AI-powered
podcast player
Listen to all your favourite podcasts with AI-powered features
The current bubble, encompassing speculative growth names and crypto, is larger than the dot-com bubble. Bubbles can be seen as capacitors for excess liquidity, storing it temporarily until it needs to be drained. The Federal Reserve has been charging the circuit, i.e., economy, with excessive liquidity, causing multiple bubbles to inflate. Crypto, including Bitcoin, falls under the category of assets that cannot be fundamentally valued. The narrative surrounding Bitcoin keeps changing, and there is no consensus on its true value. Valuing crypto based on network effects is problematic, as it lacks a framework to translate network value into investor cash flows.
Crypto valuation, especially for store-of-value assets like Bitcoin, is challenging. There is no fundamental valuation framework for such assets, and different narratives lead to contradicting valuation perspectives. The store of value argument implies a demand for Bitcoin as a hedge against currency debasement, but it lacks a cash flow component. The limited supply of Bitcoin is often used to argue for its price escalation, but this conception has its limitations. If Bitcoin continues to rise, the extreme inelastic supply curve could lead to parabolic price increases. However, a decrease in demand can result in the opposite effect.
The US lifting the export ban on oil allowed for the shale revolution, but several refining constraints still exist. Since the US mainly produces light oil, refineries in Texas require heavy oil imports from the Middle East to mix with the light grades. An export ban would cause oil stockpiles to rise and negatively impact the consumer. Crypto valuation, especially for Bitcoin, lacks a fundamental framework. Attempts to value crypto based on network effects or token economics fall short due to recursion and the absence of a meaningful cash flow mechanism.
The Federal Reserve plays a crucial role in charging the economy with liquidity, leading to multiple liquidity bubbles. The excess liquidity stored in these bubbles needs to be drained due to inflation concerns. However, the withdrawal of liquidity affects all bubbles, including equities, housing, and cryptocurrency. The capacity of these bubbles to absorb liquidity is limited, and the withdrawal may result in lower asset prices. The assumption of a guaranteed Fed put or rescue is subject to change, as the current regime is different from previous periods and calls for a reassessment of market expectations.
The podcast episode discusses the potential negative impact of inelastic supply on Bitcoin's adoption as a global reserve currency. The speaker argues that while an inelastic supply may be bullish for the price of Bitcoin, it could hinder its adoption due to limited monetization and lack of marginal buyers. The argument emphasizes the importance of supply elasticity in fostering adoption, likening it to the US dollar's role as a global reserve currency. The speaker also highlights concerns about changing narratives around Bitcoin to justify higher prices and draws parallels to past investment bubbles.
Microstrategy's approach of borrowing substantial amounts of money to invest in Bitcoin is analyzed. The speaker discusses the implications of this strategy on the company's capital structure and business fundamentals. They highlight the risk of perception-to-reality issues and the potential impact on long-term contracts and business relationships. The speaker also raises concerns about the short put dynamics that arise from this capital structure and the impact of leverage. The podcast episode delves into the potential consequences of financial covenants, bond yields, and the need for Bitcoin prices to remain above certain levels for debt obligations to be met.
Today Jack welcomes Michael Kao, retired hedged manager and private investor, on Forward Guidance for a wide-ranging conversation on liquidity, energy markets, cryptocurrency, and convertible bond arbitrage.
Kao argues that risk assets have benefited from a “liquidity lottery” of quantitative easing and low rates, and that as a result financial markets are in a huge bubble that reminds him of the dotcom bubble of the late 1990s. Kao explains why he is skeptical about the value of digital assets, and he does a deep dive into the capital structure of MicroStrategy ($MSTR). Important disclosure: Kao recently entered a short position in $MSTR.
Kao is a veteran investor with a wealth of expertise in options pricing, commodity trading, convertible bond arbitrage, and global macro. He has over three decades of investing experience at Goldman Sachs, Canyon Capital Advisors, as well as Akanthos Capital Management, his own hedge fund. Nothing in this podcast should be considered as investment advice.
Filmed on June 2, 2022.
--
Follow Michael Kao on Twitter: https://twitter.com/UrbanKaoboy
Follow Jack Farley on Twitter: https://twitter.com/JackFarley96
Follow Blockworks on Twitter https://twitter.com/Blockworks_
Subscribe To The Blockworks Newsletter: https://blockworks.co/newsletter
To get in touch with Jack Farley about sponsoring Forward Guidance, email jack@blockworks.co.
--
(00:00) Introduction
(00:46) Michael Kao's Background
(08:30) The New Dotcom Bubble 2.0
(22:50) The Rho Hedge War Story From 2008
(29:16) Will The Fed Pivot? Can The Fed Pivot?
(34:45) MMT
(42:05) The Energy Crisis
(49:16) The Black Swan For American Oil
(59:09) Speculative Bubbles As Inflation Capacitors
(1:02:12) How Do You Value Crypto?
(1:10:05) Housing Bubble?
(1:11:14) Will QT Steepen The Yield Curve?
(1:14:38) Digital Assets
(1:18:00) How MicroStrategy Funds Its Bitcoin Purchases
(1:28:58) "He's Not In Trouble Right Now"
--
Disclaimer: Nothing discussed on Forward Guidance should be considered as investment advice. Please always do your own research & speak to a financial advisor before thinking about, thinking about putting your money into these crazy markets.
Listen to all your favourite podcasts with AI-powered features
Listen to the best highlights from the podcasts you love and dive into the full episode
Hear something you like? Tap your headphones to save it with AI-generated key takeaways
Send highlights to Twitter, WhatsApp or export them to Notion, Readwise & more
Listen to all your favourite podcasts with AI-powered features
Listen to the best highlights from the podcasts you love and dive into the full episode