The Crypto Opportunity

Motley Fool Germany analyst Bernd Schmid walks host Kate Herman through his outlook on crypto -- the opportunity, the most interesting applications, and how to tell pretenders from contenders as investment opportunities.

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This video was recorded on Aug. 27, 2021.

Dylan Lewis: It's Friday, Aug. 27th, and we're bringing you a session from our recent member event FoolFest. I'm your usual Friday host, but I will not be sticking around long. Today we're going to be airing a session from our July member event, Crypto + A Foolish Portfolio. Crypto investor and Fool Germany analyst Bernd Schmid joined host Kate Herman to talk though his outlook on crypto, the opportunity, most interesting applications and how to tell pretenders from contenders as investment opportunities. It's a great conversation for beginner and intermediate crypto investors alike, and a nice way for us to touch on a space we don't discuss much in our usual lineup of shows. Hope you enjoy!

Kate Herman: I'm tickled to be joined today by Bernd Schmid. He heads up our Stock Advisor Germany service. Bernd, this is going to be an exciting half hour. I'm really glad to be here with you. In Bernd's daily work, he's responsible for finding the best companies to invest in in the German-speaking region but he also has been diving deeply into the crypto space for the past two years. You're here with an expert in the field today and we're going to put all of that work and research to the test. You ready Bernd?

Bernd Schmid: I'm ready, Kate. Thanks so much for the introduction. Happy to be here.

Herman: Excellent. Well, let's get started. First up, we know that fools who are watching today have opted into this session. There is either experience in the crypto investing space or perhaps we're joined by a few members who are just getting started and wanting to learn a little more. I think it would be wise to make sure we're all on the same page when we talk Foolishly about investing in cryptocurrency, we're talking about what? The digital currency that you can use to buy things. There's an online ledger, we've got cryptography, blockchain technology. Bernd, you've already lost me. Can you talk about blockchain technology and get us started on the basics of crypto before we really launch into a deeper dive?

Schmid: Yeah, blockchain, I think you understand best if you just think about it as a database that is distributed in the web on different kinds of computers. It's called blockchain because the database consists of individual blocks which consist of the data that you want to have sort and the blocks are being chained together by cryptography. That's where the term crypto comes from.

Herman: Why are people so excited about blockchain technology? I think we've all been hearing and learning about crypto now for several years and it still sometimes feels like it's just taking off and also sometimes feels like it's been here forever. Why is there still such excitement around this technology?

Schmid: I think one reason, there's a lot of people who got rich quick, this attracts [laughs] everybody else. You buy Bitcoin in 2013 and you're richer four years later or do the same thing in 2017. You don't know it might happen again. But I think the underlying here it's not just superficial get-rich-quick scheme or something like this but the technology itself and the applications that it enables is very exciting. Sorry, I forgot who, but I think it was a venture capitalist, he talks about it like it's a second big layer on the internet technology. The first one was the web, in the mid-'90s that enabled all of us to come online, to browse the web, to put up information there, to share information and everything that comes on top and now blockchain technologies is the next layer on top of it. It not enables the sharing of information but the sharing of value or the transaction of value. Like you and I Kate, I can send you a Bitcoin and in an instant, you'll have this and it will be in your hand and you will control it. That's something that wasn't able to be done before. In the mid-'90s, you and I we were not able to invest into the HTTP protocol or in JavaScript or something like this. We could buy Amazon in 1997 but that even this was quite limited. Today with the blockchain, you actually can invest into these protocols, you can invest in stuff that has been created. Like we as investors, we can be there at the very, very early stage.

Herman: Fools are very familiar with investing in stocks. We have a long-term buy and hold philosophy that's very well-known to people. We recommend Fools have at least 25 investments in their portfolio, crypto investments can count, yes? Help me understand what's the most simple, the easiest to understand thesis for owning crypto as part of an overall investment portfolio. Where does crypto fit in?

Schmid: I think It really depends on the individual. If you dig deep at something, you try to understand something, you can think about it differently, but from a prospect of an investor, I think most of our members who don't pick into ourselves, they probably are in our services because when you look at companies and recommend them, I will probably look at cryptos as very high-growth stocks; very high risk, but very high potential reward. I keep saying, I'm not even sure if it's a real target, but there might be some truth in it, but in crypto, the crypto market is like the stock market, except everything happens 10 times faster and 10 times more extreme. Volatility is huge and also the historical Bitcoin cycle, if you can call it like this, you have like a four-year cycle where Bitcoin goes up 50x and then falls by 80-90 percent. It's happened already. Bitcoin was brought into the world in 2008, I think it was at January 2009. One of these two years, four years later, you had one high cycle in 2013 then 2017. Maybe many people remember this and now in 2021 or end of last year it started again.

Herman: We hear a lot about Bitcoin. I think that is certainly the most common term that you hear associated with this. How many different kinds of cryptocurrency are out there?

Schmid: I love this question Kate [laughs]. I have a good answer to that but that's not coming from me. I stole it from a guy called Jeff Dorman. Many people think about this space so differently so it just puts a frame into it. I'll give you my frame. Jeff Dorman thinks about four big buckets into which you can put these different cryptos, let's call it into. The first one he calls [UNCLEAR] crypto currencies. What is a currency? A currency is a medium of exchange change. You and I, we can transact and I give you some currency for it and you serve me a piece of bread or something.

Herman: Right, gummy worm.

Schmid: I love this, horrible. [laughs] Candidates really invested in this company. [laughs] May be a token soon. Anyway, cryptocurrencies, it's like Bitcoin is a typical example for this. You can also argue about how much of a medium of exchange it is, but you can not do much more with Bitcoin than exchange the value and then hold this value yourself or what to do with the currency. This is a cryptocurrency. Then the second of these four buckets would be platforms. These are, Ethereum is the most well-known and it's the second-biggest crypto out there. A platform is something where you use the blockchain technology to implement a decentralized applications, for example. They are applications that run on this blockchain, essentially. Jeff Dorman calls these platforms. You can invest in these platforms. You can invest into Ether, for example, or into EOS or in the other platform and many more. The third pocket, he calls asset-backed tokens. An asset-backed token is also a crypto, a token that you hold yourself. Bitcoin is a token, Ether is a token, everything are tokens. Asset-backed means there's a real asset value behind it. For example, you could tokenize real estate and it's already happening. For example, I think the Aspen resort that is somewhere in the U.S. I don't even know exactly this has been tokenized and these tokens can be traded. This token has a real asset value behind it and this is an asset-backed token and the fourth big pocket, the last one, would be pass-through tokens. This is a token that passes some value through to you. It's very individual. I think a good example is one of the biggest crypto exchanges, I think out there, maybe the biggest one would be Binance. It's an often in the news lately, but they have something called a Binance token. If you buy it and you trade on the exchange and depending on the number of tokens you hold, you get a discount on the trading fees or you're allowed to have bigger trades or something like this. This will be a typical pass-through token. You buy it and it has a individual value to you. You trade a lot, you would like to own some Binance tokens just to make these trades easier. Just to summarize, these are the four big packets, the cryptocurrencies, the platforms, the asset-backed tokens, and the pass-through tokens.

Herman: In prepping for our conversation today, I was startled to find out that the total value of all cryptocurrencies on the market just last week was over $1 trillion U.S., which certainly gets a Fool's attention in terms of a potential investment there definitely seems so much opportunity there. Also as more of a blue-chip investor myself, I can't stop but wonder, where's the stability in cryptocurrency? I know what a Disney or a Starbucks or an Apple is doing. I see their quarterly reports, I follow their movements, I can read in the news how they're doing. What's the underpinning of cryptocurrency? Where is the stability coming from or not?

Schmid: Yeah, that's probably not much stability.

Herman: I think you are right [laughs].

Schmid: It's a very new technology and there's so much innovation happening. It's not my full-time job, I just spend one or two days a week, but I really try to understand this better, there's every day there is something new that I learn or something has changed. It's just a disruption, how is it called? This disruptive innovation that is happening. If you look at individual projects, that's how I would look at it, I don't invest in the space like in ETF and I won't do on everything, but I think there's some really exciting projects out there. If you just look at Bitcoin where's the stability, if you look at the number of users or the number of addresses. Addresses, where you store your Bitcoin and how you can access your Bitcoin. If you look at the number of individual addresses are out there, it's climbing relatively steadily. It is fluctuating, but not as crazily wild as the price is fluctuating. I think the stability of this whole space comes from actually the increasing and the incremental number of users that is being drawn in by all these projects, many of them. I think 10 years from now, 80-90 percent, maybe even more, won't be there anymore, but they will be 10 percent and there will be others, I don't know how many that will have created real value like now they will create real value. But overall the whole space it brings in more and more users. Actually, I don't have the exact number, but I think right now it's about 150 million users in the whole crypto space. If you looked at the trajectory how it has developed in the past.

Herman: Yes, the trajectory [laughs].

Schmid: Trajectory and you lay it over. The [UNCLEAR] chart, you lay it over the internet users that you had. You actually see that with these 150 million there about, where the internet was in the mid-'90s, we're coming back to the mid-'90s type of theme where we are right now. The development has been relatively comparable between the web technology, let's say, internet users and blockchain users. If you just continue this trajectory forward, you can expect about a billion internet users in the next 4-5 years, I think at the latest. I think this is what I would see the space that's here to stay. That's why even though internally there's a lot of volatility and there's a lot of disruption going on coins coming and going, it will grow and it is here to stay.

Herman: Fascinating. Let's get into it for the Fools who are watching this breakout session and either have already taken the plunge and are looking for a new opportunity, or are ready to dive into the space. How do we strip out the noise and figure out which investments here are legitimate and which ones might be a little more fly by night that we would want to avoid? How do you identify a legit crypto investment?

Schmid: There's two things I think that I would look at right now, are two most important things to see if at least there might be something to it. One is the user base, is it growing? Does it gain traction in terms of how many people are really using this thing? The second one is there something, does it solve the problem that adds value to somebody? For example, bring a negative example, Dogecoin. In Dogecoin you have the first condition which is fulfilled, you have increase in users there are a lot of people who are interested in this thing. But I personally, and I could be totally wrong and maybe something is coming but I personally don't see any specific problem that Dogecoin is solving that something else doesn't solve. I for example would not think that Dogecoin is something of value, it might change. Elon Musk, he probably noticed he's been pumping Dogecoins for whatever reason. I don't know what's going on with this guy's mind for doing that. But for example, he could come up with a use case, maybe he'll make Dogecoin the currency of Tesla users. You can buy Tesla, it means you can buy upgrades to Tesla with Dogecoins and you might get discount. Suddenly, there's a use price case, for Dogecoin and this could all change. But anyway, these two things, number of users is it growing? Is there a network effect? Second is there a real problem that is being solved, does it add value for users?

Herman: I think that's really helpful because just as the stock market that people might be a little more familiar with, tends to ride certain waves, so, too, does cryptocurrency. It was almost double its current value just two or three months ago in April. Now it's taken a bit of a dive, but it's still sitting well above a billion dollars. Knowing where to start in that space and what seems a little bit more of a smart choice, I'm not going to say a sure bet because there's no such thing in investing [laughs] but how we can take that plunge. If I were to put money into crypto, how much should it be? Let's assume I'm a good compliant Fool and I have 25-plus investments across my portfolio, we will start with that premise. How much weight should this have in my portfolio?

Schmid: I think this is individual. It really depends on you. For example, somebody in their retirement just living off their portfolios, I would recommend a completely different thing than somebody who's just starting their career, has a little bit of money to invest, and is expecting his income to be much higher than his portfolio probably. How I would think about it in general is and if I start with this, and I don't know much about it, I just want to learn. Think about it as one growth stock that you want to put into your portfolio, excited about whatever Netflix or the latest Rule Breakers recommendation which I don't know which it is, but you know you want to invest in it. Just build one position, it's one stock. Get a feel for it. Start with one or two cryptocurrencies that you're familiar with and understand a little bit. Then I think you can expand from it, I think if you really understand it well you get really good advice, what's important yes, it's long-term thinking always. But I think you could potentially replace also if you always say you want to have 25 positions in your portfolio and you are an investor who just like this number because you can have an overview and you don't want that more, you might replace other growth stocks with these cryptos. I don't know where the limit is, I would never put 100 percent of my portfolio to, even if it's 50 different cryptos because they're all going up and down, with Bitcoin right now still and for whatever reason you need some money and you need to liquidate that at 90 percent drop, it hurts a lot. I don't know where the limit is. From me personally, I have quite a lot but let's say of my 30 positions that I have probably 15 crypto positions, but this is also because I think I understand these things. I'm relatively well and I would not recommend though for a beginner to go that far.

Herman: In that zone, what concerns do you have about this space in the market, the crypto space? What are you watching? What are you worried about, if anything?

Schmid: In terms of the market itself? Actually, I'm not that worried. There's a lot of things going on with China trying to ban Bitcoin or at least which we've heard but, they advise some miners to stop operating, they don't want this or also the taxation discussion. I think Joe Biden brought up a month or two ago. Then there was a third thing it all happened at the same time in selling market treasures and regulations is another topic that is not so here like these things called non-fungible tokens, which might be asset-backed or backed by something by art, for example. Are these securities or not? What restrictions should there be? What disclosures should there be? There is a lot of open. There's a lot of uncertainty in the sense of how much regulation, whether it'd be how will China react? How will other countries react? It doesn't really concern me in the market though because I'm quite convinced that the use cases there, the applications are there and they will prevail let's say. However, for individual projects and also individual investors, it's just a lot of uncertainty. Like what do you do with this China information? What do you do with this taxation? Actually one thing that disturbs me a lot is this tribalism in this space. I've never believed it but the most extreme is the so-called Bitcoin maximalists. I'm not sure if they themselves call them like this. But these are the guys who say, Bitcoin is the only real thing. All other crypto is **** coins, sorry for that [laughs]. They're very open and they say everything is crap. Only Bitcoin solves everything. There's really smart people with actually quite convincing arguments who believe that. Then you have other trying to believe that one thing and then we have the Ethereum crowd. I think you should approach this whole thing with an open mindedness and be open. Maybe Bitcoin is the only thing, maybe it will really turn out to be that way. But right now, I for example, I don't see this as the most likely scenario. To bring you back, what concerns me is that somebody who's just starting into this, he might get distracted very early on by, why is this guy saying the opposite? It is really tough to navigate as a user or as an investor in this market.

Herman: It makes perfect sense. I think it would explain why some people are very excited to dive in if they tend to be more rule breaker-minded investors and they are excited to be first in this space, and it also helps explain why some other folks aren't willing just yet to even consider it as part of their portfolio. This is very helpful in terms of seeing the bigger picture. How big could this bigger picture get? How big is crypto going to get in the marketplace, do you think?

Schmid: Big. [laughs] it really depends also how you define it. But if you look at it, now we have 1 trillion. The space is about 1 trillion, I think the number that you mentioned. It was 2 trillion two, three months ago.

Herman: Yeah.

Schmid: How big is this? I'm not sure about Amazon market cap right now, but it's two or three times that size. I think it's 2 or 3 trillion. I don't even know the exact number. But this is just compared to one stock. Then if you look into the space, I won't be able to communicate what is happening in the space even a short time, because I probably understand only 50 or probably 10 percent of it. But for example, with these tokens, let's just start with one specific use case just to bring to people who are probably not that deep into this, what you can do with it or what might happen is tokenization of real asset-backed tokens. Like sport athletes, somebody in the young age they might tokenize essentially their career. They can say, these tokens, they represent 10 percent of whatever salary I'm going to earn for my professional football club contract, or something like this, or basketball club contracts. These things, in my opinion, I think they're inevitable to happen. You tokenize that. If you bring all this together, I think the 10X is very likely to come. 10X also, it sounds crazy. But if you just think about gold, the gold has a large capitalization. I don't even know all the gold that has been dug out of the ground in the couple of last 5,000 years. It has a value of, I don't know, 12 trillion or something like this. This is already 10 times the size of the whole crypto space. Many people are now also thinking about Bitcoin as digital gold alternative, let's say it like this. I think Bitcoin can at least match the valuation of gold at some point. Or let's say like this, it won't make sense for me, it wouldn't be completely irrational to think that, in all this you have already a 10X, and then you add all this tokenization, you have asset-backed tokens and then these asset-backed tokens, they're going to trade on exchanges which operate on the block chain. I think 100 trillion, it sounds insane. It's completely crazy. I'm not sure how likely this scenario is starting to happen, but the space really will cover all the use cases that people are thinking now. There might be other technologies also coming. But I'm expecting the 10X, or in the long term, a 100X as a possible scenario.

Herman: That is extraordinary to think about. For those watching who like to deal in real numbers, today's current market cap for Amazon is 1.9 trillion. As of 2017, the value of all the gold in the world would have exceeded $7.5 trillion. Those are the numbers we're dealing with today. You heard it here first, Bernd is projecting that Bitcoin and cryptocurrencies could be bigger than all of it [laughs]. Is there a scenario where a company like an Amazon or Starbucks, do they reach a point where they dabble somehow in the digital currencies market?

Schmid: If I'm not mistaken, it was an Amazon or MercadoLibre, one of the two, they were I think in Brazil or Argentina, somewhere in South America on what was a small country. Peru, maybe they were experimenting. So far, just three countries. South America, one country that were experimenting, I think with the token as a form of payment if I'm not completely mistaken. But quite sure they're trying these things out. It also depends on the use case. There's a guy called [UNCLEAR] if I'm not mistaken. He is very much into this, it's called DAOs, decentralized autonomous organizations. He's talking to people who are protecting actually his ideas also. That for example, at Disney, they might bring a token to the markets where they say, whoever wants this token or wants a certain number of tokens, they might have access to certain gimmicks, like movies that they can see, assuming they might even be able to influence the next movie that Pixar's bringing, or something like this. I think companies can use this. But why was I hesitant in the beginning with my answers? What I think blockchain can do is actually disrupting a lot of these companies also. Because what blockchain and the technology can do is they will remove the middleman of a lot of applications, so whenever you have somebody sitting in the middle and coordinating transactions. I think potentially, just in a world broad sense, this could be replaced by a blockchain. On eBay, for example, you don't need an eBay. You could have a protocol that is completely independent, sitting somewhere on one of these platforms, and all these things are managed, transactions are happening. I think as much as they will probably try these things out, from an investment perspective, from an outside perspective, I would also look at the disruption potential of these companies.

Herman: Yeah.

Schmid: If I can have one more example, I didn't bring up the best examples. One of the tokens I'm most excited in and full disclosure, I think it's my second-biggest position in this space. It's a token called Theta. I also have to disclose that I don't understand the full details of it completely. It's just because it has grown so fast. It's essentially what they do. They make, in my terms, a decentralized YouTube. I don't know how much you have been affected by the censoring that is going on on YouTube. But I think that's a big use case. This Theta token, essentially, it could even be bigger than YouTube. What they want to do is the whole so-called content delivery network to be replaced by essentially the data centers where, for example, the movies are stored and then streamed to the people. They could be replaced by decentralized network of you and I. You and I on our laptop we run so-called "nodes" of this Theta network. We get compensated with the currency in this Theta network, for operating these nodes, providing our bandwidth of internet or our computer resources. This could eventually replace Google or YouTube data centers.

Herman: That's incredible. Am I reading right that the price of a token for Theta right now is about $4.95 U.S. For about five bucks you could get a Theta token?

Schmid: That hurts really [laughs]. I bought then when it was a couple of cents. It was already $13 two months ago. It could be that's it's there.

Herman: Something has certainly happened in the crypto market in these past two to three months that has caused things to drop by about half. But what we would say to Fools if it was the stocks that we recommend when they go on sale, that's a good time to really plug in and figure out what a solid investment in that space might be. My final question to you Bernd is, what are you most excited about in the crypto space as we move forward from here? If there are Fools watching who are on the fence, if there are Fools who are excited as well and just looking for someone who is excited as they are. What is it? What is sparking your interest here for the long haul?

Schmid: I think the technology is here to stay, and I think a lot of these protocols and applications that have been developed today have really good use cases and are really useful, and we today can invest into them. I think this is really good. What I'm excited about is that there are already people out there who will bring light to it, who would try to remove the noise from the signal, like we want the signal and there's so much noise out there. I think this is going to happen, for us as investors at least. But right now what's not really good in the space is, what do you call it? The user experience. It's really tough to use these protocols. Even to run a Theta node, is one of the simple examples you can download it and do it. I like the EOS network, but you have to have these wallets. Somebody who is not really grown up with this I think it's just tough and this still keeps a lot of people out. I think this will change though in the next two to three, four years. I believe probably 90 percent of the people in the space they think about how to improve the EOS experience, how to make it that people actually don't feel that they interact with a new technology, but then they're used to this. I think once this happens, there could be another tipping point where really, like I mentioned before, we have about 150 million crypto users. These are the early adopters who really like, and they don't mind all this headache going into this. But I think in the next two, three, four years, there will be this point where it becomes so much easier to use that even somebody who says, too much for me, that sounds easy. Let's try it out. I think this can get very exciting.

Lewis: All right, listeners, that does it for this episode of Industry Focus. If you have any questions or you want to reach out and say "Hey," shoot us an email at [email protected] or tweet us at @MFIndustryFocus. If you're looking for more of our stuff, subscribe on iTunes, or wherever you get your podcasts. As always, people on the program may own companies discussed on the show, and The Motley Fool may have formal recommendations for or against stocks mentioned, so don't buy or sell anything based solely on what you hear. Thanks to Tim Sparks for all his work behind the glass today and thank you for listening. Until next time, Fool on!