Darren Kleine

The dream that “everything will be on a blockchain” was a familiar chorus in the heady days of 2018’s ICO boom. ERC-20 tokens sprung up for every imaginable purpose, from pure Ponzis like BitConnect to coffee and cannabis supply-chain ecosystems that — pardon the pun — went up in smoke as soon as the bubble burst.



Five years later, the notion of a much broader range of assets existing on the <a href="https://blockworks.co/tag/blockchain">blockchain</a> is not nearly as far fetched. After all, so many assets are already traded electronically without any actual transfer of physical goods.



In a recent interview on the <a href="https://www.youtube.com/watch?v=V762GDXDdmw">1000X podcast</a>, Don Wilson, founder of trading firm DRW and co-founder of Digital Asset Holdings, spoke to Blockworks about the possibilities of the future “blockchain-ification” of traditional finance assets.



He begins with an important caveat: “There are some assets that are physical assets, like nickel,” he says. “You can put nickel on a blockchain, but ultimately the nickel has to sit somewhere.”



“If somebody steals the nickel, then you have a blockchain that represents nickel and the nickel&#8217;s not there — and that&#8217;s a problem, right?”



“So that kind of stuff is something that still has this intimate link to the physical world that is super critical.”



<h2 class="wp-block-heading">Many instruments are already virtual</h2>



On the other hand, many instruments in finance are already “virtual” in nature, such as <a href="https://blockworks.co/tag/equities">equities</a> and Treasurys, he says, “and people don’t usually walk around with their Treasury certificates.”



Wilson says “those assets probably lend themselves more to digitization,” or as podcast host Van Bourg describes it, “blockchain-ification.”



“Right now,” Wilson says, “we&#8217;re experimenting with <a href="https://www.broadridge.com/ca/press-release/2023/drw-executes-intraday-repo-transactions">intraday repo</a> using blockchain technology.”



Wilson describes the growing capacity for the digitization of assets built on the <a href="https://blockworks.co/news/goldman-sachs-blockchain-canton">Canton Network</a>, a “digital assets holdings blockchain.” The network aims to use permissioned blockchains to bring different bank and financial companies’ applications together, allowing for greater ease of use and security across platforms.



“It enables value to be moved in real-time and even 24/7. And that&#8217;s the kind of thing that will make clearing houses more resilient if they want to avail themselves of that technology.”



<h2 class="wp-block-heading">The current system is clunky</h2>



With today’s financial system, wiring money internationally can take hours and is only possible “when the wire window is open,” he says.



Wilson illustrates current limitations with the example involving the spread between a futures contract in London and another in the United States. “After London hours, there&#8217;s a big rally and you&#8217;re long the futures in London, and you&#8217;re short the futures in the US.”



Pulling variation margin out of the London market and moving it over to satisfy the negative variation in the US isn’t feasible with the current system, according to Wilson.&nbsp;



“You&#8217;re not even close,” he says. “What will happen is, the next day, that futures contract will rally.&#8221; 



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“Assuming then, the next day we open up and the market&#8217;s unchanged, then the London futures contract will rally and the variation margin will show up in your account,” he says.



“At that point, you can wire it out maybe that day, maybe the next day. Maybe now you&#8217;re running into the weekend.”&nbsp;



It just doesn’t work well with traditional finance technology, he says. “The whole system is just very clunky.” Everything is slow to move around and requires “a lot of extra capital” to deal with all the delays, according to Wilson.



“Being comfortable moving out the risk curve is super important,” Wilson says. “If you can move out the risk curve and you have access to super low-latency tools and connectivity, then you&#8217;re in a really strong spot. That&#8217;s where we try to be.”



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Traditional Finance ‘Blockchain-ification’: Pie in the Sky or Inevitable Future?

Using Ethereum is expensive.&nbsp;



Whether it&#8217;s from trading on DeFi, flipping NFTs, or gambling with memecoins, transaction fees have been driven upward for months on the network. The rise extends to simply sending tokens from one wallet to another.



While recent <a href="https://blockworks.co/tag/meme-coins">memecoin</a> buffoonery has exacerbated the problem, ether (<a href="https://blockworks.co/price/eth">ETH</a>) gas fees have been gradually climbing long before the more recent get-rich-quick <a href="https://blockworks.co/price/pepe">PEPE</a> craze, with previous perpetrators <a href="https://blockworks.co/tag/uniswap">Uniswap</a> and <a href="https://blockworks.co/tag/blur">Blur</a> elevating costs.



But it’s not all bad. New mechanisms introduced by EIP-1559 in 2021 brought in the burning of base fees, causing <a href="https://blockworks.co/news/ethereum-deflationary-2-months">deflationary conditions for the network</a>.&nbsp;



This fee model contributes to the narrative of <a href="https://blockworks.co/tag/ethereum">Ethereum</a> as “<a href="https://blockworks.co/news/ether-supply-cap-late">ultrasound money</a>,” reducing the supply of ETH as on-chain activity drives demand. Adam Smith might have been on to something.



In theory, a reduction in supply should increase Ethereum’s value as an asset in the long term. Avi Felman, head of digital asset trading at GoldenTree Asset Management, and Jonah Van Bourg, Cumberland’s global head of trading, spoke to Blockworks on the <a href="https://www.youtube.com/watch?v=q2afnJQjblA">1000x podcast</a> about their evolving investment thesis for Ethereum.



“Even though 16 gwei is neutral gas levels for Ethereum,” Van Bourg says, “we&#8217;re consistently averaging 50 to 150 gwei.” As a result, ETH is highly deflationary at the moment, he says.&nbsp;&nbsp;



“And even if it does eventually die down,” he says, “the ETH that&#8217;s being burned as a result of this activity is never coming back.”



Van Bourg asks Felman, “What does it mean for price, and what does it mean for supply and demand of block space? Is there an investment thesis there?”



<h2 class="wp-block-heading">EIP-1559 opened the monetary door</h2>



Felman says the “best thing” Ethereum ever did for itself was the implementation of <a href="https://blockworks.co/tag/eip-1559">EIP-1559</a>, which made ETH as an asset more attractive for investment.



“It opened the door for so much institutional capital to come into this space,” he says.&nbsp;



“I gave a talk last week at a conference that was filled with a lot of pension fund allocators, a lot of institutional allocators. I got an obscene amount of questions on it,” Felman says.



“My job,” he says, was to “teach these guys about what crypto is, cuz these guys knew, when I say nothing, I mean literally nothing, about crypto.”



Felman suggests Ethereum fee burns behave like traditional finance stock buybacks. Just as a company can buy back their own equity to indirectly increase value for shareholders, a fee burn can indirectly drive price action for anyone holding ETH. “If ETH annualizes out to $5 billion a year in burn fees, that&#8217;s a pretty substantial ‘buyback,’ right?”&nbsp;&nbsp;



“And this is all during a bear market,” he adds.



“That really hit home for a lot of people.”



Ethereum stands apart from other layer-1 protocols because of this formula, Felman says. 



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Other layer-1s like <a href="https://blockworks.co/tag/solana">Solana</a>, he says, do not generate fees in the same way — and, importantly, do not burn fees to reduce supply. Alternative layer-1s as such do not “generate revenue for their shareholders in the same way that Ethereum does,” so “allocators are just way less likely to come in and buy it.”&nbsp;



“Because all eyes are on Ethereum, because that&#8217;s where the speculative money is, because that&#8217;s where the market participants are, they&#8217;re able to <a href="https://blockworks.co/news/uniswap-leads-network-activity-on-ethereum">charge those fees</a>,” he says.&nbsp;



Felman compares the current attractiveness of Ethereum to the appeal of living in New York. “Yes, Manhattan&#8217;s expensive, but it&#8217;s expensive for a reason — because everybody&#8217;s there, and everybody that you want to be around is already there.”



And the beauty of proof of stake is that all of those fees that are burned and all the fees that are generated, Felman says, “are now paid back to owners of the asset.”



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High Gas Fees Worth the Pain? Ethereum’s Deflationary Model in Action

The cascade of bank failures over recent weeks seems to be <a href="https://blockworks.co/news/banking-sector-versus-defi">spurring investors to find new ways</a> to hedge against a weakening system.



And the biggest bank of all — the US <a href="https://blockworks.co/tag/treasury">Treasury</a> — is looking a little shaky, too.



Ongoing talk around <a href="https://blockworks.co/news/debt-ceilings-and-defaults-bitcoin">debt ceiling and defaults</a> is certainly not helping the cause for confidence in America’s economy, but it may attract buyers to hard assets like <a href="https://blockworks.co/tag/bitcoin">bitcoin</a> to weather the storm.



On a <a href="https://www.youtube.com/watch?v=q2afnJQjblA">recent 1000X podcast</a>, Avi Felman, head of digital asset trading at GoldenTree, and global head of trading at Cumberland, Jonah Van Bourg, spoke to Blockworks about the market’s possible reactions to a technical default. This would occur if the United States holds off — even briefly — on paying back bondholders.



Van Bourg asks Felman, “What do you think the price of bitcoin is in that scenario? If that headline hits the tape?”



“My bet is that the headline sends us past $30,000, maybe to $35,000,” Felman replies.



Felman suggests that a confluence of debt ceiling panic and the narrative of bitcoin as a hard asset could lead to a burst in buying sentiment.



Van Bourg is even more optimistic about bitcoin (<a href="https://blockworks.co/tag/btc" target="_blank" rel="noreferrer noopener">BTC</a>) market action, “I think we could definitely see all-time highs in short order if the United States were to default.”



<h2 class="wp-block-heading">The risk-free rate is no longer risk-free</h2>



“Whoever you are, wherever you live in the world, if you have a spreadsheet with money in it, you have to rewrite some cells and some formulas if the United States defaults. Like, the risk-free rate is no longer risk-free.”



Van Bourg suggests a default could be “the most seminal event in financial history,” during which bitcoin prices could test or even exceed the all-time high of $70,000. “I think you&#8217;d see people move money out of fiat and into crypto in droves if fiat suddenly became unstable.”



Felman replies bluntly, “I think you&#8217;re insane. I don&#8217;t think this is going anywhere near $70,000.”



Felman argues that it’s not feasible for prices to reach all-time highs “mostly because I just don&#8217;t know where that buying is coming from.”&nbsp;



“Retail&#8217;s not buying on it. They might buy a little bit.”&nbsp;



Felman suggests it&#8217;s possible that a rush to $35,000, mostly propelled by high net-worth buyers, could draw some retail buyers back in. However, he notes that &#8220;even then,&#8221; retail doesn&#8217;t feel as rich or as bored as they were during Covid-19.&#8221;



<h2 class="wp-block-heading">The perfect storm</h2>



Felman points to the perfect conditions for the previous run-up to all-time highs. “You’re locked in your house, you have stimulus checks. You can&#8217;t do anything. Your entire life has just gone online. And that led to crypto going nuts.”



Van Bourg suggests a different set of factors could cause similar behavior, but in the longer term.&nbsp;



“Gen Z people,” he says, “it seems like they&#8217;re less doing the sorts of things that I did when I was young and more like just chasing apparitions of Pokemon around abandoned lots with their phone or living on Fortnite, watching a Travis Scott concert on the internet.”



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The Gen Z crowd, Van Bourg says, is growing up with the experience of innumerable hours spent online. “Crypto internet money is going to become <a href="https://blockworks.co/news/crypto-holders-stayed-despite-collapses">more of a thing than fiat</a> for a lot of people.”



“The seamlessness of the experience of moving value around and moving digital goods and services around relative to moving actual goods and services and fiat currency — It&#8217;s such a drastic improvement.”



“Eventually for certain people, you will have that perfect storm of constant economic activity inside of some game or reality that isn&#8217;t necessarily what us ‘olds’ think of as normal.”



“As parents get older,” Felman adds, wealth reallocation to the younger generation “is gonna bring a lot of money into digital assets.”



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Shaky US Treasury Could Push Buyers Back to Bitcoin

America’s ongoing banking and budget dramas seem to have, once again, got people thinking about keeping money under the mattress — or elsewhere.&nbsp;



Of course, stuffing some cash under the bed doesn’t isolate the holder from inflation. Plus it isn’t exactly the safest place to keep it, albeit arguably safer than <a href="https://blockworks.co/news/bitcoin-dominates-bank-stocks">some fragile bank accounts</a>. Many are instead turning to assets that offer a degree of isolation from the failures of the system, namely crypto.



It wasn’t too long ago that a banking crisis began with the collapse of a few regional services including <a href="https://blockworks.co/news/who-will-bank-crypto">Silvergate and Silicon Valley Bank</a>, instigated by a combination of problematic balance sheets and panicked bank runs.&nbsp;



More recently, the bad news coming out of First Republic Bank about depositor flight seems to have <a href="https://blockworks.co/news/crypto-related-stocks-soar">pushed more people toward crypto</a> as a potential exit from the mess.



Avi Felman, head of digital asset trading at GoldenTree, and global head of trading at Cumberland, Jonah Van Bourg spoke to Blockworks on the <a href="https://www.youtube.com/watch?v=i7ddfquivmM">1000X podcast</a> about the paradigm shift around bitcoin’s value proposition — moving from being perceived primarily as a correlated macro asset to an asset that “<a href="https://blockworks.co/news/crypto-stayed-green">might actually be fulfilling its promise as a banking system alternative</a>.”



“The best opportunity of the year,” Van Bourg reflects, “was the [<a href="https://blockworks.co/price/btc">BTC</a> and <a href="https://blockworks.co/price/eth">ETH</a>] dip-buy during the banking crisis.”



“We might have another one of these types of opportunities coming down the pike possibly as the debt ceiling approaches.”&nbsp;



<h2 class="wp-block-heading">Weaponizing debt ceilings</h2>



Debt ceiling disagreements and the looming possibility of defaults are just about a yearly occurrence over the last couple decades, with opposing political parties weaponizing the approval process. In an effort to push through policies that would not stand a chance of passing through the usual channels, parties will attach conditions that allow the debt ceiling to increase once again. The system can then carry on paying out its obligations.



In 2011, under the Obama administration, the debt ceiling conflict between the Democrats and Republicans had serious repercussions, with the United States of America being <a href="https://www.reuters.com/article/us-usa-debt-downgrade-idUSTRE7746VF20110806">downgraded</a> from its AAA credit rating by Standard &amp; Poor’s. It was “not because of an inability to pay,” Van Bourg says, “but because of a potential unwillingness to pay.”



“That was a big deal,” he says, “that was the beginning of a 20 or 30% gold rally.”



Debt ceiling drama returned during the Trump presidency, causing a government shutdown as the two parties again locked horns.&nbsp;



“Now, I think the vitriol is just as high, if not higher than then,” Van Bourg says, “and unlike then, interest rates aren&#8217;t zero anymore.”



“So if the government were actually to default,” he says, “then you end up with an unprecedented event in financial history whereby the supposed risk-free rate is no longer risk-free.”&nbsp;



“The United States government will say, ‘Hey, Mr. Dentist, we owe you $100 grand. Sorry, we don&#8217;t have that for you right now. We got you, though. Wait a week or two until we figure this out in Congress.’”



The impending possibility of default, exacerbated by underwhelming tax receipts, hasn’t roiled markets yet, Van Bourg says, because “we&#8217;ve been through a few of these that have resolved in an okay fashion.”



Directly following the Obama and Trump debt ceiling events, Van Bourg notes that gold enjoyed 30% rallies.



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Felman replies, “I bet bitcoin would do quite well in that scenario.”



“If you look at the correlations between BTC and gold and then BTC and equities, it basically flipped over the last month.” Felman says that Bitcoin “is a lot more correlated with gold than it was with equity.”



<h2 class="wp-block-heading">The supply side</h2>



Felman cautions that the “supply side” of the bitcoin story may dampen spirits. The United States government is currently in the process of <a href="https://blockworks.co/news/us-government-dumps-bitcoin-silk-road">selling off its bitcoin holdings</a> and the potential for sales from <a href="https://blockworks.co/news/crypto-bear-cases-bull-consider">Mt. Gox</a> creditors might also suppress the market. Despite this, he says the debt ceiling story may act as “a massive catalyst” in the short term.



Felman says he views the current situation as “an opportunity to trade — similar to what the banking crisis was, with an additional benefit of making Bitcoin better long-term” because it may convert some retail traders into holders.&nbsp;



Van Bourg prefers to think in a longer timeframe. “I know that my bias is a little bit more to try and just focus on the long term,” Van Bourg concludes, “because that&#8217;s a framework that you can cling to when things are going badly and you&#8217;re staring at a bunch of red numbers.”



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