What Should Investors Expect From Cryptocurrencies?

You may not have heard as much about cryptocurrencies recently as you did in say, late 2017, but that doesn't mean the industry has gone quiet. In this inaugural edition of Between Two Fools, Industry Focus: Financials host Jason Moser sits down with The Motley Fool's own cryptocurrency expert, Aaron Bush, to get some valuable insight into the current state of the industry.

A full transcript follows the video.

This video was recorded on Nov. 12, 2018.

Jason Moser: Aaron, there's a lot of noise in the media regarding crypto, cryptocurrency, Bitcoin, Ethereum, all of this stuff. It can become overwhelming at times. Let's go back to the very basics of why this all exists in the very first place. Why does crypto matter? Why now?

Aaron Bush: This is all about the future of money. It sounds a little crazy, but I have a theory. My theory is that we're all becoming cyborgs. If you look at the way that we work, the way that we increasingly socialize with social media, how we find entertainment, how we learn, how we increasingly wear devices, where healthcare is moving -- all of these different things, it turns out that our behavior as humans is increasingly digital, and our behavior is merging with the internet and all of these interesting components of that. The same exact story is happening with money. The human economy is becoming a cyborg, and the future of money really is digital. From a pure technology standpoint, that makes a lot of sense. But I think there are other important ripple effects to consider with that.

For one, a huge deal is that the government's monopoly on money and monetary policy is broken. That's a huge deal. 1776 represented the separation of church and state. 2008, when Bitcoin was founded, that represents the separation of money and state. That's abstract. It's something that most people, I don't think, at least that I've talked to, they haven't even thought to question that, because it's such a basic foundational part of our lives.

But let me offer a little bit of perspective. It's easy to get caught up in our bubble here. The first part of that is, in the U.S., the most common question I have is, "Why do I need this Bitcoin thing? Why do I need this crypto thing? I can go to Starbucks and order my coffee just fine with a dollar."

Moser: That was going to be my question. You're killing me here. I have the War on Cash basket, I'm loving these four holdings. But I understand what you're saying. What you're saying makes a lot of sense. I could superglue your iPhone to your wrist, but that's essentially the same thing. You're right. We are becoming cyborgs to an extent. We're more and more reliant on these devices. These shifts happen very slowly, until all of a sudden, you notice it happened, right?

Bush: Yeah. I think what's interesting here is, it's easy to get caught up in our own bubble in the U.S., saying, "The dollar works just fine for all the things that I need." But I think it's important to understand that Bitcoin in particular, the most pressing use case there isn't Starbucks, it's Venezuela. Bitcoin as a currency, as a store of value, it seems kind of laughable to us in the U.S., where we have a strong currency, a stable economy. But for people in emerging countries, where oftentimes there are authoritarian governments that take advantage of monetary policy, so that their currencies inflate into being worthless, this actually is a brilliant way out for them. I think that's really important to consider. This isn't about the U.S. This is about a global movement, really inferring people up from bad government decisions.

The other piece of this is that the same technology that enables Bitcoin also enables other use cases. It's easy to get caught up on Bitcoin, but really, there's a lot more to that.

Moser: You're talking blockchain, is that right?

Bush: I would say blockchain is just a type of database that keeps track of who owns what, when. In and of itself, it's interesting, but it's really one piece that makes something like Bitcoin work. If you can have a full history of who owned what, when, that's a key component in having a digital currency, because you can keep track of your scarce tokens.

Bitcoin does not have that much programming flexibility. There really aren't that many things that you can do with it. You can hold it and you can trade it. Ethereum, which is the other big cryptocurrency that a lot of people know about, it added much more programming functionality. A lot of the same technical components that make Bitcoin work, add a little bit more and you can have smart contracts. You have more functionality, you can have projects, raising money in Ethereum to do things like file storage, help with compute power, prediction markets, decentralized applications, and a lot of other things. If you can do that with money as a foundation, you can also build things like decentralized trading, lending, financial storage. You start to see the beginnings of a digital financial system. And if digital money is a big deal for people in other economies who are struggling, then adding all of those component layers is a huge deal. It breaks down a lot of barriers.

Moser: I've always felt like having that track record of who owns what, when, to me, it felt like the real estate market would have been, or may be, one of the greatest markets for digital currency, Bitcoin, blockchain technology, have a lasting impact. Having gone through the process of buying a house, selling a house multiple times, there's so much money that's incinerated in that process because of redundant paperwork that doesn't really serve anyone's purpose, other than to make sure someone else isn't going to get sued.

Bush: Totally. There are private blockchains and public blockchains. Private blockchains are when that core database functionality is embedded into your tech stack. Real estate could be a really interesting example. It could save a lot of money just by using blockchain instead of the current standard today. If you think about logistics, keeping track, not of who owns something when, but where something is when. A lot of the same advantages you get there can help cut costs.

Maybe in supply chain logistics, some back-office financial functions, you'll see private blockchains come into effect. I'm pretty skeptical overall of private blockchains. I think it's something that's still pretty experimental today. We'll have to see it play out. I think public blockchains, it's much more disruptive to the foundation of money in general. I think that's a much bigger deal.

I'll just say one last thing about the abstractness of this. I read a fascinating book, it was called The Sovereign Individual. This is a book that has slowly been making its way around in crypto circles. The core thesis of that book is that the structure of society is determined by the logic of violence. I'll break that down a little bit. Humans are absolutely the best at finding ways to create value, to create wealth. And when we create wealth, we have to find ways to protect it. If you look back across history, we started as hunters and gatherers. We really just worked as tribes. But as soon as we moved to agriculture, just through the process of tilling and like cropping, we finally had resources to store and protect. And at the same time that you have something to store and protect, that's when you start needing to organize ways to protect that with militaries and such. So, you start to see the onset of city-states. And they start growing their military might. And suddenly, you start to see, humans are good at creating wealth. We move past agriculture into other elements. And then, the same time as that, we move past city-states to nations, to superpowers. Small companies turn to multinational companies. We have tons of laws and organizations that all work together to protect this wealth.

So, really, the history of the economy of humans is that we've seen centralization of power to protect wealth. Why this movement is super interesting to me is because, for the first time in human history, it moves us away from that trajectory of centralization. If we create wealth digitally, we can now protect it digitally. If we do that, because digital money completely disregards national borders, it's not part of a country, it no longer needs government support and militarizes to protect it. In other words, the logic of violence is changing because the ways to steal and protect wealth are changing.

If the Sovereign Individual thesis is true, then when the logic of violence changes, so does the structure of society. So, I expect that as cryptocurrencies and the related technologies that are built around it go mainstream, governments will increasingly be less relevant economically. Which sounds crazy. There's a lot to all this I just said. But money doesn't live in a vacuum, and if money changes, a lot of other things have to change, too.

Moser: Of course. Now, we're always, obviously, focused on the investing angle here. We want to circle back to what this means for investors. We get questions from listeners all the time on this. I want to get your approach to investing in crypto. Real quick, I want to go back to one thing we were talking about earlier, talking about store of value versus medium of exchange. That was one of the first questions that came to my mind when cryptocurrency came about. How do you view this? It's hard for me to perceive it as a store of value with the volatility. I get the medium of exchange. Maybe it's going to take some time to get there. What do you think?

Bush: I think it's sort of a chicken and egg problem. Stability is a property that grows over time. It has to start one place or another. What we're seeing with Bitcoin, really, as a store of value, people are starting to adopt it. Belief around the currency, just like what happened with gold hundreds, thousands of years ago, it's starting to take place. There are tons of people around the world that are working to make the technology more scalable. Right now, there just can't be that many transactions that happen per minute, per hour. But there are ways that can be improved, and it will change. The chicken and egg problem should start to change.

Moser: Final question for our listeners: your approach to investing in cryptocurrencies. You run our Crypto Society here at The Motley Fool. You get to talk about this stuff all the time, read about it all you want. Give us some hands-on ways to invest in cryptocurrencies that hopefully don't just disappear into nothing.

Bush: Investing in crypto is super hard. Just, straight up.

Moser: As I've come to find!

Bush: These projects don't have cash flows. They can't be valued as companies. Really, what these are is mini-economies. They're mini monetary marketplaces.

Really, there are two traits that matter most when you're looking to invest in crypto assets. The first one is, are people using it? Is trade volume growing? The second is, is there a solution to the velocity problem? What that really means is, are people holding? For a lot of projects, people will just buy the token and then use it for whatever it is. But if they just buy and sell immediately, no one is holding. If you look at how GDP is calculated, or the size of any economy, how big that becomes, a lot of it is determined by how much people are holding your value. The more people are holding, the larger your market needs to be to support all the trade that goes on on it. Those are the two main things. Are people using it? Is there really a reason for people to hold on and have the velocity of money slow? Kind of Econ 101.

And really, most projects are failing on both of those fronts. Scaling is really hard. Even for a lot of these projects that are worth something like $300 million now, they have maybe 200 daily active users. It's really sad. It's pretty pathetic, actually, that their valuations are so high. But like a lot of the things we've talked about, it's still really interesting. It will happen, it's just a matter of when. One thing I like to say is that now's the best time to learn so that you can capture tomorrow's opportunities. All of this stuff is improving. I think Bitcoin in and of itself is still probably one of the most asymmetric investing ideas out there. There are lots of other interesting projects. You can come on to Crypto Society if you want to check it out. But I'll leave it at that.

Moser: I'm sure our listeners learned something today. I know I did, too. Aaron, thanks for coming on this week.

Bush: Thanks for having me!