Rotate and Consolidate: Crypto Fund Update – Q4 2020

Rotate and Consolidate: Crypto Fund Update – Q4 2020

Q4 2020 was all about rotating and consolidating the portfolio into stronger conviction positions with risk in mind. We took profits where we needed to and rebalanced. We also recently wrote our Q4 update for the Venture Fund, which you can read here.

We are now focused on three main areas:

1) Managing BTC and ETH core long term positions
2) Accumulating 2-3 growth plays
3) Managing upside of remaining crypto positions

We will go through each of these areas for our update.

1) Bitcoin is by far the best risk-adjusted investment across crypto with the most cogent narrative, game theory, and track record. Ethereum has proven its community growth, network effect, and staying power and remains our second core position. We have not only held these core positions for years, we have consistently added to them since the 2018 lows and on various pullbacks over the last 2 years. Our cost basis remains very strong on both and we still see plenty of upside as adoption grows and macro tailwinds increase. These will remain foundational to the fund as long term, generational bets. For ETH, we explored staking a percent of holdings for additional yield via Staked. Given that ETH is still ~40% off its highs, we believe it offers higher upside potential from this point, but will continue playing beta to BTC's broader movements and be dependent on it (other than perhaps during melt-ups or altcoin rallies).

2) As mentioned in last quarter's update, we acquired a few DeFi positions (YFI, NXM) in July. We are still bullish on YFI (with a very healthy cost basis) and we're actively looking for a couple of other DeFi plays. In September, we did offload about 35% of our initial YFI allocation at the $35,000-$40,000 level because of excessive euphoria. That upside was sold into BTC and ETH which at the time, were much lower respectively and ended up being a great rotation that is up an additional 250-300% as of today. It was clear a corrective phase would occur across DeFi at that point, which it did. After things cooled off over a few months, we allocated new capital into YFI in November under $10,000 (likely at a similar time as Polychain), adding to our remaining longer term position.

In mid-October, we also sold 100% of NXM (Nexus Mutual), as we did not see the longer term vision or demand side playing out. We decided to rotate the NXM funds, along with some older small cap positions. Although NXM could still perform well, we feel much better positioned and balanced from a risk perspective.

Lastly, we also began accumulating SushiSwap and BadgerDAO (and staking both) over the last few weeks. These are two more heavily community-first projects with a similar ethos as YFI. We will write more about these in the coming weeks and months but we believe their strong communities, fast accumulation of value, and relatively low valuations in the current market could be solid fundamental additions.

While our early investment in YFI alone enabled tremendous and outsized returns, we continue looking to find alpha and adding to new growth positions into 2021. This is reminiscent of early/mid 2017, where proper concentration could provide extraordinary returns.

3) We had a number of successful token launches this year that we are also excited about, along with a few from last year we are still holding. These make up the rest of our crypto portfolio. SKALE, Filecoin, Ocean, Blockstack, and TrueFi all remain solid positions in the portfolio. Most of these are already trading with substantial liquidity and upside, though some still have vest periods over the next 6-12 months. We will continue monitoring the growth of these assets and share any relevant activity in the next update.

Since our last update, Bitcoin is up ~300%+, Ether is up over 250% and crypto markets have continued to show serious momentum. There has been a stream of positive news for the industry such as companies like MassMutual announcing large Bitcoin positions, Coinbase announcing an IPO, MicroStrategy buying another $650M of Bitcoin for their corporate treasury, and a plethora of asset managers and hedge funds allocating capital into Bitcoin. You can see a full list of positive developments here. We believe this institutional domino effect is still early and Bitcoin could realistically surge well beyond $100,000 this cycle because of the higher institutional demand and increased scarcity post-halving. This is all without mentioning the very clear macro landscape of unprecedented monetary policy and negative yielding debt, which also plays into Bitcoin's narrative as an alternative system to opt into.

Here is a list of predictions for 2021:

1) Cryptocurrency market cap reaches $3T+
2) Many more funds and corporations will announce 9-figure BTC allocations
3) A sovereign nation/wealth fund will announce a Bitcoin purchase
4) DeFi Total Value Locked (TVL) and market cap each surpass $100B+
5) Stablecoin market cap hits $250B+
6) Coinbase IPO hits $150B+ valuation
7) M&A activity/capital for crypto companies hits record highs
8) Bitcoin breaks $100,000, 'sats' denomination becomes more popular
9) Ether breaks $5,000 and "digital oil" narrative heats up to attract institutions
10) Inflation narrative heats up with more global stimulus and money printing
11) Major online retailers begin accepting cryptocurrencies and stablecoins
12) Stablecoins begin to get integrated into payment systems like Visa, Stripe, Shopify, and Bolt
13) New treasury and SEC tasked with heavily regulating cryptocurrencies at the federal level as resources and regulation vastly expanded after likely Blue Congressional sweep
14) Major CBDC programs launched in US and EU alongside Diem (fka. Libra)
15) G7 state attacks via regulation begin and enforcement ramps up into next cycle with a push for stricter FATF-type rules as national standard

While heavy-handed regulation of this industry remains a concern over the next 5 years and beyond, we don't believe major changes will move quickly enough to impede the mighty momentum and energy of the current cycle. We believe we're well positioned to capitalize on the current cycle and in the future, adapt and manage risk as needed. Large legacy institutions like MassMutual acquiring Bitcoin also lend credibility to the asset class. Although this institutional buying puts a massive spotlight on the industry, it creates an environment where lobbying groups and non-profits will have more funding, ammo and better arguments, allies, and data on their side around adoption and institutional merit. Given that crypto is such a democratizing, empowering, and retail-driven industry, it would be a shame if regulators overstepped boundaries on privacy and freedom.

The average user should be empowered, not hindered, and innovation should be prioritized over exaggerated fears of criminal activity within crypto, which have been debunked as no more a threat than existing fraud in fiat currencies, cash, and traditional markets. This doesn't mean no regulation, it means sensible, well thought out, pragmatic legislation that is informative for the end user while allowing the technology to thrive – and not privacy-crushing overreach that disincentivizes ingenuity and entrepreneurship.

Even though it may not happen in the next year or two, it is clear that regulation will increasingly become a risk and central narrative as the G7 begins feeling more threatened by Bitcoin reaching escape velocity and gaining widespread adoption. It seems like it's just a matter of time and we have already seen an inkling of the kinds of possible overreach and setbacks that could emerge from politicians and bureaucrats who simply don't understand this space or technology. If this happens, much of the innovation will continue moving to Asia. We did see some very positive guidance from the OCC recently, where Brian Brooks (head of OCC) has played a key role in architecting guidelines that actually comprehend what this industry is about and the potential it has to improve the current system. This could, however, be the last positive regulatory news we see for a while.

In general, true decentralization will become more important than ever for crypto projects to mitigate regulatory risk and scrutiny. True decentralization in every sense (technology, legal, organization, development) offers a degree of protection due to the unique nature of how global open-source projects operate, develop, and form consensus. Projects and their founders that do not push themselves away from key decision making over time and continue forming around central entities and stakeholders will be at higher risk. We advise and invest in a number of projects that had to get very creative to accomplish a level of sufficient decentralization and although they are not 'out of the woods' yet, it greatly de-risks them moving forward versus others that will appear as low-hanging fruit for regulators seeking wins.

Otherwise, some could choose to go the route of Blockstack (now 'Stacks') and go through the entire regulatory process. They were able to do a regulated offering and transform into an exempt utility token by decentralizing over time, eventually to become tradable in the US in early 2021. We believe Stacks will perform well in 2021, as they are now fully committed to building around the hardened Bitcoin ecosystem while distributing power and governance into smaller subgroups, entities, and open-source communities. While this was an impressive legal feat, it may not be a common path due to lengthy compliance and high cost. It could serve as a regulatory framework down the line if it can be operationalized, better defined, and streamlined to be cheaper and faster – but we won't hold our breath for the regulators.

Given our previous woes with BitLicense, this is a topic we care deeply about. There is really only one shot to get it right. We will be doing another blog post on our thoughts on crypto regulation moving forward and how we see it impacting different areas in the industry and specific teams we work with.

As always, there is never a dull day in this space and we're grateful for all our partners, advisors, and the open-source communities we work with. This industry has come such a long way, it's incredible to reflect on all the progress and adoption over the years. We will continue working hard to fight the good fight and highly recommend donating to CoinCenter and supporting Blockchain Association to get the word out and ensure policymakers are educated on why this technology is important.

With all that said, we believe 2021 will be a marquee year for this fund to bring things to the next level. If you are building a crypto project or business that you think would be relevant for us to take a look at, please feel free to reach out.

Happy New Year!

Art Credit: Stephen Killeen

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