Cash on Hand
To great excitement this week, Tesla allocated $1.5 billion of their Corporate Treasury cash to bitcoin. The excitement did not necessarily extend everywhere though. Here is Nils Pratley, who to my surprise is the Financial Editor of the Guardian (yes, they have one). 
Irrespective of what you may think of Tesla or its stock price, it is still a car company. Manufacturing cars is famously and vastly capital intensive, which is why they are always two bad cars from going bust. For that reason, Tesla has $14 billion of cash on its balance sheet, as their production capacity grows, this need for cash on hand will grow also.
It is perfectly possible that Tesla will have in excess of this amount of money on its balance sheet for the next 25 years, and if you are Elon Musk, you will certainly think so.
We know too that the USD is being printed at a furious rate. As we have discussed before its supply doubles roughly every six years (less at the moment) and so its value consistently drops. Indeed, the Federal Reserve is vocal in the their pursuit of inflation telling us they will not be happy until it is 2% and more for an extended period. We all know that, which is why nobody wants cash.
So is it really so strange and stupid that Musk should put less than 10% of his corporate treasury in bitcoin? If bitcoin goes to zero it will make little difference to Tesla, if he holds a chunk of cash for 25 years he’ll likely loose 80% of his purchasing power anyway. The bitcoin makes almost no difference to them if it goes down and has potentially tremendous upside if it goes up.
If there is something that Elon Musk is good at it’s seeing the future. The Guardian’s finance editor might be complaining but I don’t hear too many shareholders kicking up a fuss.
Institutions
While some institutions are warming to bitcoin, the feeling certainly isn’t universal among fund managers in Australia.
Tesla’s decision to invest in “worthless” bitcoin is the latest sign easy money craziness is getting worse, and blows more air into a sharemarket bubble that could be set to burst, warned Investors Mutual Limited’s head of investment research Hugh Giddy.
Mr Giddy went on.
“It doesn’t really behave like money because it’s so volatile, it’s not underwritten by any government. There are plenty of cryptocurrencies so there’s no rarity value.”
Now we are into fundamental misunderstandings. That it is not underwritten by any government is precisely the point and indeed the source of its volatility. The volatility is dropping with time as the price rises. In the end if everything you invest in has very little volatility you won’t do very well, you have to take some risk, just not too much. As to ‘there are plenty of cryptocurrencies’, yes. However most of the 2017 vintage are now worth zero, most of the assets in the top 10 now won’t be there in 2025 because they will be worth zero but bitcoin will be there because it has a huge network advantage, with an unimaginable level of security now built into its hash rate.
By comparison, how are IML going I here you ask. Like this, according to their website.
Looks like a bit of a struggle across the board for the last three years but their best performing fund is up 13.5% annually. That is excellent for something that launched in 1998, although some of the larger funds haven’t done so well.
Here’s the crunch though. Our funds are rather niche and they launched in 2018 at the same time as the IML Private Portfolio Fund, which also sounds niche. That has delivered 3.3% annually. Our Bitcoin Fund and Managed Fund have delivered over 180% annually.
I don’t doubt that there will be pull backs in our funds, there always are. Let’s say there is a 30% drawdown from the current price, Mr Giddy will be banging the table telling everyone he was right and our funds will still be up 150% annually.
To some extent though, the more Mr Giddys there are, the longer our outsized gains will last. I must write to him and say thank you.
More interesting were his general macro observations:
- In the six weeks following March 2020, the United States borrowed more money than it had done in five previous recessions combined: being
- The 1973-75 oil crisis
- 1982 Volcker recession
- 1990’s recession
- Dotcom bust of 2000
- 2008 financial crisis
- In corporate markets. Corporate debt actually went up by $500 billion in 2020, it normally goes down in a recession. For example, it went down by $400 billion in 2008. In total it stands at $10 trillion.
- Finally, the US has surrendered its massive advantage in computing. Intel has “given up”. All the major chip foundries are in Asia and chip design is increasingly moving there too.
In the medium term then, he is short the USA and long Asia.
Most interesting was the comment on chip manufacturing. That is going to become even more critical soon, as we shall see. I believe he’s absolutely right on the significance of this but the picture is much bigger although there was no further detail in the interview.
Shortage of Chips
Picking up on the Druckenmiller theme. There is now a global shortage of microchips, it is so serious that it becoming the focus of earnings calls for big manufacturers.
The big reveal here is that in the last 10 years it has been possible to convert energy via fast compute directly into money using bitcoin. The skyrocketing price of bitcoin has meant that chip manufacture cannot keep up.
Today for a solid operator, the breakeven price to mine bitcoin is around $7,000 – $10,000. Meaningfully below the market price. Anyone in possession of bitcoin mining ASICs is currently making a fortune (each block every 10 minutes is worth 6.25 bitcoins + fees; that is about US$350,000).
As we can see, below mining difficulty is up about 40% annally. The bitcoin price is up about 300%.
The result now is that miners are making huge super-normal profits. Revenue has more than doubled in a year to approaching a collective $50m/day. This ought not to last because it will attract newcomers to the market. The bitcoin protocol then adjusts for these new miners by making mining more difficult. That means more ASICs and more electricity to mine the same amount of value and so the breakeven cost rises.
The issue of course is that newcomers can only arrive if there are chips available to buy, and simply, they are not there.
So, competition for chips is hot and getting hotter.
Look at this list of chip foundries globally, anything meaningful is in China, South Korea or Taiwan. You can sort the list by production volume capacity, there is only one US site in the top 20 and that is owned by Samsung. All the others are in China and Taiwan.
So in bitcoin we now have a asset with a market cap of $850 billion demanding more mining capacity and creating huge chip demand. To bring mining to equilibrium mining difficulty needs to at least double. In compute terms that is about a doubling of the current hash rate which is additional computational power of about 150*10^18 calculations per second. That’s the equivalent of 30 billion laptops. It is of course more nuanced than that because the mining chips are specifically designed for one purpose but there is massive chip demand coming from bitcoin whichever way you look at it.
This has some rather profound implications. The network itself is actually having an effect on global supply chains. Maybe you can get chips for your AI project or to build Toyota cars and maybe you can’t because there are people in the market at the moment who can afford to pay a lot more than you can and still make money.
It looks like the beginning of the long predicted hash rate arms race. The person with the fastest chips and the cheapest power will win this race and dominate.
China is now so far in front, their lead looks unassailable. This is having real geopolitical consequences particularly around Taiwan. It’s no accident that the the USS Theodore Roosevelt carrier Group arrived in the Taiwan Straight on 21 January to “promote freedom of the seas” or more properly “to secure access to microchips”.
Taiwan is the new Saudi Arabia. Computer chips are the new oil. Bitcoin sits right in the middle of this battle in its pursuit to be global money. The good news for us is you can’t fire a missile at decentralised computer code, however big your ships are and however many of them there might be.
Le-Journal du Dimanche
On seeing this headline I had visions of a weighty novel prophesising the end of the world. In fact, it’s a Sunday paper in France which had an interview with Christine Lagarde. Basically the same thing then.
The interview was highly choreographed with simultaneous press releases from the ECB and the paper itself, clearly the questions and answers were carefully formulated in the bowels of the ECB, so they are worth a look.
How will the ECB continue to act?
Doesn’t this accommodative monetary policy stance create risks?
“We don’t see anything that gives us cause for concern. We do not yet see property bubbles at the euro area level”
- The ECB balance sheet is about 40% of Euro area GDP.
- The support can never be withdrawn or bond yields will diverge across the Euro area and the currency will collapse.
- Unemployment among young people in Southern Europe remains above 25% and it has for 10 years. It is a demographic and human disaster.
- Italy is on the brink.
How should we react once the crisis is over?
Once the pandemic is over and the immediate economic crisis is behind us, we will have a tricky situation on our hands. We will have to be well organised. And not repeat past mistakes, like closing all the taps at once, cutting off both fiscal and monetary stimulus.
Hmm. We have seen on multiple occasions now, in Japan, the USA and Europe that turning off monetary stimulus has been impossible. Every major jurisdiction that tried since 2008 reversed course. Her answer is a good one because the pandemic support will last until at least 2023, so this answer gives her until maybe 2025.
She has not kicked the can down the road hard enough though. Her term lasts until 2027 and I’m afraid that during that period she is likely to reap what she has sowed. The full interview is here.