It's Not Different This Time

These markets are fractal, the supercycle was a farce.

It's Not Different This Time

When it comes to crypto, we separate ourselves from 'traditional' VCs in most ways. We believe founder archetype is the same whether the startup is crypto or non-crypto. We believe successful startups at scale follow similar principles and laws whether crypto or non-crypto. But when it comes to understanding open-source software, incentives and community, and managing the asset class itself, traditional VCs still don't get the crypto ethos and cyclical adoption curve (or how to manage liquidity).

A combination of venture and active liquid buying is how to succeed in this market. The latter allows you to understand the living, breathing crypto market and why it's unique. It also gives you insights into token economics and which incentives and programs work and don't work. A number of liquid opportunities are just beginning to show an inkling of interest to us. We're not quite there yet, but we have our eyes on a number of crypto assets, including adding to core positions, once they get to a certain point. We'll get to that further down.

In crypto, we look at ourselves more in line with a hedge fund that has a substantial amount of our balance sheet in liquid crypto assets with active rotations and risk management into cash and stablecoins. We often add new or to existing positions in the liquid market after listings occur. While a major part of the fund is taking venture positions (token+equity) and supporting new networks and projects, we also optimize for yield, do early market making, run nodes, and actively stake and participate in those networks to help them grow. We've provided a ton of value to our crypto startups over the years and we believe it's because we have a firm understanding of the unique aspects of crypto markets due to being active participants. The vest periods in "crypto venture" can still be long and we have long time preferences in general, but liquidity and optionality is also important to us.


You can read our last few quarterly updates and see we've been voicing our concerns in an eventual market correction scenario for quite some time. We've been strategic with rotations and selling assets throughout the hype because we told ourselves to do this over and over again. Too many often get caught in euphoria and become entitled and complacent. In Q3 and Q4 2021, we sold a substantial amount of crypto assets to gear up for any downturn. This move was considered contrarian back then. Cash was "trash" because of inflation, along with all the entitlement that comes with easy gains. Maybe true over a longer period (though the Fed will fight that, any many underestimate that), yet here we are with many assets down 50-75% in parallel (even so-called blue chips like Netflix are down over 70%). Cash is always a position that allows one to pull new levers and is extremely important in any business, including investing. Many in crypto in particular miss this. We are undoubtedly long-biased and long-only in our core BTC/ETH positions since 2015/16, but firmly believe in a hybrid approach to capture more value given the cyclical nature of crypto. VCs will never get this side of the space and many get wrecked because of this (we know the horror stories, with many more to come).

In the depths of the 2018-19 bear market, we wrote "Mandelbrot Markets" – a breakdown of the fractal nature of crypto markets and how we put most of our active fund back into Bitcoin around $4,000 and Ethereum around $100 during the deepest despair period (not including our existing long positions from prior). Historical data has eerily shown 80-85% corrections in Bitcoin repeatedly occur after a parabolic, blow-off top. The only difference is this time is that it's occurring in parallel to a broader equities correction for the first time since the asset class' inception. But we still don't believe it'll play out much differently from a % basis. Equities will also find their bottom in parallel, and risk-on will eventually begin to re-enter.


Reflexivity is about to get more violent downwards. Any semblance of net new bad news will cause a potentiated downturn from here. Good news will be deflected as if it never happened. Sentiment has been low for sure, causing some people to push the "Buy" button now and claim the bottom is in. This is still a reasonable buy level if holding quality assets for the long run, but the despair and capitulation just isn't here yet. You can't quite feel it in the air yet (same with equities).

In our opinion, $30,000 BTC breaks this time around. If $30,000 breaks, $20,000 probably breaks too (after bouncing around a bunch). We were never believers in the supercycle. The same people who told you the supercycle was inevitable, were the same ones claiming crypto was 'decoupling' and 'uncorrelating' from equities, which is just not the case. These markets are connected and fractal by nature, and it's not different this time. Even though the China crypto bans of last year created a unique double wave pattern that differed from previous cycles, that was an acute, forced selling outlier scenario that corrected itself. The end result of a parabolic run is more likely to be the same degree of correction percentages. The timing and end result of the cycle are still lining up uncannily similar, the path was just slightly different to get there.

Yes, huge companies like Tesla and Flexport are holding 9 to 10 figures of BTC on their balance sheets now. Yes, MicroStrategy/Saylor and other "new believer" whales are as well. We don't believe these types are likely to sell (though it's possible Tesla would to derisk), but it also doesn't mean price stabilizes around where they bought. Institutions and corporations can also be underwater on investments–they aren't some magical, infallible market forces that create price floors. It's very likely they are prepared to remain underwater during a prolonged economic downturn. Tesla's breakeven is around $32,000 for reference, MicroStrategy's is just below $31,000. If $20,000 range hits, MicroStrategy will just add to their collateral for the Bitcoin they bought on leverage, so its unclear what levels their deepest liquidation risks are at (probably around $5,000).

Everything is still relative. More market participants drove prices higher, but it also means more market participants and liquidity exists to sell and derisk, and cause a relatively similar amount of downward pressure as seen in previous cycles. We saw adoption rise, but a large enough relative percentage of that adoption was cyclical, fleeting, touristy, and built on easy money. Adoption is still greater than it was the prior cycle, which is great and why the bottom is likely to be significantly higher than the last one (as has been the case historically), but it doesn't change the % correction that occurs within a cycle.


One common argument we heard for the last few months was around private markets being so hot, therefore it must mean the supercycle is real and that prices will stabilize soon. We remember hearing similar things in 2018 when "institutions" were getting involved in the space. It must mean prices can't go much lower, right? It was surprising seeing this incorrect framing come from even some of the smarter people in the space (maybe just talking their book?) because it's always been clear that private markets are not a leading indicator. In fact, massive injections into private investment rounds usually marks the end of a cycle. We also saw exchanges like Binance and FTX raise massive rounds recently and in hindsight, this was yet another indicator that an expectation of economic downturn was on the horizon.

As mentioned, in 2018, we saw private market activity skyrocket, even after the crypto top had corrected 40%+. EOS had raised $4B in their rolling ICO, much of which came after the market had corrected. Put simply – once liquidity and risk exits, it often wants to be re-routed through new vehicles, often illiquid venture or private equity. This is why you get a mad rush into 'hot rounds' towards the end of a euphoric period, when everyone is sitting on house money. The velocity of capital formation rises rapidly and then suddenly declines to much lower levels, as we are just beginning to see. We will see a major decline in deal flow quantity over the next 6-18 months. But this is also when quality rises again, which is a wonderful thing (don't worry, not going to make this another cliché VC "bear markets are for builders" post).


A quick word on equities: Macro traders are starting to entertain the idea that Powell and the Fed will now reverse course on raising rates too fast and too high because of the market correction. Also, that inflation has likely peaked (even though it will probably remain around 7%+ and sideways for a while). Therefore, the bottom might be arriving very soon. Sure, that could happen. Sure, that could cause some relief bounces on renewed hope for a "softish" landing, as they put it. But slowed growth and recession are the elephant in the room. In our last quarterly update, we predicted the "R" word (recession) would start to be widely used, and we're almost there. It's begrudgingly being mentioned on CNBC now and by pundits, and soon will be floating around in daily speak. Also, the Fed saying recession is not a concern is the new "inflation is transitory". When growth slows like this, all valuations have to completely reconfigure and the market needs to come up with new "fair value" multiples. And we are in the middle of that reconfiguration – there is no way that is a quick process.

At the same time, we are also not predicting some perfect recreation of the 2000 dot-com bubble or the 2008 financial crisis. It will perhaps be a mix of both and other recession periods, but have its own unique characteristics. There are certainly economic metrics that are stronger than they were back then, and it's a fundamentally different economy in many ways. It doesn't have to play out in a crisis way. Instead, it's more likely the slow burn of stagflation, shortages, supply chain and energy issues, and not necessarily based on any financial sector crises. It may feel different in that sense, but likely lead to similar % downturns as the psychology unwinds. How long this takes is the harder question. Some stocks are starting to look very attractive at these levels, but that is also all relative from our very manufactured expectations of what "fair value" even means during a decade of easy money (and especially the last few years). All of these models have to reset. For now, we just don't see where that risk-on demand comes from in size. It will still mostly be fleeting, insecure buyers and traders at these levels. The ultra-high conviction trove of diamond-hand dry powder isn't ready to deploy just yet. Only at max pain.


If Bitcoin is to correct in its normal fractal percentage, we would see prices go down to around $12,000 and bottom out. ~$20,000 levels would become the new ~$6,000 of 2018, where things would go sideways for quite some time, leaving the market dull and disinterested. This disinterest would culminate in a final 40-50% capitulation towards ~$12,000 range. There would still be peaks and troughs and bouts of hope between all these moves (and trading opportunities), but this is a scenario we are fully prepared for. It's also easy to say you'll be a buyer of that market scenario now – we have to keep repeating the fact that we'll buy those levels if we get there, because the risk vs upside should be too great to ignore. For reference, if compared to last cycle, Ethereum would bottom out around $240 (which we could see potentially being less drastic this time). It's also important to note that the strategy isn't simply setting limit orders at these levels and pretending we will time the bottom perfectly. Buying along the way down still makes sense for 99% of market participants, including us. If $30,000 levels are confidently breached, we start to become buyers at that point.

People also forget how long market unwinds take. Liquidity and psychology unwinds in its entirety in a slow fashion, as traders trade the ups and downs of the wind-down, and those with low cost-basis or max despair capitulate. Just remember, everything in markets is relative. Name-dropping certain new market participants or big rounds or celebs or institutions "getting involved" is meaningless at this stage. It bodes well for longer term adoption but in the interim, everyone begins to fight for themselves and enter survival mode, which we are approaching. The kumbaya phase always comes to an end.

The supercycle was a farce. But life-changing buying opportunities are coming. See you at the bottom :)


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