technically challenging. The first step is just converting USD or EURO into crypto, and Bitcoin is the de-facto winner by having the largest liquidity and biggest network. Once a user has BTC however, they have to figure out a wallet, what addresses are, how blockchain works, what an ICO is, how to invest in it, and whether to trust the provider. And last, they have to contend with the regulatory overhang and uncertainty. Thus, fiat flows into Bitcoin and very likely gets stuck there.
 
The narrative around what is happening in crypto currency in the second half of 2017 is the entry of traditional financial incumbents into the space. First, there are now about 170 crypto funds dedicated to crypto alone. Second, the CME, CBOE and LedgerX are all providing futures product on liquid coins. Third, asset managers are starting to build more traditional vehicles, like trusts or ETNs, so that retail investors can participate using established markets. Fourth, large public companies are fueling the story with their own developments in the space. Fifth, private capital is moving in through vehicles on CoinList and Republic Crypto. And last, the media is combining all these narratives with the price of Bitcoin, which leads to even more people getting interested in the space (without understanding it).
 
Ethereum and Bitcoin are correlated with the overall market, so attention on any sub-part of the ecosystem catalyzes the rest. But there is also a lot of science fiction thinking about where this could end up. Will all trees be put on blockchain and their carbon production put on carbon trading markets? And of course, market manipulation, multi-level marketing schemes, and other unethical market behavior is rampant as well. What is the next stage? Regulation, rationality and legitimacy. 

PayPal Plus Acorns Looks like Asian Fintech

PayPal was going to be the money of the internet, but instead it became the payment mechanism behind e-commerce (see Peter Thiel on Bitcoin). From that position, it grew to 6 million merchant accounts and 203 million consumer accounts, and hedged the future by buying Venmo. That may be impressive, until you compare its $94 billion market capitalization with that of Alibaba, a $500 billion behemoth that owns Alipay and multiple vertical and horizontal adjacent businesses in e-commerce and fintech.

But for regulatory barriers, PayPal has the potential to get closer to the Asian conglomerate. Investing $30 million into Acorns, the microinvesting app, and now partnering with it to provide piggy bank services to PayPal customers is the first step. While Acorns has "only" 2.4 million accounts, at an average of ~$1,000 each, consider YueBao. The money market fund plugged into Ant Financial is now the world's largest, with over $200 billion in assets. 

This approach is the right strategic direction for building a scaled fintech company that is customer centric, rather than product centric. The customer journey starts with payments, then savings, then investments for the future, and finally retirement. PayPal has a large built in consumer base, and this deal shows Acorns participating earlier in the client funnel. It also shows that Acorns is a tech company first and an investment company second, and its technology enabled product can be integrated into other ecosystems. We would not be surprised to see similar integrations with other payments providers, or messaging providers like Facebook Messenger.

Blending Neobanks into Cryptobanks

Source: FTPartners

Source: FTPartners

Revolut is adding 3,500 people a day to its digital bank, reaching 1 million accounts, because it will provide the ability to store Bitcoin this December. The startup does not yet have a banking license.

The concept of neobanks or challenger banks is notoriously imprecise, blending in somewhere between online banking, mobile apps, digital lending and personal financial management. Here's a try: neobanks are (1) primarily consumer focused, often with integrated budgeting, (2) mobile or chatbot first, and (3) replicate the use-cases of deposit savings, lending, and money movement. That doesn't mean they have bank licenses or need them. Plenty of tech startups can build user experiences, and API those into financial backends from firms providing bank-as-a-service. Apple did this, for example.

Adding to the complexity is the emergence of cryptobanks, a set of institutions trying to replicate the functionalities of traditional banking services for crypto consumers and investors. And these things will blend together soon enough as you can see in the charts below from Financial Technology Partners and Slava Solodkiy. While neobank darling Monzo has raised EURO 71mm (and let's not forget Transferwise's $280mm), cryptobanks are on the path to raise $150mm this year according to Slava. If the trajectory follows ICO funding in general, we would see an exponential rise in financial institutions dedicated to crypto. Oh wait, we already do.

Source: Slava Solodkiy

The reason that neobanks have taken off in Europe, but not in the United States, is because international money transfer can be priced at near-zero by digital challengers, pushing out the incumbents. And that matters in Europe in a way it does not in the US. A 3% credit card markup added to a 3% foreign exchange markup makes for expensive international travel. In the US, this is nearly irrelevant, which is why much more time is spent on personal financial management and roboadvising. But once we get to crypto, watch two things: (1) the use of cryptobanks in failing third-world economies, and (2) the toll booths along the crypto/traditional economy border. Hats off to Revolut for leading the way.

Billions for Zelle in Payments

Let's bring this payments story home. Payments is the life blood of the economy. It is the signifier of a positive utility exchange between economic participants. Value transfer over the blockchain is the chassis on which digitization will be built over the next 20 years. Digitization of an object, like a physical record into digital music, is not sufficient because it does not emulate the properties of human commerce. Truly digitizing payments and the accounting properties around them unlocks a creative space that was previously unavailable for technology growth.

It is still possible that the financial incumbent banks will win, the way they have subsumed the Fintech wave. See for example Zelle, the consumer payments app and inter-bank digital payments rails built by bank-owned company Early Warning to combat PayPal-owned Venmo. For the third quarter, Zelle announced 60 million P2P transactions worth $17.5B. In October alone, Bank of America saw 5 million Zelle transactions worth $1.5B from 2.5 million users. The trend is up. But for some context, Asia fintech claims 90 million users for Baidu wallet and 450 million users for Alipay (Ant Financial) as of 2016. And they are coming to the UKEurope and the US.

Can public cryptocurrencies, like Bitcoin, Ripple and Ethereum get there? Though scale continues to be a problem today, leading to Bitcoin developer infighting that could have existential consequences, answers are being developed. For a taste, dive into Vitalik Buterin's description of how a technology called sharding can help complex smart contracts function as fast as Visa transactions while leveraging crypto validation. To the uninitiated, the sound like science fiction. But isn't the whole thing science fiction anyway? So what does all this tell us about firms like Visa and Mastercard? That the value-added services, like consumer rewards and implicit credit insurance, are paramount. And that the core payments rails are under attack.