WBD031 Audio Transcription

Ari Paul on the Fat Protocol Thesis and Product/Market Fit in Crypto

Interview date: Friday 24th August

Note: the following is a transcription of my interview with Ari Paul. I have reviewed the transcription but if you find any mistakes, please feel free to email me. You can listen to the original recording here.

In this episode, I talk with Ari Paul, CIO of BlockTower Capital. With the lens firmly on Crypto projects, We talk about Joel Monegro's Fat Protocol Thesis; product/market fit within token projects and Crypto marketing.

“I really value experimentation, we are so nascent in this industry, there are so many unknowns that I think bad experiments are valuable. So, EOS is a radical experiment in governance, if it fails due to poor engineering, we won’t learn anything but if it fails for governance reasons we’re going to learn a lot from it.”

— Ari Paul

Interview Transcription

Peter McCormack: Good morning, Ari.  How are you?

Ari Paul: Good morning.  I'm doing well, how are you?

Peter McCormack: I'm pretty good, thanks.  Thank you for agreeing to do this.  I've been keen to interview you for a while.  I'm not going into your origin story, you've done enough previous podcasts, but it would be really good if you could just, for my audience, let them know who you are, who you work for and what you do.

Ari Paul: Sure.  I'm a founder and CIO of BlockTower Capital and we're crypto investors. 

Peter McCormack: In preparing for the interview, I went through a bunch of your previous tweets and content.  One of the most interesting things I found was a quote from you, where you said, "We should change our minds very quickly when appropriate".  I felt that was a very appropriate tweet right now for the crypto space because a number of the theories which people had a hypothesis on during 2017 have now been debunked or we're having to reconsider with this bear market.  So, can you tell me where that came from for you?

Ari Paul: Sure.  Let's see: that tweet, I don't remember if it was a response to anything in particular.  It probably was; I think I had a conversation with another fund manager who had just changed their mind very sharply and I think I was maybe impressed by it.  I claim to be basically not good at anything, but there's a Socratic humble brag here, which is I know it.  The thing I brag about, which is a humble brag, is I think I'm pretty good at knowing what I don't know and adapting to new information.  That's an amazingly valuable skill that makes up for me being pretty bad at most other things. 

It's so important in cryptocurrency, because there's so many unknowns, there's just so many things that -- to me at least; there's people who think they know the answer.  Right now, in 2017, we had the whole ERC-20 phenomenon which stemmed partly from the fat protocol thesis.  We're probably jumping into the meat of it, so I'll dive into my view on that, if you don't mind.

So, Joel Monegro of USV wrote this incredibly short, concise, articulate issue on the fat protocol thesis, saying that basically value would flow down the stack to the protocol layer.  Unlike the internet, where the applications made the money, Facebook, Twitter, the protocols didn't because they were open source, SMTP, FDP.  Tim Berners-Lee, who created the World Wide Web, didn't get rich.  The idea was that maybe in cryptocurrency it'll be the opposite, maybe the application layer will provide value to the space layer.

That led to Ethereum becoming worth tens of billions of dollars, it led to all of these protocols that might be a new Ethereum, whether it is EOS or Zilliqa or Ontology, being worth $500 million, $1 billion; these are large dollar amounts, right, this is extraordinary.  A lot of that was based on I think this fat protocol thesis, this idea that value would flow down the stack, facilitated by Ethereum making it very easy to crowd-fund and launch new projects. 

Now that is being questioned, so a lot of the thought leaders in the space are saying -- and including by Joel Monegro by the way; Joel, who wrote the Fat Protocol Thesis, which was an extremely simple essay and Joel has since clarified and said, "I didn't mean it quite the way people are interpreting it.  It was a very simple model, I didn't mean it as simple as it seems, that the fat protocol isn't necessarily Ethereum or Bitcoin, it isn't necessarily the base layer".  Even so, Joel's views have evolved, as have the markets'.  So, yeah, right now the whole market is questioning, "Do we really believe in this thesis?  Will Ethereum necessarily benefit if you have these killer application layers on top?" 

Now, it's gone from big philosophy to actually some maths.  For example, a friend of mine is Kyle Samani, Multicoin, who wrote an essay looking at Augur and Ethereum and how value might work there.  Also, if you've an application above Augur, that is a centralised repository, how might the economics be split.  Similar to the fat protocol thesis, this is very early-stage work; Kyle didn't give us answers, he gave us questions or he gave us a thing to talk about. 

To me, a lot of these are still fundamentally unknown.  The reason they're unknown is because they involve an intersection of human behaviour, formal game theory and then some fundamental engineering questions; so, what will interoperability facilitate and with how much friction?  One thesis is realistically, is an average person in 10 or 20 or 30 years going to own 3,000 tokens?  Is it realistic to expect that if you want to ride Uber, you're going to have UberCoin? 

Today, the answer's certainly no; that's high friction.  An average person is not going to have all these different currencies, but maybe the technology will support instant transfer between currencies in a decentralised way built into the software.  So, maybe I won't ever know that I own UberCoin, maybe I'll have an app on my phone that instantly converts my Bitcoin into UberCoin, pays a driver, instantly converts it back and maybe that'll happen with such low friction that it is possible, that maybe we will be using 3,000 currencies without even really knowing it.

These are all really complicated nuanced questions that are going to have a huge impact on what crypto looks like in ten years.

Peter McCormack: Yeah, that's very interesting.  I was with Jamie Burke last week from Outlier, who I know you know because you might be on a panel with him at South by Southwest, and what he said to me is that, "These decentralised applications will probably be more successful once they're invisible to users".  So, I think what you're saying there with regards to token interoperability is probably correct.  Also, referencing Kyle's article, and actually I read that too, the most interesting thing I found in that article is where he discussed the possibility of these projects considering recentralisation.  I don't know if you saw that.

Ari Paul: Yes.  It's very interesting to think about, and we have zero data points.  Something that's worth noting is there's not a single utility token that is successful as a utility token, there's not one.  There's not one that's being used at any meaningful scale, including Ethereum.  Ethereum is very successful as a crowdfunding tool and its value currently comes from it being used as a store of value by projects and by speculators who are betting it will become a store of value for your money. 

Augur had a great launch; it was four years in the making, it's a real-use case.  On some days, they've less than 100 users, and the valuation of Augur requires there to be tens of thousands, if not millions, of users the way it's currently valued.  So, the idea of recentralisation, what Kyle's exploring, to me we don't know.  So, I love thinking about it and talking about it and it gets increasingly complex.  Right now, our mental model's really simple: decentralised network or for-profit company.  There's a lot of hybrids in between that are being explored that have never existed in human history. 

So, DAOs I think will be a big thing eventually.  We were all scarred by the DAO fiasco with Ethereum, but there's going to be tremendous innovation with all sorts of different semi-centralised models that are currently just ideas in people's heads.  The different governance models of EOS versus Tezos versus Cosmos, Ethereum is even somewhere in there, where you have an Ethereum Foundation and while they don't directly control the network, there is certainly a key role played Vitalik and Vlad.  It's very different than the role Bitcoin Core plays in Bitcoin.  There are all open experiments and there's a lot of models that no one has thought of yet. 

So, when we think about recentralising Augur, it's very hard to conceptualise because we don't know what that recentralisation might look like, because they're not necessarily going to draw on any model that has ever existed.

Peter McCormack: Yeah.  I find it interesting you said the successful launch of Augur and I've followed some of your tweets, in that it was obviously some of the most complex smart contracts that existed.  I myself question whether it was a successful launch.  Coming from a background working in tech development and product market fit, I found it quite unusual that it took three years to have something out there to test and found the user experience actually very difficult.  That's one of the big problems I felt for their rollout. 

Then I felt maybe the community defended them quite a bit, because it's great there's a product out there and there was a lot of patting on the back.  But really, I didn't think it was a successful launch because it was so difficult to set up and use.  Do you find any of those criticisms fair?

Ari Paul: Totally, totally.  They're accurate, certainly they're accurate criticisms.  If it had a user interface that was as easy to use as a typical sports betting website, you would probably have tens and thousands of users right now.  It's extremely difficult to use, there's a lot of blockchain engineers who just gave up especially on the very first release; they then made some patches to the front end.  They're very valid criticisms. 

On the tech side, I'm not an engineer, I don't pretend to be, but talking to engineers, there's a misconception by most people in the industry about just how hard it is to get a smart contract right.  I mean Parity, the co-founder of Ethereum, Gavin Wood, with his own money lost tens of millions of dollars on the simplest smart contract you can do, which is a multisig way of storing Ethereum.  That's about as simple as you can get with a smart contract and twice he lost tens of millions of dollars of his own money.  He was incentivised to get it right and that's one really simply contract.  Augur is I think something like 105 smart contracts that form its backbone, and you have this incredibly complex game theory and it's a massive honeypot for attackers. 

So, it's an immense technological challenge that a lot of -- talking to the team, no one was sure if the launch would just go at all.  I would say there's a very meaningful chance the entire network breaks at some point in the next year.  The team acknowledges that; it's so complicated the odds of there not being any fundamental bug that destroys the network is frankly probably low.  The plan is they'll just relaunch the network.  So, the entire network will break, they'll fix the bug and then it's open source; they'll release the open source and someone will relaunch it.  I'm not saying that'll happen, I don't know, but it would be naïve to not think that's likely, or at least somewhat likely.  So, I think it was a great technological achievement.

In terms of the user interface, you're totally right; they just weren't that focused on it.  In crypto in general, until maybe six months ago, engineers generally didn't care about the user experience.  There was almost a snobbery about it.  It was, "Oh, you don't want to use a command line interface, you don't want to run your own node, you don't want to own your private keys.  Well, we don't want you; you've no business being in this community".

Now what's happened is because the industry's gone big enough, you're getting the world's best product managers, UI people, marketers getting in the game.  So now, you have people like Jack Dorsey of Square not only working on Bitcoin, but on Lightning Network which is pretty extraordinary.  Lightning Network is incredibly dense engineering; there aren't that many people in the world who can contribute to Lightning Network and you now have one of the world's best product people, consumer-focused people, working on that with the Lightning teams to produce an actual user experience that people can use. 

So, I agree with the criticism Augur is probably under-focused on the UI side of things.  The UI side of things is everything as we look at it.  My view on the crypto world is two years ago, it didn't really make sense to talk about broad usage because we weren't there yet, we weren't ready.  So, we didn't have some of the basic -- it didn't make sense to focus on getting Bitcoin broader usage when Bitcoin was near its capacity, same with Ethereum.  What's the point of bringing ten million people onto Ethereum when Ethereum can't handle that?

Now we have Ethereum sidechains like Loom Network.  Lightning Network isn't quite there yet but it's getting there, and there's other potential technological solutions that are pretty close, things like atomic swaps.  So, we're now heading into a world where we can handle more users at a technological level; we might not quite be there yet, but I think within a year, you're going to have some really solid Layer 2 solutions, sidechain-type solutions.  Now it makes sense to really focus on UI, which is everything; small differences in friction. 

Here's a really simple example: I transfer cryptocurrency a lot.  I'm copying and pasting a private key or public key or public address, it's terrifying; the idea of transferring large amounts of money and copying this arcane string of characters and numbers.  I joke that the day I'm not scared doing that is the day I'm out, period; that's the day I'm going to mess up.  Fortunately, I've never yet had an error with many thousands of transfers, but the minute I'm not scared is probably the day I lose a lot of money.

In five years, no one is going to be pasting public keys.  It's going to be in some way abstracted.  It's the same with -- I talked to some engineers who were some of the very first email users in the 1970s, and they had to compile their own code; it was a command line interface to send an email.  We're at that stage still in crypto.  Copying and pasting a public key is a little bit like a command line interface in my mind and eventually, we will abstract beyond that.  There's a lot of work on that; that's not a tech problem.  That's really just people prioritising, creating an abstraction layer and there's a lot of people doing that now, because now there's the user demand.

Peter McCormack: I can totally empathise.  I bought 110 DragonMints earlier this year.  I can't remember, but say it was $250,000 a single transfer.  Like you, I've never had a single one fail, but about nine or ten minutes after I sent the money, just waiting for the email confirmation, I was just sat there sweating.  Yeah, I'm with you on that. 

Just a little bit more on that product market fit thing, obviously you're probably aware of the work by Eric Ries, "The Lean Startup".  Are you aware of the work by Ash Maurya, a similar --

Ari Paul: No.

Peter McCormack: He has a concept around something called the Customer Factory.  What I found with crypto is that the engineering is there, but there are other aspects of the product market fit that aren't.  So, we have the interface, which you've discussed, but we have the user acquisition and retention which also, in the crypto world, is even more difficult because often the users are anonymised; and then we also have the economics.  So, the product market fit tends to be those four spokes and it feels like we're only focusing on engineering now, and the other three are missing.  I feel like, until there is some recognition of this customer factor within crypto, we're going to have these screenshots continually showing low user numbers outside of exchanges.  Do you have any view on that?

Ari Paul: Yeah, totally agree.  A big thesis of mine, as both an investor gauging investment and also trying to be value-add to projects, is marketing is heavily undervalued.  Marketing is almost a dirty word, so I'm not a marketer, I'm not an advertiser, I don't really have that skillset; but I recognise the value and appreciate it and recognise there's a perverse element in the crypto world, which is we fetishise the fact that Bitcoin basically never marketed, you never really had someone behind it, you never really had many incentives.  There were a couple of exceptions; people like Roger Ver actually bought advertisements for Bitcoin five years ago, because he owned so much, he had an incentive to do so and believed in it.  But for the most part, you haven't had much marketing for Bitcoin. 

Where do you get the most marketing?  Generally the scammiest projects.  There's an inverse relationship; generally the highest-quality projects that are the most decentralised, the most focused on engineering tend to have the least marketing.  So, we have in our minds associated -- if I'm on Twitter and I see banner ads for an ICO, it's a good indication I shouldn't invest in it, because the highest-quality ICOs generally shy away from that, they don't need it.  Word of mouth gets around or reputation and they're just not how they think.  That's a true heuristic right now, but it's led to the problem that good projects are very reluctant to market.

I won't name names, but I've sat down with a few really brilliant engineers who are leading early-stage projects.  I have said, "I know a lot of the world's best growth hackers and marketers.  I think you have a great, great project here but this is path-dependent; the world is not going to beat a path to your doorstep.  And you're working on open source code so there's a concern that you're going to toil away in obscurity and you've got a three-person team.  If you did a little marketing and marketing at its best just means communicating the value proposition of your product --"  I think in crypto people are, "Oh, marketing means tricking people, or it means selling them something they don't want or lying to them". 

Marketing at its best is just communicating the value proposition of what you're building.  So, we want the best projects to raise more money to hire more engineers to find their users, to find users who are attracted.  Also, of course, there's the reciprocal: a lot of the engineers in this space don't care, they don't care about product market fit, they don't care what users want.  They're like, "I know what I want to build, I'm going to build it".  So I totally agree, it's underserved, which is weird. 

There's been a tonne of aggressive marketing in the space, probably too much, too much PR, too much marketing, but it's been for bad projects generally.  I'm trying to think.  You have projects like Tron that start off plagiarising someone else's white paper, and just spent tonnes of money marketing and build this massive market cap, and then started buying companies.  Tron's probably spent more money marketing than ten much better projects combined.  Yeah, lots of room for improvement.

Something I try to actively do is, I've been becoming friends with more people who are growth hackers, marketers and I'm trying to connect them to quality projects, and so you guys can help each other.  The marketers get it, and the people I'm talking to are people who are genuine believers in the crypto value proposition; they're not just in it for the money.  They really want to contribute and help the vision of decentralised, trustless, censorship-, judgment-resistant money; they believe in it.  Or for more specific applications, I'll give you an example.  

One project -- I'm not trying to shill something, I'm using this as an example.  So disclosure, we've invested what I call good money.  Good money, I think of it really as a go to market play; it's a fantastic team of serial entrepreneurs who really know what they're doing in terms of scaling an engineering team, scaling a company, product market fit, consumer acquisition and building something that consumers actually want.  The engineering, they are innovating engineering at the margin but it's not really an engineering project.  So, they're going to end up having 50 engineers probably, but this is a team that really knows how to find product market fit and advertise and market and create a user base. 

A lot of those projects are what I'm most excited about and I actually think are the most valuable to the crypto world.  At this point, we're ahead in engineering than where we are in users.  It's finally time to try to get the users.

Peter McCormack: You mentioned governance models and you're quite interested in those and you see the opportunity.  Interestingly, preparing for an interview I did yesterday, I'd seen a quote by Nick Szabo where he said, "Charlatans focus on governance innovations.  Valuable players focus on minimising governance".  There is certainly a group of people who consider governance innovations of just repeating the history of stupid humans and that most of these technologies won't be used that much.  What are your thoughts there?

Ari Paul: First, I fanboy hard over Nick Szabo; he's been an idol of mine.  He's ten times smarter than me, knows more about every aspect of crypto than I do.  I hugely recommend that everyone read his unenumerated.blogspot.com, it's brilliant.  There isn't that much content there but what's there is so gold, it's reshaped the way I think about crypto; I think the way a lot of people do.  His essay on social scalability, the way he's framed the history of money and how Bitcoin fits in is brilliant. 

With all of that said, I lean towards his governance minimisation hypothesis; it's very reasonable to me, but I'm not sure.  I really value experimentation.  We're so nascent in this industry, there's so many unknowns that I think even bad experiments are valuable.  EOS is a radical experiment in governance.  If it fails due to poor engineering, we won't really learn much.  I really, really hope that -- I don't care if it succeeds or fails, but if it fails for governance reasons we'll learn a lot from that, and that's really, really valuable.

So, I don't know if Nick's right.  I think for the crypto community to take a hard-line stance that Nick is right and we should shun anything else is a horrible mentality to take.  We should be embracing experimentation.  Three's only a handful of real avenues of experimentation.  There's experimentation on consensus mechanism, which is great.  Is something other than proof of work viable?  I have no idea.  Maybe.  It would almost surprise me if the first ever consensus mechanism for cryptocurrency was the optimal one.  That would be a first time in human history, that the first technological attempt at something was the best. 

So, the odds that proof of work is the best in current form, and of course proof of work can be implemented in different ways, it just seems improbable to me.  But I have no idea if proof of stake works, or DPOS or proof of capacity.  I am sure there's a lot of consensus mechanisms that may be viable that no one's ever thought of yet, we're so early; so, experimentation on consensus mechanisms, experimentation on governance, experimentation on ledger architecture.  So, maybe blockchain's not where it's at, maybe we want cryptocurrencies based on something that's a little bit different than a blockchain.  Maybe there are other types of distributed ledgers, some of which have probably not been thought up yet, that happen to share many of the similarities of a blockchain but might just be better.

Okay, so we have consensus, governance, architecture.  There's really only one other prime category which is monetary schedule.  Bitcoin maximalists will say, "If Bitcoin can do it, why should anything else exist?"  Interoperability means maybe you can get any feature on any blockchain on Bitcoin.  The same statement's true for Ethereum, of course.  If Ethereum gains massive user effects and all that, anything you can do on EOS or Filecoin or Zcash, you'll be able to do on Ethereum because of interoperability.  I'm oversimplifying a little bit, but that's probably generally true technologically. 

The only other thing that can't converge, the only other feature that you can't just borrow from another chain, is the monetary system.  Bitcoin is deflationary over time; Ethereum is currently a question mark.  Let's say we want money to have 10% annual inflation; that would have to be a separate system, it would have to be a separate cryptocurrency.  You couldn't have Bitcoin both be deflationary and inflationary as one coin.  Those are the four elements where you can have true differentiation. 

My guess is you're not going to have leading large protocols that are not differentiated along at least one of those axes.  For example, Bitcoin and Bitcoin Cash are very unlikely to co-exist indefinitely.  They might co-exist for five years, but they're not differentiated enough along those angles.  Similarly, you're just not going to have 30 giant blockchains, you're going to need differentiation along those angles.  At this early stage, I think we should be experimenting along all four of those axes.

Peter McCormack: Right, okay.  It's quite interesting you talk there about Bitcoin and Bitcoin Cash because I'm halfway through Saifedean Ammous's The Bitcoin Standard.  I assume you've had a look; I assume you've read?

Ari Paul: I'm familiar with Saifedean's articles and thoughts; I haven't read the book.

Peter McCormack: I'm from an advertising background, I don't have an economics background.  But it was very interesting to read the comparisons between gold and silver and the sound money thesis; that in the end one will win.  It feels like Bitcoin should win.  It was also then interesting to read where you, following up the fat protocol thesis, talked around the -- no, remind me what you said.  It was the secure -- I've got it here.

Ari Paul: I wasn't trying to coin a term.  I think I called it the secure protocol thesis, but I wasn't trying to invent a term or anything.  I was really more tweaking the fat protocol thesis; I wasn't adding anything that new.  The main idea was just the key feature that I think will determine the winner of global store of value, which I think will be the most valuable use case, I think comes down to security because security is almost the only thing that you can't add on, borrow.  Ethereum can add IPFS or something like it; they can add Swarm.  Zk-SNARKs, which are Zcash's claim to fame currently, Ethereum is adding it.  So, these are all features that can simply be integrated. 

A lot of those same things will be able to be integrated into Bitcoin as a Layer 2 or as a sidechain.  So, you'll be able to get, I think, any feature you want in any chain.  Features will not be differentiating.  What will determine the winner?  Well, you can't leapfrog security.  If Bitcoin requires $30 billion to attack due to hash power, if I create a new chain that's incrementally better than Bitcoin or there's a feature Bitcoin doesn't have, it's still very hard for me to get past that moat.

Peter McCormack: That's very interesting, because when you mentioned previously about proof of work being the first technology in the history to have worked first time, maybe it's not just because of the technology itself.  Maybe if it had started out as proof of stake, it still would have worked because of the fact of the security element and the fact that it's so hard to hack now.  They were the two comparisons I found interesting.

I'm also conscious of the time and there's a few things I want to get through with you.  I want to talk about your predictions, because your 2018 predictions were very interesting.  Rather than go through them all, are there any specific ones that stood out to you?  You did a recent review where you reviewed them.  For example, your prediction of, "We will see $6,000 and $60,000".

Ari Paul: Great traders are right 55% to 60% of the time.  Anyone who tells you that they know the future is just lying or stupid.  So, I admit my mistakes, I'm wrong pretty frequently.  I'll explain why I was wrong or what -- so, someone responded to a comment of mine saying, "Ari, a year ago you told us institutional money would be in by now".  I said, "You're right, I was wrong.  I thought it would be in faster.  Here are the remaining obstacles.  I thought custody would be solved a little bit faster than it was.  I thought we'd have better trading infrastructure.  I thought --" yeah, I was wrong.  What I thought would happen in 12 months is probably more like 24. 

Here's why I was wrong, and I'm very ready to admit when I'm wrong.  I assume some of these are just my mistakes or my ignorance, some of them are genuine unknowns where we're taking educated guesses and there's no way to be consistently right.  For example, if someone tells me that they can tell me today what consensus mechanism will be viewed as best in 20 years, I would argue it's impossible because there are going to be new things invented.  There's no way you can foresee; there are unknown unknowns.  It doesn't mean we shouldn't guess though.  As investors, we have to take a guess, so I don't beat myself up for being wrong.  You need an opinion on some things. 

The "$6,000 and $60,000" was funny, because almost immediately after I wrote that, it plummeted from $17,000 to $6,000, which I certainly considered but I didn't predict.  When I said "$6,000 and $60,000" what I meant to indicate was, I expect Bitcoin to be very volatile in both directions and the extremes that it can reach, basically open your mind and recognise that we could have really extreme moves.  So, people tend to anchor. 

Bitcoin in 2017 went from around $1,000 to $19,000.  If you told most people when it was at $19,000 that Bitcoin could fall to $3,000, giving back a year of gains, that's where it was only in September.  In mid-September, Bitcoin was at $3,000 and yet it seemed impossible.  Part of the point of that tweet was just nothing's impossible, this is hyper-volatile, you should expect extreme moves in both directions.  I did genuinely think at that time that we would see both substantially below and substantially above.  But those specific numbers were random; I wasn't anchoring.  So, we got to $6,000 and then people said, "This means you're probably going to be right about the next call" and I said, "No, the opposite".  When you get new information, you adjust.  So okay, we hit $6,000; $60,000 is now much less likely.

Peter McCormack: Yeah.

Ari Paul: I guess I pat myself on the back for appreciating the obvious, which is Bitcoin is extremely volatile; that's it.  The other predictions: so, one thing I said was that working oracles would be a huge theme for 2018.  I think I was wrong.  When I tweeted that, it's funny I tweeted that and then a couple of people pinged me about what oracles are my favourite and I realised, "Wow, I don't know anyway near as much about oracles as I should". 

So, immediately after that tweet, I spent six weeks doing a fairly deep dive into oracles and realised this is really hard technology, it's really hard game theory, it's going to take time for user acquisition and trust, and I think it's more like a 2019 thing or maybe even later.  I realised this is the state that things are.  You have something like Chainlink which is a great project, great team; they don't have a clear -- it's a little bit of a solution in search of a problem. 

Let me rephrase it a little differently.  There's two basic oracle models: one is the Augur model, which is one-off discretionary bets; the other is systematic where you have -- you don't have game theory protecting an individual outcome, you have game theory protecting a data feed.  So, the idea of Chainlink and oracles that are based on data feed is, we're going to connect to a data source that might be sending us thousands of data points a minute.  So, we'll connect, for example, to the NYSE Stock Exchange and we'll get every stock price every minute or every second.   We're not trying to gauge whether every individual price is accurate, which is what Augur is doing.  Augur is creating a market around every individual data point.  With Chainlink, we want to judge, is this data source viable?   We want a game theory system around that.

The problem right now is implementing Chainlink at scale requires this whole infrastructure of validators and it requires demand, people who actually want NYSE data but don't trust the NYSE, which is a pretty small sliver of people right now; it requires onboarding those data providers; it requires trading this infrastructure to support the game theory.  It's a lot and bootstrapping that is very tough because until there's demand, there's no supply; until there's supply, there's no demand; until both of those exist, no one wants to serve as a validator because why would you, there's no money in it.  So, bootstrapping that takes a lot of time. 

So, Chainlink, that kind of use case, I realise is probably not meaningful in 2018, maybe not even in 2019, and that's not a comment on the project or valuation or anything; that's just are there going to be major users, are there going to be tens of thousands of users of Chainlink in the next six months?  I don't think so.  Augur, I just realised, "Wow, this is so hard to implement correctly from a tech perspective".  One of the reasons I think they weren't more focused on the UI was it took them four years to have a little bit of confidence in the smart contracts and the game theory.  They're a team of 30 people working hard, they're smart people, they're passionate people.  It's not like they were sitting on their butts.

Peter McCormack: No, of course.

Ari Paul: It was four years; they think they may have gotten something that won't collapse on day one.  I think they weren't more focused on UI because we're not even there yet.

Peter McCormack: That’s fair enough.  It sounds like most of the things that people were expecting, the things holding back is just infrastructure.  The infrastructure on every level, whether it's institutional money or custody or oracles; it's the infrastructure that's just taken a lot longer than people expect.  The institutional side of things is really interesting. 

I watched your interview with Luke Martin.  He was actually my first ever guest, I don't know if you know that, great guy. You talked about institutional investment.  One of the sad things about crypto is most people behind this great technology just want everything to go up and make money, so they're pegging themselves with this hope of institutional money.  What are the myths around institutional money that you can clear up for people?

Ari Paul: That's an interesting phrasing, "The myths". 

Peter McCormack: Okay, from my perspective, I don't see there is a day one where suddenly institutional money comes in.  I expect it's just a scale and over time there's high-risk institutional money and low-risk institutional money and there's just going to be different trigger points for different people.

Ari Paul: I agree with that.  People almost always tend to think of things in false binaries, we tend to think of things as, "Is institutional money coming in; yes or no?" things are almost always a spectrum.  With that said, there is this FOMO element that applies even to institutions and smart money.  The market, meaning traders and retail, everyone, tries to front run what they think is going to happen.  So, there is an element that we don't need all institutional money to be in. 

For example, if an ETF was approved, but it wouldn't launch for six months, the market would immediately try to price that in.  Bitcoin would rally on the announcement intelligently because they'd say, "Okay, well it might take six months for this to have any impact on institutional flows but we want to position ahead of that and we want to position and be ahead.  We're not going to buy one day before the ETF launches, because other traders will beat us to the punch".  So, the market starts pricing stuff in. 

One of the reasons we have the bear market we have now is people got really bullish saying the CME and CBOE futures would help usher in major inflows.  I was guilty of that too; I actually thought the futures would produce meaningful net inflows.  It has at the margin but much, much less than a lot of people thought, myself included.  A lot of traders bought Bitcoin into that and then were disappointed.  So, the futures launch was almost the high in Bitcoin.  It was off by ten days.  That was because traders tried to front run that institutional money and then, "Wow, okay, we bought billions of dollars ahead of this and there's only 100 million in inflows" so the traders then have to sell out because they were wrong.

So, I don't know if it's misconceptions.  It's more people just don't know who the players are.  To really quickly lay it out, I'm most familiar with the US aspect, but somewhat familiar with the world.  So, the way I think of the whole timeline of crypto money was first you had the anarchists, the libertarians, the cypherpunks, the engineers who were the crowd supporting Bitcoin in the first few years.  Then you had a little bit more mainstream engineers and cryptographers and libertarians who were excited about it.  Then you had the techno-utopians who got excited about Ethereum; very, very different type of person, very different mentality. 

So, Bitcoin was going to undermine central banks and maybe take down governments.  Ethereum was going to be the next internet or Facebook 3.0; it was very different.  The people investing in Ethereum were people who liked the idea of a Zuckerberg or a Peter Thiel at the head of a company.  They liked the idea of a benevolent dictator who can innovate quickly and lead and add features.  Now, I think we're in what I call the Wall Street phase, which is not a great term but we are seeing massive interest and infrastructure building by Wall Street. 

So, the money isn't moving but the people are.  Whether it's Goldman Sachs trading desk or the recent backed announcement of Northern Trust and a bunch of other Wall Street institutions that are building infrastructure, I was on a crypto panel a couple of weeks ago with a representative from State Street.  State Street was very honest saying, "We're not going to custody this for probably three years".  But the fact that State Street would have a representative on a crypto panel just shows State Street is actively analysing and thinking about it. 

In that same panel, it was a crowd of only financial professionals.  The moderator first said, "How many people in the room do your institutions do anything with crypto beyond evaluating it?"  It was no one.  It was, "How many of you own cryptocurrency?" and it was 90% of hands went up.  One year ago it would have been 10% of hands that went up.  So, a lot of these individuals at Fidelity and State Street and Goldman and Barclays, a lot of the individuals are involved.  The organisations are building infrastructure, they're looking at it.  Every Wall Street bank nailed the sell side research on crypto.  So, Wall Street is in the game; they're building the infrastructure that will facilitate the money flows which are just taking a little bit longer than everyone wanted. 

The major obstacles right now, I'll be really quick on this because I harp on this all the time, so custody, the fact that at the moment there is no good third-party custody solution.  I think that'll be solved by year end, so you have a lot of people like Coinbase and DACC and Anchor and Kingdom Trust and a lot of players, I don't know who's going to end up being the best and the lead, I'm not recommending anyone, but I think someone will probably solve it by year end in a reasonably credible way.  Fidelity is talking about doing Bitcoin custody by year end. 

Trading infrastructure, right now liquidity is fragmented across 50 exchanges globally.  Connecting to those exchanges is really tough; they each have their own weird API connection.  Onboarding to those exchanges is tough; it's scary being on them.  They're all fly by -- not all, many of them -- the CEO of one of the biggest exchanges in the world recently joked that someone threatened to sue him because they said, "You stole my money".  He said, "Go ahead, sue me in the Seychelles" which is where, I guess, they're legally incorporated.

Peter McCormack: Jurisdiction.

Ari Paul: His point was, "You can't sue us".

Peter McCormack: Yes.

Ari Paul: So, "I can screw you and you've no recourse".  That's terrifying if you're a hedge fund or a pension or an endowment or family office.  The idea that you can put your money on exchange, the exchange operator can steal it and you've no recourse because the guy sitting in Estonia or the Seychelles or wherever is very, very scary.  A lot of these things, I think, are going to be solved over the next year.

So, the institutional flows: endowments finally started getting in in the US.  They wrote some cheques to some of the big VC launchers.  So, for example Andreessen Horowitz launched a crypto VC fund that is a spin off, that got the first endowment cheques, I think.  Endowments tend to be pretty slow-moving, pretty conservative.  I think there have been a couple of other funds that may have gotten endowment cheques since. 

US pensions are the slowest-moving entities in the world; they're not going to do anything for at least a year or two.  When I say that, I mean maybe someone will write a $10 million cheque.  But COPERs, some of these pension funds control tens of billions or hundreds of billions of dollars.  So, if one big pension fund put 1% of its money in Bitcoin, that could double the price of Bitcoin.  It's not going to happen in the next year; they're just so slow-moving and conservative. 

But big family offices that control trillions of dollars globally, these are pools of capital mostly by people like the Walmart family, the Gates family, as well as smaller, very high-net-worth individuals who pool their capital and have it professionally managed.  Huge pool of capital; they fall somewhere between an endowment and you and I, which is to say they're faster moving than the endowment, they're slower moving than an individual.  That's the current wave getting in, I think.  They're writing cheques, they're getting in.  Sovereign wealth funds are getting in and interested; you've had small flows there.

Peter McCormack: Have you taken much of a look at the Bitmain IPO?

Ari Paul: A little bit.  I've seen the offering documents; we talked about internally.  I haven't done diligence on it, I haven't visited Bitmain's facilities, we haven't dived underneath the covers.  The market narrative, the smart people I talk to are very mixed.  There's some people who say -- the way it's working, by the way, right now is there's a pre-IPO sale that may have just finished or may still be going on, where you had individuals who were friends of Bitmain, helpful to Bitmain who got the mandate that we will give you an allocation, you can then create a fund vehicle and you can charge people money. 

So, if you wanted to invest in the pre-IPO, and you wanted to do it for less than $50 million, you would go through an intermediary.  An intermediary would charge you fees.  I know some very smart investors who said, "I'm really happy to pay those fees.  This is like getting into Facebook in pre-IPO.  These are world-beaters, they have a pseudo-monopoly, this is exactly the kind of thing you want to invest in".  They think if the IPO is successful, the current investors in the pre-IPO will something like 2.5X their money very quickly.  So, it looks like a great deal.

The counterargument is Bitmain is really a crypto company, a Bitcoin company; they're advertising themselves as expanding into AI, which they certainly are, but which they have no meaningful traction in yet.  With the Bitcoin price where it is today, Bitmain as a company is basically marginally profitable.  The headline cashflow numbers, this idea that Bitmain is this money printing machine, was possibly just a product of the bubble last year. 

So, how profitable is Bitmain really with crypto where it is today?  It's very hard to do the maths because basically the accounting is not that clear. They're not doing anything wrong; the accounting makes it hard to back out the maths, there's a lot of different business lines Bitmain has.  So, the problem is if you're betting on Bitmain as a bet on crypto, in other words for Bitmain to be worth the $40 billion they want to IPO out, which is based on last year's numbers, if that requires Bitcoin back at $20,000 why not just buy Bitcoin at $6,000?  If Bitcoin gets to $20,000 you'll 3X your money.

There's some legitimate scepticism about the Bitmain business model and how dependent is it on the spread between basically the mining profitability.  So, with Bitcoin at $19,000, miners were making $14,000 a coin.  Now, miners are making $1,000 a coin.  Obviously, demand for mining equipment is going to be much, much, much reduced and Bitmain's own mining profitability is going to be a fraction, a tiny fraction of what it was last year.

Peter McCormack: There's also the risk of they've liquidated a large part of their BTC holdings and now hold a very large Bitcoin Cash holding, which is quite an illiquid holding as well.  The view is that if they try to sell anything off that, they would crash the market, whereas their BTC holding they can.  Have you looked into that at all?

Ari Paul: Yeah, I think it's exaggerated.  The facts are true.  I don't think it's that big of a deal.

Peter McCormack: Okay. 

Ari Paul: For Bitmain's valuation, it's not that much money.  The last quote I saw was $0.5 billion in Bitcoin Cash.  Well, Bitmain is raising at a $15 billion valuation right now.  If that goes to zero, maybe they should be raising it to $14.5 billion valuation.  In other words, it's not that relevant to Bitmain's valuation.  It's I think only relevant to Bitcoin Cash, so if Bitmain dumped it in a week, it would crash the price of Bitcoin Cash, no question.  If they sold out of it over a year -- in other words their stake is large, certainly very large but it's not that large.  There are individuals who own more Ethereum as a percentage.  Certainly in most other coins, there are individuals who own way, way, way more.  The ownership of Bitcoin Cash is concentrated but not out of the ordinary in the crypto world. 

I think the bigger issue, if someone owns Bitcoin Cash today, I do think it's mostly a bet on Bitmain, which is not whether they'll dump it or not but it's whether they'll continue supporting it.  If Bitmain announces to the word, "We've abandoned Bitcoin Cash", Bitcoin Cash is probably really in trouble as an asset.

Peter McCormack: Interesting, because obviously there's a lot of chat on Twitter about it but probably from people who don't understand how to value the business maybe in a way that you do.  So, that's quite interesting to hear.  Just before we close up, I think it would be great to know what are the things you are most excited about over the next year to two years; and, what's coming up for you personally?

Ari Paul: I think there's two use cases that the world is finally ready for along three axes.  Basically, crypto's not used for anything.  A year ago, a year and a half ago, crypto wasn't used for anything except a little bit of dark net purchases and a little bit of store of value and a little bit of speculation.  Then you had Ethereum which made crypto used for crowdfunding in a huge way, in such a large way that it actually outpaced traditional VC seed stage investing.  Those are still the only use cases.  So, you're not really seeing retail purchases with crypto; it's mostly a casino.  In fact, some of the most valuable cryptocurrencies like the Binance coin are a token for speculation.  I half joke but it's somewhat real. 

Currently the killer app for cryptocurrency is speculation or crowdfunding; those are the two things.  To a much lesser degree, dark net purchases and maybe evading capital controls.  If you're Venezuelan, you're using it because your fiat has lost value.  But those are frankly a tiny, tiny portion of all users right now.  That was because you didn't have the technology, so Bitcoin can only spread seven transactions per second.  Ethereum a year ago hit its capacity.  There was the status ICO a year ago and Ethereum as a network ground to a halt because it was literally over capacity just on a simple ICO.  CryptoKitties took up a quarter of Ethereum capacity.  So, we didn't really have the tech to support more complex use cases.  Smart contracts, they've existed for a while but it's so hard to implement complex logic in a smart contract in a bug-free way; it takes a lot of time and we're building up the developer toolkits, we're building up the libraries.  So, I'm very optimistic but it just takes time. 

Finally, we're ready for two use cases, I think.  One is the initial vision of Satoshi with peer-to-peer cash.  The Bitcoin whitepaper was electronic peer-to-peer cash.  It’s not used for that; no cryptocurrency is really used for that.  Why?  Because: (1) the transaction limit, (2) the UI or product market fit, creating a feature set that is attractive to users, (3) it takes time to acquire users through email.  I have no desire to use email if none of my friends do, so you have to boost network effects. 

We're finally ready where I think we're going to see projects that integrate cryptocurrency natively, similar to a Venmo or PayPal.  We're seeing that with some projects like the Brave Browser and it does a lot of wallet-type projects, but none of them are successful yet.  Even though Brave Browser has some users, almost none of them actually use cryptocurrency with the browser.  When I say "almost none" it might be thousands but it's not tens of millions; it's a trivial rounding error for the US population.

We're finally ready where, I think over the next year we're going to see remittances and Venmo-like peer-to-peer cash getting used for cryptocurrency, maybe micropayments towards the end of next year; micro payments within a browser.  I don't know if it's Brave that wins or if Google does it, but finally starting to see micropayments built into software, which is I think hugely revolutionary.  It's not about you being able to buy in your Times article for 5 cents; it's about programs being able to pay programs programmatically without having to go through ACH or wire a third party.

If I as a programmer can dynamically purchase file storage space from a decentralised file storage server, within the program itself, with no intermediaries, that's huge.  It's hard to imagine what innovations come from that.  The second is games.

Peter McCormack: I've noticed you tweet about that a few times, about gaming.

Ari Paul: Yeah, Chris Dixon has an essay from maybe 15 years ago.  He said something like, "Innovation starts as toys".  I think if you Google search "Chris Dixon toys SA" it'll probably come up.  It's a one-page essay and he wrote it during the last tech boom.  It's great and he just says, "The world-changing tech innovations usually start off looking like toys".  A lot of people like Paul Krugman famously said in the early 1990s about the internet, "Hey, this is pornography and cats.  No serious person cares about the internet". 

We now realise how silly that was.  Similarly, things like Facebook or Friendster reviewed as, "For kids" and now we recognise that social media is -- we've LinkedIn as an adult version.  These are some of the biggest companies in the world, these are some of the biggest productivity drivers in the world and they started off looking like playthings for college kids.

The same pattern is very likely to repeat in cryptocurrency, which is the first killer apps in broad use cases are going to look trivial.  One of those trivial things is going to be games.  Some of the most popular games in the world are very simple, like a Pokémon-type game.  The tech now exists to support it, so sidechains on Ethereum can support the necessary throughput to support a Pokémon-type game.  It wasn't true a year ago, you couldn't do it a year ago.  The marketers who know how to gamify a game and market a game are now interested, they weren't a year ago.

I think finally, everything exists for a good game developer to build a viral, simple game.  The tech exists to support it on Ethereum sidechain.  You can track the right marketers to test product market fit, to create an actual game people like using.  You can add the gamification elements to monetise it and you can actually market it and produce virality.  I don't know if a game yet exists that has UI.  So, the goal here is in the iPhone app store, I should be able to download a game, I should have no idea it's a blockchain-based crypto game and I should have the option, similar to most of the best games in the world today, most valuable games, they're free games but they have a payment option, you make in-game purchases and people spend insane amounts of money. 

The first killer app crypto game will be identical.  People won't know it's a crypto game.  At some point, you hit level 3 and they give you the option.  They say, "Hey guys, here's a little pop-up.  If you care, only if you care, this is how you involve crypto in this and how you can make in-game purchases and all that.  We'll Air Drop you $50 worth or $10 worth of crypto tokens that you can sell on Binance or you can use in-game".  The point is it'll go viral because it's a good game and because it's easy and it's a great UI.  Then it'll be a bit of a Trojan Horse. 

Why does the crypto benefit?  Well, if you've non-fungible collectibles, there are people who have spent $1 million in-game purchases for Game of War and for Fortnite, $1 million; it's insane.  Those people at some point, if the game becomes obsolete, their items are gone.  If the company goes bankrupt, the items are gone.  If the company decides to ban them, censor them or confiscate the item, the items are gone.  That's pretty scary if you're investing huge amounts of money. 

Imagine if I was playing World of Warcraft or Diablo or Fortnite and I could at least reasonably hope that even if that game becomes obsolete, I'll be able to transfer some element of my investment into the next Blizzard game, the next Steam game, the next whatever.  Or, if multiple games work together to allow for the transfer of some items between games or some characters, I'm probably willing to pay a lot more for that in-game item.  So, maybe I was willing to pay $10 for World of Warcraft armour.  Maybe in the crypto version, I'm willing to pay $50 or $100. 

So, from an economic modelling perspective, we don't know; I can't prove this and there's no successful data point.  But if I'm pitching a crypto game project to a traditional VC, and they're trying to value it, what I would say is, "Start with the way you would normally value a traditional game, but there's a reasonable argument to be made that the monetisation per user could be substantially higher, because you're offering more value to users".

Peter McCormack: Of course, of course.  It's a strange world to imagine where you would be buying an in-game item and then be using it in a future game; that's interesting.  I guess, when I first struggled to look at things like, I don't know, artwork on the blockchain but in future games like Sims versions of games, you could, I guess, port these between the games.

Ari Paul: Yeah, yeah.  It's really up to what the game developers choose to do.

Peter McCormack: Interesting.  Look, Ari, this has been great; great to finally catch up with you.  I was pretty nervous about this one actually.  I usually don't.  Could you just tell people how to keep in touch with you and who you'd like to hear from and how?

Ari Paul: It's a little bit tough.  Frankly, Twitter is probably the best.  I am actually not sure of my Twitter handle.  I think it's @aridavidpaul. 

Peter McCormack: I'll share it in the show notes.

Ari Paul: Sure, sure.  @aridavidpaul is probably best.

Peter McCormack: I'm going to share out your "Guide to Meditation".

Ari Paul: That's so amateurish.  That would be weird and embarrassing.  I only did that because someone asked me to on Twitter.  That's weird, I'm not putting myself forwards as a meditation guru at all!

Peter McCormack: Do you know what, it actually is very helpful if you don't have any knowledge of meditation and you want a little soft intro, I actually thought it was pretty good.

Ari Paul: If you enjoyed it, feel free to share it.

Peter McCormack: Brilliant.  Thank you for coming on; I really enjoyed this.

Ari Paul: Me too.  Thank you so much for having me.