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HEALTH, WEALTH, AND HAPPINESS |
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"Cherish your vision and your dreams, as they are the children of your soul, the blueprints of your ultimate achievements." - Napoleon Hill |
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State of Ethereum: Q4 Report (Bankless): If Ethereum was a "company," this would be its earnings report. See below for the eye-popping growth in Ethereum "revenues" (or fees) over the last year. |
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Investor takeaway: If you found a company that had increased year-over-year revenue from $231 million to $4.3 billion, you'd fall out of your chair. But the ETH story gets even better ... read on. |
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| Our simple idea around crypto investing is that buying and holding crypto tokens is like investing in the underlying “company.”* Nowhere is this more true than Ethereum, which is the most active project in crypto today. If it were a company, it would have more products, more developers, and (most importantly) more users than any other crypto company. The reason we buy and hold ETH, then, is because it’s like investing in the Ethereum “company.” Despite its growing pains, we think Ethereum fundamentally has a good product that’s well-managed and profitable. But from an investor standpoint, there’s been a huge problem: Ether has historically been minted at a furious pace, thus diluting your investment.
I’ll explain, using fairy tales. |
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| The Magic Pie Imagine you’re walking through the woods, and you run into a magic fairy. You gaze at her in wonder, your eyes transfixed on the floating lights above her. “Would you like a slice of pie?” she asks, her silver wings shimmering. Ordinarily you don’t take pie from strangers, but she is a fairy, and you find yourself enchanted. “What kind of pie?” you ask dreamily. “Magic pie. It’s $389.71 a slice.” “Seems kind of expensive for pie,” you respond. “Also, oddly specific. Maybe you should round it off to $400.” “But it will grow in value,” she responds, a twinkle in her eye. “Maybe.” Then she seems to lose her confidence, gazing sadly at the forest floor. “If the magic works.” “What the heck,” you respond. “Do you take Venmo?” She leads you through the trees to an enormous clearing where you find a golden, fresh-baked pie suspended in a cloud of light. “This is incredible,” you say to yourself. “A capitalist fairy.” “How many slices are you selling?” you ask. “10 slices for sale!” she chimes, waving her wand at the pie, which magically sections into 10 equal pieces. “I’ll take one!” you reply dreamily, giving her your credit card. We’ll skip the part where she has to do an AML/KYC check, asking for two forms of photo ID, neither of which she can identify correctly. You ask yourself whether Magic Pie could possibly be worth all this, but by now, you are definitely high on fairy dust. Let’s skip ahead one year, when your slice of Magic Pie has now increased in value from $389.71 to $2,725.67, according to the fairy exchange Tinkerbase. The magic worked! You return to the forest and bump into the fairy again. “Got any more of that pie?” you ask her. “Sure,” she responds, laughing. Her breath smells like cotton candy and babies. “I’m making more every day.” She leads you back to the clearing, where the pie has now grown in size. It’s now the size of a kiddie pool. “The pie is larger,” you say. “Much larger.” “Of course, silly!” She waves her wand, leaving a rainbow trail. “It’s Magic Pie!” |
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| Inflation is Magic Pie When the fairy sells you a slice of Magic Pie, it’s easy to forget that she has the ability to create more pie at will. Let’s say there are only 10 slices, and you buy one, owning 10% of the pie. When you return, there are 100 slices, leaving you holding only 1% of the pie. |
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| This is the basic principle behind inflation. Everyone in the U.S. is complaining about inflation, but this is simply the result of printing so much money during the pandemic to fund the stimulus checks that we all enjoyed. Magic Pie. Inflation means that every dollar is worth a little less, because there are more dollars. It’s that simple. Remember that inflation affects your crypto wealth, too. When crypto projects are able to mint more tokens at will – like printing money – that is another form of inflation. Minting = printing. I want to shout this from the rooftops: minting new tokens is like printing money. Even if the token price goes up, minting new tokens ultimately devalues your investment (because you own less of the Magic Pie). In the fairy example, the price per slice goes up – which is exactly what happens in the real world, as the price of Ether kept going up despite the continual minting of new ETH. So it’s easy to forget this hidden, insidious inflation. If the price is going up, who cares? Yet we would never tolerate a company that continually issued new shares. If you bought shares of TSLA, then found out that Elon Musk was going to be printing 6 million new shares per year, you’d have a stern word with him at your next dinner party. But this is exactly what happens in crypto. Before the Ethereum upgrade, approximately 6 million new ETH were minted in the year prior: Magic Pie that kept growing, and growing, and growing. That all changed on Aug. 5, 2021. And the good news: since then, the Magic Pie really is shrinking. |
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| The Ethereum Upgrade The EIP-1559 upgrade (we really need to work on sexier product names) made a lot of improvements to Ethereum, most notably making it deflationary. In simple language, the new and improved Ethereum occasionally “burns” ETH (like removing it from circulation), which offsets the minting of new ETH. In other words, your ETH investment is worth more, because the pie is now getting smaller. |
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| Here’s a chart showing the annual U.S. inflation rate over the last four years, versus the ETH inflation rate since the August upgrade. (Lower = better.) If you really understand this chart, you possess an incredibly powerful secret. Irrespective of the price of ETH, the value of ETH is going up, because there’s simply less of it. Why doesn’t everyone bake this kind of tokenomics into their blockchain? Because, like the government, it’s too easy to mint new tokens. Without naming names, I’ll give you an example.
We researched a crypto project that had launched a token during the 2018 ICO heyday. The hype had long since died down, the project was on life support, and a few core team members were trying desperately to prop up the price of the token.
As we reviewed the history of the project, we saw that there were occasional bursts of minting new tokens, with an immediate sell-off. To us, it sure looked like the team was minting new tokens to pay the salary of their staff. If that’s what they were doing, it wasn’t illegal, but it was certainly immoral. By massively inflating the number of tokens, they were devaluing the investment of everyone who had put their hard-earned money into the project—without telling them. Magic Pie. The moral of the story is this: smart crypto investors look at more than price. They also look at value, which can be measured (in part) by inflation. The Mental Model of Supply and Demand Throughout this series, we’ve been talking about the “mental models” needed to become successful investors. One of these ideas is supply and demand. All things being equal, when supply increases, demand decreases, and vice versa. The two have an inverse relationship. |
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| You probably remember in the early days of the pandemic, high-quality masks were in short supply. Demand was through the roof – and so were the prices. (Remember Covid hoarders?) Now that everyone has ramped up their mask-making factories, supply is back up, and prices are reasonable again. This concept applies to crypto assets as well. One of the common beliefs about Bitcoin is that the limited supply (only 21 million will be minted, ever) is what is driving the insane demand. But remember that unlike manufacturing masks, it’s free to create new tokens. It’s literally a few lines of code. So token projects can create 21 million tokens out of thin air tomorrow, and many do. Thus, the smart investor looks at the total supply of tokens, as well as what supply might be manufactured in the future. Can they create new tokens out of thin air anytime they want, like most projects? Or is the supply fixed, like bitcoin? The best-case tokenomics are like what we’re seeing with Ethereum: a wildly profitable project that’s growing like crazy, while at the same time decreasing supply. So far, the new Ethereum really is deflationary. It’s the Magic Pie in reverse. And that, for investors, is even more magical. |
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| Health, wealth, and happiness, John Hargrave Publisher Bitcoin Market Journal |
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For investors, that's a good thing. |
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| Bitcoin Market Journal is a daily newsletter that makes you a better crypto investor. It is created by Evamarie Augustine, Charles Bovaird, Mati Greenspan, John Hargrave, and Steve Walters.
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