Fidelity's Bull Case For Ethereum

Joining us today from Fidelity are Chris Kuiper and Jack Neureuter who recently released their Ethereum Investment Thesis report. On this episode we're asking are the institutions serious about Ether? Has Ether passed through the gauntlet…like BTC? And what does it look like for institutions to actually begin investing in Ether the asset. Fidelity manages $4.5 trillion dollars, that's many multiples higher than the entire crypto market cap. This is worth paying attention to. ----- Check your wallet with our brand new tool: Claimables 🎁 https://bankless.cc/GetClaimables ------ 📣 LayerZero | Accelerating Web3 Interoperability via GoogleCloud https://bankless.cc/layer-zero ------ BANKLESS SPONSOR TOOLS: 🐙KRAKEN | MOST-TRUSTED CRYPTO EXCHANGE ⁠https://k.xyz/bankless-pod-q2 https://%E2%81%A0https//k.xyz/bankless-pod-q2 ⁠ 🦊METAMASK PORTFOLIO | MANAGE YOUR WEB3 EVERYTHING ⁠https://bankless.cc/MetaMask https://%E2%81%A0https//bankless.cc/MetaMask ⚖️ ARBITRUM | SCALING ETHEREUM ⁠https://bankless.cc/Arbitrum https://%E2%81%A0https//bankless.cc/Arbitrum ⁠ 🛞MANTLE | MODULAR LAYER 2 NETWORK https://bankless.cc/Mantle ⁠ 🦄UNISWAP | ON-CHAIN MARKETPLACE ⁠https://bankless.cc/uniswap 🔗 CELO | CEL2 COMING SOON https://bankless.cc/Celo ------ TIMESTAMPS 0:00 Intro 7:07 Intro to Chris and Jack 8:50 About Fidelity Assets 12:00 Analyzing Crypto Risk as an Institution 16:42 What do Institutions Think of Ether? 19:17 Comparing Other Assets 23:5 5How Others Can Join Ether and Bitcoin 25:58 Ether and Ethereum 29:44 Is Ether a Money? 40:14 What is Money? 44:13 What Else Competes for Money? 48:38 Thesis Two 51:19 Ether Cash Flow 55:51 The Value of Metrics 1:00:41 Modeling Future Cash Flows 1:08:11 How Has The Report Been Recieved? 1:10:21 Whats Next For Fidelity? ----- RESOURCES Fidelity's Report on Ethereum: https://www.fidelitydigitalassets.com/sites/default/files/documents/1101895.1.0%20-%20FDAS%20ETH%20Investment%20Thesis%20%2808.14%29.pdf ----- Not financial or tax advice. See our investment disclosures here: https://www.bankless.com/disclosures

Speaker names marked ? are inferred from speaking time and the show’s known hosts — they are not voice-verified.

• 0:03Ryan Sean Adams?

  Are the institutions serious about Ether, the asset? That is the question today. So Fidelity, the multi-trillion dollar asset company, just recently released an investment report. It was entitled Ethereum Investment Thesis. This is their case for why Ether, the asset. The question on today's episode is, are the institutions really serious about Ether? Has Ether, the asset, passed through the institutional gauntlet the way Bitcoin has? This is the investment thesis from Fidelity. We bring on the researchers who wrote it, and I gotta say, they pretty much get it right. We talk about value accrual for Ether, the asset. We talk about whether Ether is money, or whether it's a capital asset, or maybe a bit of both.

• 0:45Ryan Sean Adams?

  We talk about this concept of blue chip block space, and maybe Ether block space is emerging as that. So stay tuned for this episode if you want to get more bullish on Ether with some conviction. David, before we get in, there's a message from our friends and sponsors over at Layer Zero. What do they want people to know?

• 1:02David Hoffman?

  Yeah, Layer Zero is teaming up with Google Cloud. I did a panel at Permissionless with Raz from Layer Zero and Rich from Google Cloud, and talking about all about their partnership, their integration. Layer Zero, of course, is a messaging network. Layer Zero has smart contracts on 15 different chains across the crypto world. And Google Cloud is the oracle that passes messages between these chains. It's the default oracle. And so it's pretty cool that we're getting Google, as a large player, to come support this industry, getting over some of our biggest hurdles, the hurdle, of course, of getting from chain to chain, probably not, but if you can, you can run your own oracle too, weaving together 15 chains, hopefully more securely than the last bull market. So there's a link in the show notes, layerzero.network to find out more.

• 1:44Ryan Sean Adams?

  All right, let me ask the question before we begin. Why was this episode significant? Why did we do it with Fidelity?

• 1:51David Hoffman?

  Fidelity is an amplifier of some of the core analysis that has gone on in this industry to much more capital than is currently in this industry. How many asset AUM does Fidelity have, Ryan? How much did you say?

• 2:06Ryan Sean Adams?

  Something like 4 to 5 trillion.

• 2:07David Hoffman?

  4 to 5 trillion? What is the market cap of our industry? Right now?

• 2:10Ryan Sean Adams?

  Yeah.

• 2:11David Hoffman?

  One trillion.

• 2:12Ryan Sean Adams?

  One of those.

• 2:13David Hoffman?

  Okay, so think about that leverage, right?

• 2:15Ryan Sean Adams?

  Yes.

• 2:15David Hoffman?

  And so they are putting in work to understand Ether. One of the lines that we've said frequently and you'll hear it in this podcast is the most bullish thing for Ether is to be understood. And there are some tailwinds behind this. Ether, unlike Bitcoin, has metrics. It has staking yields. It has burn rate. It has all of these different metrics that help kind of define the contours of what Ether is. And these are being put into an investment report by Fidelity. And so we go through the authors of this report and kind of unpack the investment thesis behind Ether. But also, I would say it's also a framework for general crypto networks who are interested in following in Ether's footsteps.

• 2:57David Hoffman?

  Do you want an investment report written by Fidelity to broadcast the merits of your network to the broader TradFi $5 trillion asset under management fidelity world? Well, this, we talk about what it takes to join the ranks of Bitcoin. Because now there are two, two blue chips, Bitcoin and Ether. So we narrowly get to talk about Ether and its properties, but also kind of provide a framework for follow on crypto assets to join in the ranks. Because I mean, the bullish case for crypto is that we get more blue chips than just Bitcoin and Ether. And so that's why I would say this is significant and why it's worthy, worthy of listening to.

• 3:31Ryan Sean Adams?

  Yeah, for me, it's not as much what they're saying, it's who's saying it. And that's what makes the impact and the difference. And this is a message that goes directly to institutions. So we'll get a flavor of how the institutions think about Ether, the asset in this episode, I think.

• 3:46David Hoffman?

  Longtime bankless listeners will probably, this is review content from them. But I mean, it's different when that content first came in the form of like Medium articles and Substack posts. Now it is in the form of, you know, professional PDFs from Fidelity. And so it's always nice to see the expansion of the narrative take on new forms.

• 4:07Ryan Sean Adams?

  Yeah, you got to check the footnotes in this white paper as well. They, they footnote ultrasound money, which is, which is really cool. And guys, before we get into this episode, of course, first we disclose both David and I hold Ether. We are long-term investors. We are not journalists. We don't do paid content. There's always a link to all bankless disclosures in the show notes. All right, let's get to our episode on the Ethereum investment thesis with Chris and Jack. But before we do, we want to thank the sponsors that made this possible, including our number one recommended crypto exchange, Kraken. Go check them out.

• 4:38David Hoffman?

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• 5:23David Hoffman?

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• 6:06David Hoffman?

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• 6:49David Hoffman?

  leaderboards, and price charts, or use Wallet Connect to connect to any Web3 application. So you can now go directly to DeFi with the Uniswap Mobile Wallet. Safe, simple custody from the most trusted team in DeFi. Download the Uniswap Wallet today on iOS. There's a link in the show notes.

• 7:03Ryan Sean Adams?

  Bankless Nation, we are super excited to introduce you to Chris Kuiper and Jack Neureuter. They are research analysts at Fidelity and they're here to talk about the Ethereum investment thesis from Fidelity's research perspective. Chris, Jack, how are you guys doing today?

• 7:17Speaker 02

  Great, thanks for having us.

• 7:18Speaker 03

  Yeah, we're doing great. Happy to be here.

• 7:20Ryan Sean Adams?

  Well, thanks for writing this report. David and I were really excited upon seeing it published and reading it. And of course, Bankless listeners have heard the Ethereum investment thesis ad nauseam from David and myself, but I think it carries a different weight coming from an esteemed organization like Fidelity. I mean, Fidelity has something like $5 trillion in assets under management. You guys are kings over in the TradFi world. And so you give an era of credibility to the Ethereum investment thesis that a couple of podcasters just simply don't. And we want to get into this paper today. So are you game to go through it?

• 7:57Speaker 02

  Absolutely. Sounds great.

• 7:59Ryan Sean Adams?

  So the white paper is entitled, the research paper is entitled, "The Ethereum Investment Thesis." We'll include a link to it in the show notes. And I want to kick it off with this because this is how it opens up. "While users may get technological utility from the Ethereum network by accessing the various applications in the ecosystem, some may wonder, how does utility translate into value for Ether the token?" That's a very good question. "How do tokens like Ether accrue value?" you go on. "In other words, why would an investor buy and hold Ether the token rather than just use it to interact with the Ethereum network?" That's what we're going to dive into today. Before we do, I'm just curious, Chris and Jack, can we get some background on why you guys are writing

• 8:43Ryan Sean Adams?

  research papers on crypto assets like Ether?

• 8:46Speaker 02

  Sure. Well, I guess we'll start with a little bit about Fidelity Digital Assets. We are kind of quiet. Not a lot of people have heard about us, but hopefully that's changing a little bit here. But Fidelity Digital Assets is a subsidiary of the big Fidelity Investments that you mentioned, the big trillion dollar money manager. And so we are a separate entity dedicated to the digital asset space. Our history actually goes back almost a decade. We are not new to this. It goes all the way back to 2014 when Fidelity said, we need to understand Bitcoin. We need to understand the space. This is a potential disruptor. This is a potential way to create a lot of efficiencies for our business. Right? And so they're always looking out for these things.

• 9:26Speaker 02

  They have an entire R and D center specifically dedicated to look out for seismic shifts or changes in technology. And so, of course, they heard about Bitcoin. And the first thing they did was they said, well, we got to get our hands dirty. We're not just going to read about it and write about it. So they started mining it in 2015. And so after they started mining Bitcoin, they had some and they said, well, we want to hold it, but there's no institutional enterprise grade product out there for us to hold it. So we're going to have to build it ourselves. And so that was the very first thing they did. That's how they scaled this business. And by 2018, they officially launched Fidelity Digital Assets, which is where Jack and myself sit. Our core products and services still include custody, so cold storage of Bitcoin.

• 10:09Speaker 02

  And to get to your point, about a year ago, we added capabilities of Ether now. And then we also have a platform and execution platform for buying, selling and holding digital assets. So that's where we are today. We added Ether capabilities to our platform to buy, sell, custody Ether, the token. And so we first wrote a paper about understanding Ethereum, the whole network, very primer 101 that all of your listeners are familiar with, but the traditional finance world wasn't familiar with yet. And then we followed it up with this paper saying, okay, you might be on board with Ethereum, the ecosystem. Maybe you think this thing is going to succeed. But as you stated in the introduction, the question we wanted to answer was, well, why would you actually hold the token?

• 10:53Speaker 02

  Why would an investor buy and hold the token? Just sit on it. Remember, our business is custody. So why would they just custody it with us rather than use it? And so that's what we're trying to address with this latest research paper that Jack and another colleague of ours, Max, wrote together.

• 11:11David Hoffman?

  One dynamic that I think I want to parse apart here is the scope of institutional money, TradFi, and what they are looking at in crypto. In crypto, of course, there is a very long tail of risk that people can choose to pay attention to, right? Bitcoin on the very safe side of the spectrum, and then like pool to yield APY is on the very far end of the spectrum. And the story of institutional relations with crypto is, and our perception of institutions is how far down the risk curve are they looking? And historically, I would say Fidelity has been kind of a Bitcoiner org, kind of called Bitcoin Safe, and hasn't proceeded too far beyond that realm up until recent history. And maybe

• 11:55David Hoffman?

  you guys can just kind of shed some light on what it's like to be in the institutional world and being looked at by trillions of dollars, and how it relates to the risk that crypto presents, especially as we go further down the stream, further than Bitcoin. Can you shed some light on that just dynamic?

• 12:13Speaker 02

  Yeah, I'll start and Jack can jump in here. But you know, Fidelity's been around for over 75 years now, private company. And so just as much as a financial company, it's a risk management company, right? You do not survive over 75 years in the financial world unless you have risk management in your blood. And so that is probably just as important in our business as anything else, that risk management. And so it's funny you talking about Bitcoin being kind of the safe end of the spectrum, and the other end is, you know, all this other DeFi stuff. That's kind of from your perspective, from the institutional perspective. Any kind of digital assets, Bitcoin included, is still in the really risky bucket for them, right?

• 12:53David Hoffman?

  So you guys are the edgy ones at Fidelity then, huh?

• 12:56Speaker 02

  Absolutely. I mean, we were the first traditional finance company to kind of go down this path, and we still are way out ahead of the curve here, I think, in a number of ways. And so it's funny to think about it that way. But yeah, that translates into what we do with our products. You know, we're maybe slower moving than a crypto native firm out there, but it's because we're doing it right. We're doing it from the ground up. We're doing it with this risk management in mind. And so that's why it was Bitcoin first for a while. And then we have slowly now added Ether capability. So, Jack, I don't know if you have any other perspective as well on that?

• 13:29Speaker 03

  Yeah, maybe just one thing to layer on to what you said there, Chris, which was great, is everybody uses the phrase, and we're even guilty of it too, of we support institutions and we run an institutional business, but at the same time, institutions can mean different things to different people. I think when you traditionally think of an institution, you think of the largest allocators in the world, so pension funds, endowments, sovereign wealth funds, and that certainly sits in the bucket. But what I would say from an actual token allocation standpoint, the largest entities of those size are few and far between. A lot of them are getting up the education curve, but in terms of actual token allocations, it's sparse. And in terms of meaningful allocations to the space as a whole, there's not much of it. There's a little bit here and there in terms of venture,

• 14:13Speaker 03

  because the venture route is a traditional wrapper and feel, right? You don't have to think about all of the operational complexities and the same due diligence that you do if you're going to hold in custody Bitcoin or Ethereum or digital assets themselves. And then from an actual adoption perspective, I think what we've seen is a lot of it comes from the smaller, what we would consider institutional, which is more like wealth managers that have end clients. So family offices or registered investment advisors here in the United States. We see a lot of adoption in that category of investor because the end client is the one that's asking for it, because there's still a lot of career risk embedded with owning digital assets. It's not totally normalized, even though we've come a long way.

• 14:57Ryan Sean Adams?

  I think that's very important for listeners to understand as they get into this, because of course, Bankless is talking to a much more crypto savvy, crypto native type of audience. But from your perspective, you guys are the ones, maybe the talk of the office and going to the water cooler and here come the crypto guys, right? And even within that, even within Fidelity, Fidelity is kind of leading the charge. I mean, spinning up Bitcoin miners in 2015, other large asset allocators, maybe like the Black Rocks of the world, aren't that far down the crypto rabbit hole. So you guys are sort of on the fringe on the fringe, and your perspective is TradFi, and they are massively under-allocated.

• 15:39Ryan Sean Adams?

  To crypto right now. And so the assets that you guys have taken some time to research sound like Bitcoin, Ether, maybe there are a few others, but some of the kind of the main stage, lower risk crypto assets, but even those assets are considered extremely high risk to the rest of of traditional finance. Maybe just to kind of level set the conversation before we get into the Ethereum report itself. So what does traditional finance and institutions, and Jack, you gave much more nuance to the term institutions. We're talking about family office and pensions and everything else. So appreciate that nuance.

• 16:12Speaker 02

  But we'll continue to be blunt about it.

• 16:14Ryan Sean Adams?

  Yeah, let me generalize it for a minute again. What do they think of Ether right now? I have kind of a sense that some institutions, maybe the more aggressive ones, they see Bitcoin. It's lasted for a long time. They're looking at Bitcoin and they're saying, okay, this is a weird, but maybe proto store of gold, like store of value type of asset similar to gold. And we kind of get it, right? I feel like we've crossed that that threshold, but maybe you can correct me. What do they think of Ether, the asset right now?

• 16:45Speaker 02

  Yeah, I think you're right on there. And that's where we focus a lot of our research and education to get people to understand Bitcoin first. And we wrote a report called Bitcoin First, Why Institutional Investors Should Consider Bitcoin Before Everything Else. And that wasn't to say you should, they should only invest in Bitcoin, or don't look at anything else. It was just if you're starting in this space, it makes sense to start here because Bitcoin was first historically. It's also the simplest in many ways, simplest in terms of the technology, the capabilities, but also relatively simple to get your head around some of the investment thesis and narratives, right? And so I think you're right, Ryan. We've come to the point where the institutional investors are finally getting

• 17:27Speaker 02

  past the Bitcoin point. They're thinking, okay, I'm understanding this now. I've got my investment thesis. I've maybe even got my allocation, my risk parameters around this, how I'm going to approach it. And then they start to look at other things, right? And then, of course, the second largest one by market cap is Ether. So it makes sense to go there next. But I'd say we're still pretty early to Jack's point on nuance of institutional investors. That's very clear here. It's going to be the More of the venture cap, the crypto hedge funds, the people who are much further down the space, they're the ones that are going to be considering this. But you know, it's starting to change. I think some people are coming around to this idea of, okay, if I've got a bucket

• 18:10Speaker 02

  or a sleeve to digital assets, do I start to diversify? And I think what's helped with that is just all the changes that Ethereum has gone through. It has set itself apart from Bitcoin even more. So switch to proof of stake and all of these things coming up. It's making its differentiated use case. And that helps with the diversification narrative with institutional investors as well.

• 18:31Ryan Sean Adams?

  I'm curious if it's still so it has felt for a while like Bitcoin was kind of the king in kind of TradFi and TradFi's sort of understanding. It was just Bitcoin and Bitcoin could have kind of stood alone and there was all the other weird crypto assets that maybe you don't need to know about right now. It has felt increasingly like it's Bitcoin and Ether. So these two sort of stand out. But I know a lot of, you know, people would say, well, once you accept the second, then you're just kind of opening the door to the entire long tail. So I guess I'm curious from your perspective, do you still think that Bitcoin and Ether are kind of in a class of their own with respect to the investment thesis and risk?

• 19:14Ryan Sean Adams?

  Or is it basically, is it now like Bitcoin, Ether and all of the rest of the assets? With Ether and understanding Ether, do all of the other assets come or is it still in sort of a class of its own with respect to understanding?

• 19:27Speaker 03

  Yeah, maybe I can layer in a little bit here. There's a reason why we supported Bitcoin first and then we supported, you know, we've added Ethereum support around a year ago. And that's sort of where we're at currently. And you have to think about all of the different considerations from the liquidity constraints associated with tokens further down, right? So just quite literally, is the asset liquid enough for there to be, you know, a significant trading volume on it? Two is what about the regulatory environment? Can we provide support for these assets or do they live in regulatory ambiguity? Right? And even with Ethereum and ETH staking, we've seen that, you know, some of the ETH staking protocols, the SEC, you know, has gone after this year. And so, or some of the, you know, some of the providers, centralized providers.

• 20:12Speaker 03

  And so there's still some level of regulatory ambiguity around Ethereum even.

• 20:18Speaker 03

  And so I would just say that, one, there's regulatory considerations, there's liquidity considerations. And then the third thing is just quite literally, they're the two largest networks. And even during this bear market, like, we could look at the entire ecosystem of cryptocurrencies, pull out stable coins because they're, you know, they're stable value. And if you look at the market cap of ETH ERC 20 tokens, so the Ethereum ecosystem, and combine it with Bitcoin, it's like 80 to 90% throughout this bear market. Because that's where all the users really are on chain. That's where we see users accumulating Bitcoin as a store of value asset. And we see users utilizing Ethereum and that driving burn and driving fees down to stakers. And so there's actually like stuff going on in these ecosystems.

• 21:03Speaker 03

  Whereas it starts to get very experimental, very fast, once you leave, you know, either of those two ecosystems, I would argue. And then also, like, we don't support outside of those two tokens, because also there's not a ton of demand. Like, we don't hear, you know, if you go back 18 or 24 months ago, when you had Solana, Luna, Avalanche, right? Soul Luna AVAX was like the saying. And we had some that were asking us, like, why don't you support these tokens? And at the time, we didn't even have support for Ethereum. So we were like, we don't even have Ethereum support yet. We're trying to, you know, consider and get that potentially up and running. How are we going to have all of these, you know, more speculative ecosystems up and running? And so there's, you know, there's a lot of other considerations, especially for traditional investors, given the regulatory environment as well.

• 21:48Speaker 02

  Yeah, and I'll just drive home Jack's point. You got to take the, the perspective of an institutional investor, especially one that has hundreds of millions or even billions of dollars to allocate. They're going to choose a small portion, if any, and that we're just trying to get them to a small portion of their entire fund of stocks, bonds, real estate, private equity, credit, all this stuff, to allocate to digital assets. And if they've only got a few percent to allocate there, and the top two are 80 to 90% of the entire market, they are not going to waste their time on these other things. And that's, you know, no offense to these other projects, they might be exciting, but they just don't warrant the, you know, the juice isn't worth the squeeze for them, as they say. And so that's, that's kind of just the reality that they're in. And I guess to your question, could it open it up down the line?

• 22:33Speaker 02

  Yeah, if the whole market gets bigger, I think that's going to be the necessary key component. The whole market has to get bigger, or you have to have very specialized kind of hedge funds or, or people who are trying to drive alpha by choosing specific tokens or projects.

• 22:47David Hoffman?

  Maybe one last question before we open up some of the details of this actual report. I think intuitively, it's no surprise that it was harder for Ether to join the ranks of Bitcoin just by the nature of the properties of the protocol, right? Bitcoin had its immaculate conception. It doesn't want to hard fork. It's not going to hard fork. It's going to be the same way that it is. There is no leadership. Ethereum is very different. There have been like five hard forks in the last like three years. These are changing the foundations of what Ethereum is and is each one has to probably be vetted if we're going to offer this to institutional clients. There is a community of people that come together and agree on changes to the

• 23:27David Hoffman?

  protocol. Proof of stake is new. EIP 1559 is new. These are all things that are probably relevant when it comes to risk management for offering this to your guys as clients. And yet Ethereum has made it. Ethereum has made it into the ranks of Bitcoin is being offered by Fidelity. So maybe if I am a downstream, lower cap coin with aspirations of joining the ranks of Ether and Bitcoin, what are the properties that Ether got? Like, why is Ether joining the ranks? Well, how did it earn its spot? And how might others also follow in its footsteps?

• 24:00Speaker 03

  I think you've reached some level of critical mass in terms of network effects, where there's a differentiated use case. And if you looked at like the digital asset ecosystem from the time of Bitcoin's launch in January 3, 2009 through 2015, until you had the launch of Ethereum, like, what was the crypto space? It was basically just Bitcoin, and then some forks of Bitcoin with different parameters. But there was no differentiated use case. So why would you use something other than Bitcoin to accomplish the same goal of storing value in the asset or using it for a means of payment? Then in 2015, you have the the smart contract on top of Ethereum added, and this idea of creating composable applications.

• 24:44Speaker 03

  And it's a differentiated use case, right? So it was like a, to some degree, there was a first mover advantage of what Bitcoin had created. And I think you could craft an argument, there was a first mover advantage of what Ethereum created outside of Bitcoin, and that comes with trade offs, right? They are, they make different trade offs in terms of complexity and simplicity, right? You mentioned Ethereum has multiple hard forks over the past few years. And Bitcoin, I mean, it's had its Bitcoin cash hard fork, but technically has never had a hard fork throughout its existence, right? And so like, they are different networks. And I think we would argue that they're kind of doing different things and that might converge or it may not, but there's a differentiated use case and there's a network of users. And so I think outside of that, there are, you know, there are alternative layer one

• 25:28Speaker 03

  protocols that make other trade offs, right? For more complexity and faster speeds that are competing with Ethereum, right? And of course Ethereum is trying to defend itself with layer twos and, you know, we could get into all of that, but there's, you know, there's a difference in terms of what Ethereum is doing versus what Bitcoin is doing there. And that has garnered network effects such that it's the second largest crypto asset. And there's enough liquidity there and interest for a company like Fidelity to support it.

• 25:55Ryan Sean Adams?

  All right, guys, uh, let's get to the report, shall we? And, um, what, what I love about this report is, um, it, it feels like you guys are, are starting from base principles and from a foundation. I remember one of the first articles I wrote on the, the Bankless Newsletter back in 2019 was Ethereum, the network versus Ether, the asset. And, uh, this is interesting because this is exactly where this report starts in describing the difference between Ethereum, the network and Ether, the asset. And Chris, as you already said, these are two different things. And so you've talked before in previous fidelity reports, it sounds like about Ethereum, the network. And what you're talking about here is Ether, the asset.

• 26:39Ryan Sean Adams?

  Some people also call it Ethereum, the asset, and I don't care anymore to correct anyone. And that's fine. We could call it Ether, the asset or Ethereum, the asset. Um, I just think that point is important going into this report for all investors to understand, like, these are two different things and there's a difference between value creation and value capture. Do you have anything to reflect on, uh, on that, uh, statement, Chris?

• 27:05Speaker 02

  No, I think you nailed it exactly right. That's exactly what we tried to get across. So I'm glad it resonated with you as well, but we've been fighting this with Bitcoin for a long time, clearing up the misconception of Bitcoin, Big B, the network versus Bitcoin Little B, the asset or the token, right? And so they're the same words, but we try to do capital in lowercase. Ethereum, we at least have different words, but as you say, a lot of people just use Ethereum for both. So we'll continue to fight that as well, I guess, or at least just be consistent in saying Ether the asset or Ethereum the asset. So yeah, that's the main point here. People need to understand, just like in traditional finance, a good company isn't necessarily a good stock or investment, right? You can have the greatest company in

• 27:50Speaker 02

  the world, but if the value isn't accruing to the stockholders, or if the stock is already priced like it's more than the greatest company in the world, it's not a good investment, right? And so you have some similar parallels with the traditional finance world where you can have a great ecosystem, you can have a great network like Ethereum, it can be doing what it's set out to do, you can have more users, more applications built on it. But the question for investors, who is what we're writing to and who we serve, is how does that translate to people who hold the token Ether? Is there a link there? And are they going to benefit from that increased use? So the very first thing Jack and Max do in the paper is break that down and talk about tokenomics, of course, which is a term you

• 28:33Speaker 02

  guys are obviously familiar with, as well as your listeners, but people in the traditional financial world are not as familiar with this idea of tokenomics. How does the network incentives align with the token holder incentives and value accrual?

• 28:44Ryan Sean Adams?

  Yeah, I think that's a great point and a much missed point, particularly for folks that are kind of looking at crypto and getting excited about the technology, the difference between value creation and value capture. Once again, it's just like, number of Linux users, all of us use Linux in a day-to-day basis all the time. It's like underlying everything. And yet, what is the value capture for Linux? Linux is not a company, doesn't have a stock, makes zero dollars. It's created all of this value for the world, but investors aren't able to capture that in value, except through, you know, If it's embedded in an Apple-type system, do you know what I mean? So there is a distinction there, and that's important. Let's get to the two theses then for Ether, the asset token economics.

• 29:30Ryan Sean Adams?

  The first thesis is the money thesis for Ether. And the second is maybe a capital asset or productive asset thesis. So these are the two, but let's talk about the first. So thesis number one, and the question, I think, for investors, is Ether a money? Can you guys describe that? You write about this quite a bit in your paper. So tell me about the puts and takes of this question. Is Ether money?

• 29:55Speaker 02

  Yeah, I'll set it up and I'll let Jack answer the question. But the way we set it up in the paper.

• 30:02Speaker 02

  Yeah, the way we set up in the paper was similar to what we did with Bitcoin first. Whereas there in that paper, we argue that Bitcoin is potentially emerging monetary good. We say, from an economic perspective, first principles, like you said, what makes for good money? Divisible, durable, you can transport it through space and time. You can easily verify it. All those things are characteristics of good money. And we said, well, Bitcoin fulfills them. So why can't it become this aspiring form of money? You get to Ether, the token, and you go through those same characteristics. You say, well, they're quite similar, right? They're also on a blockchain, so they're divisible, verifiable. You can transport them through space and time. So the question then becomes, well, is Ether money? Or is Ether an aspiring form of money?

• 30:47Speaker 02

  And, you know, this is pretty highly contentious topic in some areas. So we come down on a little bit of more of a nuanced answer. But I'll let Jack, I'll let you take kind of what we went through when we thought about this.

• 31:03Speaker 03

  Yeah, so I think there's different axes. That a money or attributes that a money would have, right? Or a desirable form of money could have. Acting as a store of value is one. Acting as a medium of exchange and a unit of account, which those two things can kind of go hand in hand to some degree. You're more likely to use something as a medium of exchange if you're denominating things in it, right? We do that with dollars, right? I think about how many dollars are in my bank account and then I go and spend dollars. If we look at it through those two lenses, I think there's a pretty clear argument, especially given like the changes to, we just discussed tokenomics. The various upgrades from Ethereum have made the token or the asset more scarce, right?

• 31:47Speaker 03

  At least the protocol changes thus far over time have reduced issuance, have created a burning mechanism. And that has driven this sort of store of value attribute as being potentially more attractive around Ethereum. And so that element, I think, is quite clearly there, an aspiring store of value asset in the way that Bitcoin is an aspiring store of value asset relative to traditional store of value assets. I think that with Bitcoin and the narrative of digital gold and the unchanging supply cap, where its scarcity has been, you know, at least thus far, has been absolute of 21 million. And with Ethereum, it's more nuanced. There have been changes to its issuance schedule. But at the same time, we could say now, you know, it's been deflationary since the merge, right?

• 32:32Speaker 03

  There are, there's nuanced arguments in there. But I do think that there's a check in the box for store of value. As far as a means of payment or a medium of exchange within the Ethereum ecosystem, there's evidence that people that use ETH, the hardcore users, which we have to think about as a percentage of the global population, it is still very, very small, right? It's a niche community. But that niche community uses it as a money, right? And you also pay fees on the network in Ethereum. And so there's an element there of using it as a means of payment or as a unit of account inside of the Ethereum ecosystem. So to the degree that the Ethereum ecosystem continues to be successful. Right? And grow and its user set grows.

• 33:15Speaker 03

  Then we think that as a medium of exchange, that that element could grow in the future. But store of value is more clear, especially after some of the recent protocol changes to Ethereum. But as a, as far as a money, we still think that Bitcoin looks primarily like it makes trade offs to try to be a money first and foremost, more than Ethereum tries to be like a technology platform, which is sort of the second thesis that I'm sure we'll get into in a few minutes.

• 33:41Speaker 02

  I'll play devil's advocate a little bit to what Jack said there and what we talked about in the paper, which is you, you do have the supply side of, of this down with the, the burn, right? It's becoming net deflationary. So you think that would help with, with the store of value argument. Yet we haven't seen it in the price yet, right? We're, we're down, you know, how many thousands of ether yet the, the price has not appreciated. So that part hasn't resulted in value accrual. And I think that one of the biggest reasons is besides some of the macro stuff and, and obviously the bear market. So I want to be fair because it's, it's only been a year or so. The other thing that, that you need though is the demand side, right? And so this is where Bitcoin shines because it's got the demand and the network effect. And that's, that's a flywheel for Bitcoin.

• 34:24Speaker 02

  And because if Bitcoin's first, it's arguably going to attract that, right? It's, it's also got the established narrative around that. And so while you have the components of store of value for ether, in terms of it being scarce and deflationary at the moment, I think the two things fighting against it is it doesn't have the first mover advantage and the, and the network effect of Bitcoin. And then as Jack mentioned as well, you also have maybe some people doubting whether or not that will continue in the future, just because it has changed so many times in the past.

• 34:58Speaker 03

  We use a lot of analogies when we're talking about these things with traditional investors, just because we find that that helps kind of make those links, right? And people will use the digital gold for Bitcoin. And I think we can think of from a precious metals perspective. If you think of gold, there is an industrial component to gold, but the vast majority of its value and the reason why people will buy it and hold it is because they view it as a store of value that has an, an element of scarcity that's widely recognized. With Bitcoin, I think that that is the case, right? It's the element of scarcity. It's the store of value property for why primarily people are buying and holding Bitcoin. And then there is a small, like, you can use it as a means of payment. There is a small subset of users that do that. Same thing with gold, right?

• 35:42Speaker 03

  With Ethereum, it's a lot more like silver, right? There's an element of scarcity and like, it is, it is still like a precious metal like gold is, but it's far more used as an industrial component for different things. And that's with Ethereum, like, it's more useful and it's more of the platform and the applications that could be built on top of it. And so I think from like translating it to traditional investors, that's kind of the framework we use, but there's evidence that there's a desire for Ethereum to compete on the monetary front clearly after the various protocol changes over the past few years.

• 36:14David Hoffman?

  Arbitrum is accelerating the Web3 landscape with a suite of secure Ethereum scaling solutions. Hundreds of projects have already deployed on Arbitrum One with flourishing DeFi and NFT ecosystems. Arbitrum Nova is quickly becoming a Web3 gaming hub and social dApps like Reddit are also calling Arbitrum home. And now Arbitrum Orbit allows you to use Arbitrum's secure scaling technology to build your own Layer 3, giving you access to interoperable, customizable permissions with dedicated throughput. Whether you are a developer, enterprise, or a user, Arbitrum Orbit lets you take your project to new heights. All of these technologies leverage the security and decentralization of Ethereum and provide a builder experience that's intuitive, familiar, and fully EVM compatible. Faster transaction speeds and significantly lower gas fees.

• 36:59David Hoffman?

  So visit arbitrum.io where you can join the community, dive into the developer docs, bridge your assets, and start building your first app with Arbitrum. Experience Web3 development the way it was always meant to be. Secure, fast, cheap, and friction free. Are you a MetaMask user? Well, you're listening to Bankless, so of course you are. The wallet you know and love just got a whole lot better. MetaMask Portfolio is the ultimate one-stop shop for all of your crypto needs. It gives you a holistic view of your crypto portfolio across multiple chains and multiple addresses all at once. You can easily view and manage all your coins, tokens, and NFTs in one convenient place just by connecting Your wallet. Metamask portfolio goes beyond just viewing your portfolio, though. Inside the portfolio, you can do all the incredible money verbs that make DeFi so powerful.

• 37:43David Hoffman?

  You can buy, swap, bridge, and stake your crypto assets with ease. It's like having a powerful battle station for all your DeFi moves right at your fingertips. So if you're looking to do more in Web3 your way, Metamask portfolio is the answer. I already know that you have Metamask wallet, so go check out your Metamask portfolio. Learn more at metamask.io/portfolio. Mantle, formerly known as BitDow, is the first DAO-led Web3 ecosystem, all built on top of Mantle's first core product, the Mantle network. A brand-new, high-performance Ethereum Layer 2 built using the OP stack, but uses Eigenlayer's data availability solution instead of the expensive Ethereum Layer 1. Not only does this reduce Mantle Network's gas fees by 80%, but it also reduces gas fee volatility, providing a more stable foundation for Mantle's applications.

• 38:27David Hoffman?

  The Mantle Treasury is one of the biggest DAO-owned treasuries, which is seeding an ecosystem of projects from all around the Web3 space for Mantle. Mantle already has sub-communities from around Web3 on-boarded, like Game7 for Web3 gaming and Bybit for TVL and liquidity and on-ramps. So if you want to build on the Mantle network, Mantle is offering a grants program that provides milestone-based funding to promising projects that help expand, secure, and decentralize Mantle. If you want to get started working with the first DAO-led Layer 2 ecosystem, check out Mantle at mantle.xyz and follow them on Twitter at @zeroxmantle. I want to actually zoom out and bring out the question of just like the money conversation at all.

• 39:07David Hoffman?

  I remember giving a talk to a lot of my friends' parents in 2019 about crypto.

• 39:16Ryan Sean Adams?

  David, you gave a talk to your friends' parents? Like, they all assembled around and they were like, "We're listening to David talk about crypto."

• 39:22David Hoffman?

  I had to reserve a brewery. Shout out to Maker Dow, who gave me the grant for reserving a brewery and enticed them with free beer. And then they came and listened to me give basically a lecture for almost an hour. But the first... Eighty-five percent of the lecture that I was giving was not about crypto. It was actually about the historical progression of money. And it was really meant to deconstruct pre-existing notions about what money is. And so when I want to put on a hat of a reader, a trad-fi institutional money manager who's reading this report, and they are reading about a new form of money. Because that's a very new concept. And one of the biggest enticing things about the pull down the crypto rabbit hole is like

• 40:06David Hoffman?

  the shattering of like, the dollar isn't actually money. Money is a social construct. And so I want to ask about just simply the role of even broaching the subject of a new money and how it's read and how it's received by some of the traditional. Are they ready for that? Yeah, are they ready for that conversation?

• 40:23Speaker 02

  I'll give the classic story of the two fish swimming along. Another fish comes beside him and says, water is great, isn't it? And the other fish turns to them and says, what the heck is water? Right? And the traditional finance world is awash in money. It's what it deals with every day. But I think very few have considered what exactly money is itself. Right? And I don't mean that disrespectfully. I mean, it is the world they live in. I'm not saying they should, or I mean, I guess, I think, actually, I do think they should. It's a good question to be considering, but I just, I'm just saying, I understand where they're coming from. What is money? I mean, it's such a foundational question. And it's such a nebulous thing.

• 41:04Speaker 02

  I mean, I went down the what is money kind of rabbit hole for years and culminated with me saying, I have to take monetary history and theory classes at grad school because I think this is so fascinating. I mean, I'm a nerd in that way, but I think everyone needs to consider money in the terms of zoomed out grand historical proportions, not just their own personal lives day to day, having to pay their bills, you know? And I get why people get caught up in that. We all have stuff to do. But it's a, it's a big question that people need to consider. And especially on the institutional side, it's more important than ever. But also, we found quite difficult and challenging for those reasons that you can imagine.

• 41:44Speaker 03

  Money, money is a tough word because like we discussed, like there are elements of money and there is money-ness to a lot of things. Like there are monetary premiums embedded in asset classes like real estate. Right? Where people are holding their wealth or storing their wealth in real estate that they otherwise maybe wouldn't if, you know, if they're the, uh, they knew they weren't going to get to based on their, their fiat currency or something like that. Right? So, so there's an element of money to a lot of different things. I think you could argue, but then specifically to say that this or that is money is a, you know, like everybody says that it's black or white, but in reality, there's like a lot of gray area. I would argue in terms of can something have an element of money or attributes of money and be viewed as money?

• 42:29Speaker 03

  And there's some of that to Ethereum and it's grown over time. And I think you could craft an argument that it could continue to grow, but at the same time, people might view it, you know, as something different.

• 42:38Ryan Sean Adams?

  Yeah, I totally agree. And I will say that that is an argument that Bankless has crafted from the very beginning. We, we sort of saw Ether, the asset as kind of an aspiring money in 2019, uh, when it was much less popular to do so. And so I am very content with you guys putting out a research piece and saying aspiring money. Right? Now, people can make various predictions on how it can increase in its moneyness. Uh, so one thing like we are particularly bullish on in Bankless is this idea of Ether being used as kind of collateral. We call it economic bandwidth inside of not only the Ethereum network, but this expansive network of layer twos and being a denominator of debt and increasing in moneyness that way. And then we're also very bullish on

• 43:21Ryan Sean Adams?

  like the internet bond kind, kind of narrative where you have like, um, staking a productive asset. All of those things are sort of feeding into that. So, um, we are, uh, even more bullish probably than, than this research paper on that aspect, but I am quite content to just name it and just say, hey, to the extent this asset achieves moneyness and becomes more like money, it will increase in value. And that I think is pretty unique about these assets like Bitcoin and Ether, and maybe some other crypto assets that are emerging. I don't think that, well, you guys correct me. I'm sure Fidelity publishes all sorts of research papers on various stocks and assets and that sort of thing. It's probably like, who else gets that designation?

• 44:03Ryan Sean Adams?

  Like gold, silver? I don't know if oil even gets that Bitcoin and Ether. Is there like anything else that isn't the competing for moneyness game?

• 44:14Speaker 02

  Yeah, I think to Jack's point, there's, there's different things that can have monetary premiums embedded in them. And so, um, yeah, one of the, well, I guess two core foundations we, we try to push on the research side is intellectual honesty is one and, and trying to be humble and realize a lot of this stuff is subjective, like in terms of the field of economics, we say value is subjective, right? And so, you know, from an intellectual honesty standpoint, we don't know exactly where this is going to go. But with this paper, we're just trying to say, hey, if we put our, our flagpole out there with Bitcoin first, and we said, we think Bitcoin's an aspiring form of money, we need to be fair and say, well, then why don't you

• 44:55Speaker 02

  think Ether is? Now, we have disagreements even within our own team. I'm a little more in the camp of, I don't think it's going to achieve the moneyness and, and scale like Bitcoin will for the reasons we put out in that paper. But I have to be intellectually honest, I could be wrong. Um, or there could be corners or pockets like Jack's talking about where it already is money, de facto money. People are pricing their, their stuff in it and they don't, they're not going back to Bitcoin, they're not going back to fiat. Uh, so that's another thing to think about. And then, um, yeah, in terms of, of, of putting this out there, I think, um, I think one of the things to, to think about too, is just how we, I mean, I lost my train of thought there. So I'll, I'll pass it to Jack if you've got something else.

• 45:40Speaker 03

  No, I mean, I think you make all fair points. Like we're using, uh, like we've heard so many different phrases for what is Ethereum, right? Is it a world computer? Is it a digital commodity or digital oil? Is it a money? Is it a platform or a business that sells block space? And that's where, within this paper, we just broke it down into two of those and tried to like, kind of pull it all in together and walk through each of those theses. And like Chris said, on the money front, I think we would still probably craft the argument that Bitcoin's absolute supply scarcity that's had since day one versus Ethereum's kind of changes that it's made over time that have been relatively arbitrary. I think they've been more arbitrary than probably Ethereum would, like

• 46:23Speaker 03

  most in the Ethereum community realize or have, have made. The point to discuss, but at the same time, it's working. It's worked, so we have to admit to that, right? It's worked. It's a money to some people like Chris was saying. And so that is one thesis. But at the same time, you don't have to align yourself with a single thesis for anything. Right? There's optionality if you own the asset, right? And you view it as like our second thesis here, which is probably the framework that we would view it through primarily, which is there are applications that can be built on top of it. If they are more useful, there will be more fees. And if those fees are paid, then they flow down to stakers, right? In the form of yield and burn, which we're going to talk about in a minute. But at the same time, you still get optionality on the fact that some people view it as money.

• 47:09Speaker 03

  And maybe that continues to grow in the future.

• 47:11Ryan Sean Adams?

  Yeah, that's great. And, you know, every investor kind of has to make their own decision on that for sure. And, you know, we could talk a lot about how bullish Bankless is on Ether as an aspiring money. But we've done that. We've done those episodes before. We could do it. We could do it, though. I'm happy to do that anytime. Let's get to kind of the second point of the thesis. And this kind of maps to a thesis that Bankless has had and David and I have had for a long time for Ether. Is this idea of Ether as a triple point asset being like number one, aspiring money, a store of value. And then number two, kind of a commodity. I guess block space is really the commodity, but it's the, you know, asset you use to buy the commodity.

• 47:55Ryan Sean Adams?

  And then number three, a productive asset. So almost like a capital asset or a cash flowing asset. And that's what we see in kind of your thesis too. So this idea, I think the section is titled Investment Thesis Number Two: Ether as a Yield Bearing Asset. So could you talk about that? That is the non-money-ness side of this equation. This is just like looking at almost like discounted cash flows and trying to predict that over time. And this must seem similar in a lot of ways to the analysis of, you know, a real estate property or the analysis of a stock or something like that, where you can provide, you can use discounted cash flows. Anyway, Chris, could you talk about that? So what is thesis two here?

• 48:39Speaker 02

  Yes, thesis two came out of the fact that we had the merge and Ethereum transitioned successfully to proof of stake. And so now you can stake your ether and get a yield or a cash flow, right? And so this changes the game completely from Bitcoin where you've got that more commodity like nature, like gold, where you can own it and if people adopt it and buy it, you can realize a capital gains as the price goes up. But you're not getting a dividend, you're not getting a cash flow, just like gold sitting in a vault, right? We need to be honest, that's what it is. And there's some good things about that. But now Ethereum has completely differentiated itself by being this yield bearing asset. And so now we can bring it even more into the traditional finance world. So I come from this world.

• 49:21Speaker 02

  I've mostly done equity analysis and done the whole CFA program, all that stuff. And the first thing you learn is every financial asset's value is theoretically dependent on its future cash flows. Well, now we've got future cash flows, right? And so we can bring out our good old DCF that you mentioned. It's not like that. We actually apply a discounted cash flow model itself to this. And you can say, okay, here's what I think the revenue will be. I'm going to project it out this far. I'm going to grow it this much per year, maybe taper that down after 10 years. What they call a two-stage model is what we do. And then you got to apply a discount rate to it, right? And so these inputs, you know, there's only a few and they seem simple, but they're highly subjective.

• 50:06Speaker 02

  And of course, changing them changes the value that you get by a lot. So they're very sensitive, right? And we run a sensitivity analysis as well. The point of all of this is not the actual numbers. The point is we can actually show a discounted cash flow model for this. And that's a big deal, especially to traditional finance managers. They can now get their head around this. They can now think of, you know, similar ratios, like PE ratios and all this kind of thing. So that's, that's the point we wanted to drive home, saying you can do this now. Here's a very simplified model and what it would look like. It's up to you, though, to put in your discount rate because everyone's discount rate is a little different or it's up to you to put in your growth assumptions. The point is we can now do it and that's, that's what's really driving that second thesis.

• 50:47Ryan Sean Adams?

  Very cool. Yeah, one thing we say about Ethereum is, and blockchains in general, is what do blockchains do? Blockchains sell blocks. And so when you're talking about the cash flow that Ethereum generates, it's from the act of selling the blocks themselves and getting a transaction in that, and then also selling the ordering of the transaction in that block space. And I see you guys cover both kind of transaction fees and MEV here. Jack, I'm wondering if you could kind of break down the model. So what generates the cash in your cash flow model for Ether, the asset?

• 51:19Speaker 03

  Yeah, so like Chris said, you can make a model as complex as you want it to. So we could have broken it down into like parsing out tips from the burned portion, from potential MEV capture. But instead, we said, let's throw all of that out the window, because we're not trying to get to an exact number here. We're just trying to show you that there is a relationship between network usage and the fees that are paid to theoretical value accrual and what you might consider fair value, because you can discount it like cash flows from a business, where you project them out in the future, you discount them by a risk-adjusted cost of capital, and then you get a present value of those future cash flows. And that, this whole thesis, I would argue, didn't exist three years ago. Before

• 52:03Speaker 03

  EIP 1559, the merge in Shanghai, you didn't have this, right? Because proof of work meant that all these rewards were going to miners. And so it wasn't asset holders who had the optionality to stake the asset and earn the yield. That didn't exist. So the thesis that you had before was ETH as money, ETH as a commodity to pay fees on the network, right? But there wasn't the tokenomics or value accrual there until you went to proof of stake. And then you created this linkage. And we just use fees in our model as a very simple way to say, fees are going to spit out as burned automated buyback effectively. It's kind of like a share buyback, token buyback that's algorithmic and automated.

• 52:45Speaker 03

  And then the rest is going to flow down into the tips that are paid out. There's an issuance element, and you could have baked in the issuance that stakers get versus non-stakers. And so you're technically owning a little bit more of the pie if you stake, because whatever it is, 1/3 of ETH is staked and 2/3 isn't. And so you're kind of gaining relative to non-stakers as well. Like, you can make these models very comprehensive and complex. That wasn't the point of what we were doing here. So we just simply used fees. And then we used a very simple projection into the future. There's so many elements that are going to impact what those future fees and cash flows look like. We mentioned L2s. That's going to completely change the fee dynamics on Ethereum for better or for worse.

• 53:28Speaker 03

  And that will change the value accrual to the ETH token. And that's why, like, the use cases are still speculative on top of Ethereum. You could make arguments there with L2s, maybe value accrual changes, or maybe both of those are great. Maybe we get more regulatory clarity. We got real world assets on chain. We got more institutions that are able to interact with these networks. Like, that's the bullish side. And L2s mean that, yeah, fees will be lower for the average user, but volume will make up for it on L2s. And so value accrual will be better for ETH. And you can model that bullish assumption out and you can get to a theoretical fair value. Or, on the other side, you could say that all of these use cases are highly speculative, that NFTs have crumbled in large part, right?

• 54:12Speaker 03

  Their values have fallen 90% or more in most cases. And that it's just speculative users that are left. And this isn't going to reignite and users aren't coming back. And L2s will reduce fees and therefore the tokenomics get worse on Ethereum. You can model both of those out, but we're just showing you that you can actually model it here.

• 54:31David Hoffman?

  A little bit of this conversation, and Chris, especially with some of the tone that you said, we can actually show a DCF model. One of the age-old ideas that we've had about Ether, the asset, and proof of stake, and EIP1559, is that all of these produce metrics. And kind of just like what Jack said, for better or worse, the metrics are produced. They are things that we can objectively measure and show and report on. Another old meme that we haven't articulated in a while is the most bullish case for crypto is to be understood. If we can understand these things and we can put these into form factors that are already pre-existing, all of a sudden it legitimizes what we are doing here. We are

• 55:15David Hoffman?

  not creating these crazy harebrained cryptoeconomic patterns that don't exist outside of the laws of nature. As soon as these things find their way into maturity, they start to look and feel like the old models that have emerged that are a tried-in true science. So regardless of what is actually going on in crypto, the fact that we are able to match these patterns that institutions already have has always been one of the bull cases I've thought about for specifically proof of stake in the EIP 1559. Chris, can you just talk about just like the value of having these metrics in a vehicle to become adopted and accepted

• 55:55David Hoffman?

  by previously concerned people of the capital of the world?

• 56:01Speaker 02

  No, I think you hit a lot of stuff right on the head that I would say myself are completely agree with, which is, you know, we talked about me being Bitcoin first and an approach to people saying, hey, understand this first. It was not only first, but technologically it's simpler. I still believe that, but I think you make a great point, especially with traditional investors, that you could probably more easily go to them with something like Ether and show them these things, and they would grasp that much quicker than the investment thesis for Bitcoin. And the reason I say that is because what you were talking about, like your lecture of first setting up, going through the history of money, like that's what you gotta do with Bitcoin. You gotta get into philosophy and

• 56:43Speaker 02

  politics and economics and game theory and all of these these kind of esoteric things. Whereas Ether, you know, we haven't tried this really in practice, but I imagine that you could probably get in front of an institutional investor and say, look, here's the metrics, here's the cash flow, put in your inputs. And they're looking at it like another financial instrument. And they're like, oh yeah, that makes sense to me. And then to Jack's point, you know, Jack was talking about kind of these these extreme bull bear cases. That's exactly what institutional investors do too. It's not about making point predictions with these models of a certain price. It's about getting their head around the probabilities, right? Investing is a game of probabilities. So now you can start playing out these scenarios and you can get

• 57:27Speaker 02

  Some some guardrails about what you think are the ranges that this thing could trade within. Now, I'm not saying those aren't wide. They should be very wide because it's very volatile. There's a lot of risks. There's a lot of unknowns. But the point is, we're not just sticking our finger in the air and going, oh, ETH could trade anywhere between 1,000 and 100,000. Like, no, like, here, we can put down some parameters of what that means in practice. It means adoption gets to this. It means you get this many users. It means fees go to this amount. And that's the point. You can you can have these scenario analysis where you can now get your head around the probabilities. And then that way, people can size their position accordingly. That's how an institutional investor thinks. That's how a good investor thinks. They think around probability, scenario analysis.

• 58:10Speaker 02

  And that's what you can do now with these things, which is which is kind of neat.

• 58:13Ryan Sean Adams?

  I mean, the it's really, it's really a simple model is how much is the world willing to spend on Ethereum block space? That's it.

• 58:20Speaker 02

  Yep.

• 58:21Ryan Sean Adams?

  Right? Like, what's the demand for that in terms of dollars?

• 58:25Speaker 03

  And Ryan, I think the useful context is, at least in recent history, since Ethereum has moved to proof of stake, is there's actually sustainable positive cash flow at the moment amidst the bear market, where there is evidence that people are still willing to pay fees. And that means that there is a positive real yield. It's not just issuance of new tokens. In fact, it's the opposite. There's more burn taking place than there is issuance, because issuance lowered after the merge, because you don't have ongoing high electricity costs like you do with the miner. So you lower issuance, the burn is greater than your issuance, and you have fees paid to stakers. So there's a positive real yield on Ethereum. If you look at a lot of other proof of stake networks,

• 59:10Speaker 03

  it's mostly just an issuance, like subsidy to bootstrap security taking place. And there's not really much in terms of fees being paid. So there's kind of this evidence of like, blue chip block space that Ethereum has relative to its competitors, because of its network effects, because of the number of applications on top of it. And so it's up to ultimately Ethereum to defend that, as competitors continue to kind of encroach with alternative app chains or monolithic L1s. Like, you guys had a great episode with Mike Ippolito, talking about Solana, Cosmos, Ethereum. And I thought that was a great, like, way to kind of frame it. And Ethereum does have that, I would argue, kind of blue chip leadership. And that's why it's valued the way that it is, and it has real fees. But can it defend it moving forward and continue to grow?

• 59:56Speaker 03

  As we move ahead, that will ultimately dictate whether or not the cash flows are highly positive and continue to grow and the DCF model indicates that its value is accruing.

• 1:00:07David Hoffman?

  So I understand DCFs as a model, but when it comes to actually producing one and then comparing those outputs to other outputs for other assets, this is not something I've practiced. So I want to ask a potentially pretty narrow question. On page 16 of your guys' report, there is some actual outputs from the DCF model that you guys have put together. And just loosely, as a vibe, how does the outputs of the Ether DCF model compare to this, I don't know, like the amalgamation of other DCF models out there? Like, where is that needle in terms of comparison? How good are the outputs looking?

• 1:00:43Speaker 02

  Yeah, I'll just say, if you look at what we have, and again, it's just for illustrative purposes, but I think the biggest thing you'll note is, I think we, Jack, you kind of centered around is the median cost of capital of 10%. In normal finance world, that's pretty high. So we're kind of already guiding to at least this, like, you should probably use a higher cost of capital because this is a lot riskier. So something like a regular blue chip stock, that would have a much lower cost of capital, right? These companies are much safer, they've got more predictable cash flows, been around a long time, and they have access to really cheap capital. So that's just kind of one point I could probably put out there. And then, of course, everyone knows the growth rate is the one that moves the needle the

• 1:01:26Speaker 02

  most. So as an analyst, what that tells you is, that's where you should focus your time and attention and energy, figuring out what's the best input for that growth rate.

• 1:01:37Speaker 03

  Yeah, there's a little trick to anyone that's taken a corporate finance class and played around with these models enough, and it's change your terminal growth rate, right? So in most of these models, you're modeling out five to 10 years of where do we think these fees or this cash flow, how do we think it will grow? And then you have a terminal growth rate where the perpetuity of cash flows from your final projected year, which is like, in this model, we go out to 2030. And then we use, if you look at it, a terminal growth multiple, or a terminal growth rate of 5% into the future. And if you look at the present value of the actual fee estimate on the paper,

• 1:02:17Speaker 03

  Nearly all of the value of Ethereum is in cash flows that are going to come from year 2031 into the future, right? Because it's projecting in perpetuity. And eventually, the present value is so low because the discount rate discounts those future cash flows and money in the year 3000 is worth a lot less to us than money today. Right? And so, the, the secret to this, in, in the DCF sauce, I guess, is look at the terminal growth rate. That's going to drive a lot of, of the value that you come back with. And when you're saying comparing it to other DCF models of, of other networks, it all has to do with what assumptions you put in, in terms of where the fair value

• 1:03:01Speaker 03

  is today versus the, the actual price. Because if you assume that the, that Cosmos is, is going to figure out their tokenomics and that fees are going to grow in the future at a, a very high rate, well then, yeah, you're going to get a very bullish scenario, the same way you would with Ethereum, right? So it's all about your modeled inputs.

• 1:03:19Speaker 02

  And here's another fun trick, or not fun, but like really, really useful trick that I use all the time as an equity analyst, which is, take the market price today, don't, don't make your assumptions from the bottom up. Take, take the market price today and reverse DCF it. And so what I mean by that is...

• 1:03:37Speaker 03

  That's what I did here, right?

• 1:03:38Speaker 02

  Yeah, you take what ETH is trading at today and you say, what is it assuming? And then you can put, get to that growth rate. And of course, it's a combination of the growth rate and, and the cost capital. But let's say your cost capital is more or less fixed and you're, you're really just focusing on that growth rate. And you get the growth rate. So you've made no assumptions yourself. You're just saying, what is the market telling me? And this, this comes from a, a person in the traditional finance space, Michael Malbassin, who completely rocked my world and the investing world because he, he set out this framework called Expectations Investing. What is the market expecting Ether to do in terms of growth? And then, once I figure that out, that's a completely neutral thing to do. I'm making no value judgment. Then I can bring in my value judgment and

• 1:04:21Speaker 02

  say, do I think that's high or low? Is the market too bullish or bearish on this? Do I think it can exceed that expectation? Or is it going to fall short of that expectation? And that's the big question of whether you think Ether is over or undervalued.

• 1:04:36David Hoffman?

  This growth rate that we have in this cash flow model, another mental model that we've used on Bankless is that these crypto networks are emerging economies. And I think maybe the growth rate is kind of making a bet on like the GDP of these emerging economies if my pattern matching is on target here. And I would imagine that when institutional capital allocator is looking at this report, they're not really trying to measure like, okay, what's the growth rate of Ether versus Cosmos versus Bitcoin versus Solana. They're really like, okay, I'm investing in economies. Perhaps I'm in the game of investing in emerging economies. How do these emerging economies compare to these crypto networks that are harder to understand but still have the same underlying patterns? Is my intuition correct here?

• 1:05:20Speaker 02

  Yeah, I think you're spot on where you're not going to look at them against each other unless that's your narrow funds, like you're a hedge fund that's trying to do that. If you're just a general investor, you're looking at the whole space and you want the whole space to grow. So to bring this back to traditional financing, you know, a lot of growth investors in finance, they want to be exposed to the growing industry because that's going to just naturally increase their probability or their hit rate of choosing a company that's going to grow, right? You don't want to try to find the best company in a dying industry. You want to find a bunch of companies in a growing industry and you're probably going to put the odds in your favor. So I think you're exactly right. The key thing is, how is this whole space growing? And is the whole space growing? And that's the key thing to look at, not, you know, these tiny little individual things.

• 1:06:04Ryan Sean Adams?

  What's so interesting to me is not the number in and of itself, right? Because it's just, let's call it what it is, it's a wild ass guess as far as what the growth rate actually is. And as you guys were saying, you can make a DCF, say whatever story that you actually want to tell. The most important part of this report, and I think you guys publishing this and distributing it to institutional finance, I'll use that term again, is that it shows that there is a mechanism here. And we had lever one, which is understanding Bitcoin, which is as a money, and that's still at play with Ether. And now we have lever two, where you have these crypto networks decentralized, they don't have a centralized corporation or a structure, and yet They are producing cash flows. They are producing revenue.

• 1:06:49Ryan Sean Adams?

  And plug in whatever numbers you want, just that realization, I think, is important. And the other thing with Ether that makes it, I think, so difficult to try to price predict in a DCF-type model is you could get the DCF number completely correct, but then thesis one sort of stacks with thesis two. Right? So like, the DCF number, at least in my world, like in my mind, under thesis two, that's like the lower bound, the utility kind of price for Ether. And then, to the extent it becomes valued as a money and has store of value attributes, then you just add an amplifier on top of that in some way. So it's kind of stacking. And when you look at the price of ETH, you're not sure what mix is at play.

• 1:07:32Ryan Sean Adams?

  Is it more like, I'll call it shorthand, TradFi will not like this, but I'll call it shorthand meme value of money? Or is it more like utility value of block space at any one time? And if I'm looking at a price of ETH, which is like 1600 right now or something, right? What percentage of that is like monetary premium versus utility value? Anyone's guess. Nobody actually knows. That's very difficult. So, anyway, it makes discovering what the value of these assets so fun, so interesting. And I am curious about this, maybe this topic as we come to a close today, which is, how has this report been received among institutional investors? So when they look at this, what do they say to you? What's the feedback been so far?

• 1:08:18Speaker 02

  Yeah, it's still coming in, but so far, so good. I mean, it depends on the institutional investor, right? As we talked in the beginning of the show, they're kind of all over the place. So it's going to really resonate with some and not others. We did have a webinar where we focused this piece of paper, or this paper that we wrote, and we had really high turnout. So there's interest there. And the institutional base is interested in this topic. They're, getting back to that point we made earlier, they're moving past some of the basic 101 stuff, and now they're starting to explore some of the other things there. So we'll see. As it continues to roll out, these things tend to take time to trickle out and stuff. But so far, so good. I don't know if you have any anecdotal evidence, Jack, or anything else you've heard.

• 1:09:00Speaker 03

  Yeah, no, I think it's been positive. And Ryan, I think you make a great point. There's, value is always going to be arbitrary. The, the, the problem is, is just, you need a framework as a traditional investor, especially a delegated, like asset manager or wealth manager, that's managing a client's money, right? You can't just say, oh, I like ETH as a network and I'm going to speculate with my client's capital. You need some, some fundamental to grapple on to, to say, hey, there's cash flows. And if these cash flows continue to grow, like you come around to a thesis and maybe you have an idea of what you think that fair value could be someday or is. And then that allows you to actually like get your investment thesis past a committee

• 1:09:44Speaker 03

  or explain to a client why you own the asset. And then at the end of the day, the way most allocators tend to act is like, okay, then they put whatever, 1% of their portfolio in Ethereum and they're not necessarily marking it to market all the time. But they do need to have a framework to get to the point to actually say like, okay, there is an investment thesis here. And that's what we're trying to provide with a piece like this, rather than here's the exact value of Ethereum. We don't know it, nobody knows it, and it is largely arbitrary and speculative. But you need a theory or a thesis and that's what we're trying to provide with a piece like this.

• 1:10:17Ryan Sean Adams?

  So guys, this has been fantastic. And I'm curious, what's, what's ahead for Fidelity Research? Are you guys going to be putting out more about Ether? Of course, that is a, Ethereum is kind of a, an ever-evolving landscape. So we have no idea what's going to happen with Layer 2s. There's this new upgrade, EIP 4844, that's going to make blob space really inexpensive. And oh my God, try explaining blob space to TradFi. I'm sure that, that, that's quite the thing, but what are you planning in terms of reports? Are you going to cover more Ethereum stuff, more Bitcoin stuff? Are you getting into other crypto assets as well? What's next?

• 1:10:56Speaker 02

  Yeah, we'll certainly be covering both. We've done a lot with Bitcoin, but we'll continue to do stuff with Bitcoin as well. And then, yeah, like you mentioned, tons of stuff on the Ethereum ecosystem side. You know, it's kind of crazy to keep up with, but I guess good job security for us as researchers to continue to cover this. We have Max Waddington on our team, who wrote this paper with Jack. He's got his ear to the ground with all the developer calls and the improvement proposals. So definitely see more coming out also from him. The next piece we have immediately, I believe, on Ethereum is this discussion around L2s. So it's a basic primer, once again, to get people at least familiar with these concepts, but then touching on that kind of tension of where does this go in the future?

• 1:11:40Speaker 02

  Do these L2s work, but then suck away fees from this base layer? Or do they grow together? And so that will be a nice little piece to start to introduce those concepts to investors. And again, all of this is written to the investor perspective, right? Why does it matter to them as an investor? And so that's what we try to do. We try to stay intellectually honest. And the other thing I say in terms of our research is it's a cliche, but I do believe that we have a missionary mindset, not mercenary. We've been here a long time. We believe in the space. We'll continue to write and cover it and provide value in any way we can.

• 1:12:15Ryan Sean Adams?

  Well, let's end it there then, Chris, Jack. This has been absolutely phenomenal. I'll echo what David said earlier in this episode. The most bullish thing for crypto is to be understood, and you are helping the investor world, traditional finance, understand it. You're also helping us, you know, in crypto, apply old tools that are actually very useful, like discounted cash flows, to our new emerging asset class and giving a bit more precision in terms of our decisions. So I want to thank you guys for coming on Bankless today and putting out this report.

• 1:12:44Speaker 02

  It's our pleasure. Thank you.

• 1:12:46Ryan Sean Adams?

  Yeah, thanks. This is fun. Action items for you, Bankless Nation. We've got a link to the Fidelity report in the show notes, so you're going to go check that out. Also, got to end with this, of course, none of this has been financial advice, not at all. You must know by now, crypto is risky. You could lose what you put in, but we are headed west. This is the frontier. It's not for everyone, but we're glad you're with us on the Bankless journey. Thanks a lot.