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An (Institutional) Investor’s Take on Cryptoassets

December 24, 2017 • version 61

John Pfeffer

Medium • @jlppfeffer • LinkedIn

John Pfeffer is an entrepreneur and investor. In the 2000s, he was a London-based

partner at private equity firm Kohlberg Kravis Roberts, and in the 1990s, he was

Chairman of the Executive Board of leading French IT company Groupe Allium S.A.

Before that, he advised on turnarounds while with McKinsey in Europe and Latin

America.

IMPORTANT NOTICE: This document is intended for informational purposes

only. The views expressed in this document are not, and should not be construed as,

investment advice or recommendations. Recipients of this document should do their

own due diligence, taking into account their specific financial circumstances,

investment objectives and risk tolerance (which are not considered in this document)

before investing. This document is not an offer, nor the solicitation of an offer, to

buy or sell any of the assets mentioned herein.

Amidst the indiscriminate speculation, sensationalist and mostly misguided media coverage

and roller-coaster price volatility, this paper sets out to consider cryptoassets from the

perspective of a rational, long-term investor. As investors, we look for things that generate

sustainable, ideally growing economic rent—an economic surplus that will accrete to us. This

paper evaluates the extent to which cryptoassets offer the foregoing. It aims to assess the

potential future value of cryptoassets at mature equilibrium,2 on the assumption that they

develop successfully and achieve widescale adoption. By design, it does not dwell on the

significant risks that a given cryptoasset could fail, for technical, regulatory, political, or

other reasons. These risks are very real, and are well documented elsewhere. Temporarily

setting them aside allows for an objective analysis of the potential value of different kinds of

cryptoassets and their use cases.

I write not from the perspective of a trader, but from that of an investor who believes the long

term is easier to predict than the short term. The paper thus focuses entirely on long-term

equilibrium outcomes and investment strategy rather than short-term price movements. It

also assumes the reader has some familiarity with the topic.

Blockchain technology has the potential to disrupt a number of industries and to create

significant economic surplus. The open-source nature of public blockchain protocols,

1 Earlier versions of this paper were drafted beginning in June 2017.

2 The notion of mature equilibrium as I use it here is admittedly imprecise. Conceptually I mean once the

speculative phase has passed and (i) in the case of monetary store of value, once there is a mainstream,

institutional view that crypto is a core monetary store of value like gold is today and (ii) in the context of

infrastructure and applications, once markets are valuing cryptoassets based on significant realised user

penetration. The obvious analogy is the internet. Internet penetration and internet-enabled businesses are

still growing today but growth is slowing. Today, large internet-enabled businesses are valued based on

financial ratios such as PEG and EBITDA multiples rather than clicks or eyeballs as was the case in the late

1990s. That’s the end point I’m thinking about. For shorthand, let’s assume 10 years from now.

combined with intrinsic mechanisms to break down monopoly effects, mean that the vast

majority of this economic surplus will accrue to users. While tens or perhaps hundreds of

billions of dollars of value will also likely accrue to the cryptoassets underlying these

protocols and therefore to investors in them, this potential value will be fragmented across

many different protocols and is generally insufficient in relation to current valuations to offer

a long-term investor attractive returns relative to the inherent risks. The one key exception is

the potential for a cryptoasset to emerge as a dominant, non-sovereign monetary store of

value, which could be worth many trillions of dollars. While also risky, this potential value

and the probability that it might develop for the current leading candidate for this use case

(Bitcoin) would appear to be sufficiently high to make it rational for many investors to

allocate a small portion of their assets to Bitcoin with a long-term investment horizon.

We can break cryptographic token use cases into three broad categories:

1. Network backbone / Virtual Machine (e.g., Ethereum)

2. Distributed applications (Dapps)

3. Money, and in particular:

a. Payments

b. Monetary store of value.

I will start by looking at the first two use cases from a general perspective and then dive

deeper in analysing the largest current example of the first one, Ethereum. I’ll then turn to a

discussion of the different functions of money, the potential for cryptoassets to perform them

and the implications for the value of such cryptoassets, including Bitcoin.

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