Vincent Heys: [00:00:00] From wealthstack.ca. Welcome to the financial wellness podcast series, where we discuss all kinds of financial principles, concepts, and products. Our aim is to make money matters, simple again.
Vincent Heys: What do you think about Bitcoin and cryptocurrency? Have we been fooled to buy it or have you been avoiding it because you have been fooled I'm Vincent Heys and in the studio today, I have a very good friend of mine. Ian de Lange. Ian is a chief investment officer of seed investments and manages five mutual funds.
Vincent Heys: Ian reads widely, and has a deep knowledge of the financial markets. In this show, we will unpack the main workings of Bitcoin. The reasons why people invest in it. What is backing Bitcoin, an is there an investment case for it. Welcome Ian. It's great to have you on the show.
Ian de Lange: Great [00:01:00] Vincent. Excellent. Good to be with you. Thank you.
Vincent Heys: So let's just dive straight into it in terms of Bitcoin and how that differs from other cryptocurrencies. What is, what is the main differences there for us?
Ian de Lange: The first thing to notice, obviously that Bitcoin. And is the original blockchain that was invented all the way back in 2009. Everything else has come in on the back of, of, of Bitcoin.
Ian de Lange: Um, so called alternative coins. And there's obviously a range of them. Uh, there are definitely differences. I can't say. I know the ins and outs of all the differences, but there are some major differences that obviously, you know, apparent. Some of the differences are the big one is de-centralization Bitcoin is definitely a lot more decentralized and that's a key component that all other alternative coins, including Ethereum or decentralized, but not as decentralized as, as Bitcoin.
Vincent Heys: So let's just [00:02:00] quickly go through this, the working of it, you know, why does it take so long or such a lot of effort to, to mine, these Bitcoins and, and how does it being added to the blockchain?
Ian de Lange: The miners are essentially rewarded and the reward is an allocation of newly minted Bitcoin. That is the reward for actually putting in the, the, the, the, the cost.
Ian de Lange: Uh, the cost is largely obviously the infrastructure cost and, and, and the bulk that cost is the operating cost is the electricity cost. The reward for that is the newly minted. So as soon as a particular miner discovers the particular hash that meets the requirements, they will, um, collate that block and get awarded with the currently 6.25 newly-minted um, Bitcoin,
Vincent Heys: Just give me a sense again, there's a limitation in terms of [00:03:00] the number of Bitcoins coming into the market and how are we?
Vincent Heys: Sure. Uh, the 21 doesn't become 25. And then next year 28.
Ian de Lange: Yes. I mean, I mean, this is a key component. Um, and absolutely a key attribute of bitcoin is obviously the so-called scarcity factor. And 21 is the actual number 21 million Bitcoins. These, the award started at 50 and every four years is halved. It's not exactly every four years.
Ian de Lange: I think it's 210,000 blocks. Every 210,000 blocks or so the reward is half down. So 50 becomes 25. Cause all we're done to 6.25. Currently your key question there. Yes. Is how do we know that this cannot be changed? Well, as we know, this is first of all, it's open source code. Anything can be. But the big issue is the run on a consensus [00:04:00] basis.
Ian de Lange: And so anyone is free at any time to go and change the algorithm to going to change the code put down their version of it, start their own version, change the numbers. And so move on. The problem though, is that they are going to be the only ones running their code and no one is going to actually join them.
Ian de Lange: No one is incentivized. And so that consensus of the participants is so critical. To the whole running of, of Bitcoin. There's a strong alignment of incentives, which keeps the thing. Um, very, and in fact, highly, highly, highly, highly unlikely to actually be amended.
Vincent Heys: Ian what happened in 2017, maybe just give us a view of, you know, exactly to that consensus and people wanted to change something and then it went south.
Ian de Lange: Yeah. So in 2017 they had what was called the block size wars, the headaches sort of camp. We wanted to increase the size of the blocks, be able to put [00:05:00] more transactions through the system. And then you had the, the camp that said, no, we will remain as is it's it's it's efficient lead designed as is. There was a hard fork, which meant that, uh, folk veered off.
Ian de Lange: Took the took the protocol amended to increase the block size and out of that sprung Bitcoin cash. And then there's even been a further fork to Satoshi vision or whatever, but clearly the market ultimately decided who was the winner and, and that has just come down and down and down and down and price, uh, relative to the original Bitcoin.
Ian de Lange: So it just goes to show that. The, the protocol can be amended, but unless, unless you've got the majority of participants moving along with it effectively, it's a vote of no confidence. And the participants being the miners and the nodes voted, [00:06:00] not anybody, their feed, but effectively voted with their wallets and said, you know, we're not going to go.
Ian de Lange: We're not going to, you know, we don't really see value in this. Obviously, a few people did see value, but the vast majority didn't. And so this is what happens. And so I think going forward, we're not going to, well, it's not impossible, but it's unlikely that you're going to have this type of splitting out again.
Vincent Heys: And so that is the main difference why we talk about Bitcoin as opposed to cryptocurrencies, because all the other cryptocurrencies, my use components, or very similar kind of technology in terms of blockchain, but with Bitcoin, that is that sense of. Consensus we'll keep it at that 21 million coins, whereas the other cryptocurrencies are set up differently.
Vincent Heys: And this might be not that backing of the limitation of the coins that's been issued.
Ian de Lange: I guess. I think that's fair to say. It's, it's a big, it's a big difference. Um, I think the other issue is most of [00:07:00] these other alternative coins, some of them have sort of split personality in a way in that they're not necessarily trying.
Ian de Lange: Uh, to be the sort of monetary type of network. But, um, in the case of something like a Etherium, which is, which has definitely stood the test of time, it's actually trying to be more of a distributed computing system as it were, as opposed to just a pure distribution of a network and only doing one thing and one thing only, and that's the ability to move value.
Ian de Lange: From one participant to another participant. So the Ethereum network, that's one of the major differences that might not be, as I said earlier, might not be as decentralized, but it's actually trying to achieve something different. And that's actually not necessarily a hard coding of the, of the cap of 21 million units or whatever.
Ian de Lange: The number is more trying to look at being a distributed world computer.
Vincent Heys: So also, if we just look at [00:08:00] Bitcoin versus some of the other stable currencies may obviously issue a unlimited number of coins because it's backed by a dollar or a yen or whatever the currency is, or any other stable kind of feared currency behind it.
Vincent Heys: And so that's the difference between. A stable coin and Bitcoin, again, Bitcoin is backed by consensus of developers, effectively open source developers that, that look at the code and give their consensus, whereas where some of these type of currencies are obviously then more backed by the currency, but there could be an unlimited number of coins issued.
Vincent Heys: Is that fair to say?
Ian de Lange: I think I, I think that is fair to say. Um, there is definitely a, does appear to be a use case for. So called stable coins, such as tether, whereby they are presumably backed by currency, but they, they effectively then work as a digital token that given the rails [00:09:00] of the sort of blockchain, blockchain technology, a lot easier to move these around the world, as opposed to the traditional feared system using the sort of legacy banking system.
Ian de Lange: And so there's definitely been a huge. In demand for stable coins, such as tether, especially from emerging markets where, you know, a lot of individuals are keen to get out of the, whatever the currency, uh, in emerging market where there's, there's obviously a lot of, uh, concern given the stability of those currencies and into the dollar.
Ian de Lange: And it's a lot easier to move into. Let's say the tether, which then tracks the dollar one for one on a, on a, like for like, As to the backing of, of that. Well, I think this is clearly, you know, what's of concern to governments around the world, especially the U.S. Government now. And, and, and so that's, you know, that's definitely something that's better.
Ian de Lange: I believe they need to look at this and try and understand this.
Vincent Heys: They must be a level of distrust in the [00:10:00] market or distrust in financial system. Why people find a new way of, of trading. You know, I thought about the old days. You know, I give you a goat and you give me milk kind of thing. And then people obviously went to gold and coins and, and what we have today, you know, it just kind of feel that, you know, the financial system changed the last 50 years more than the previous centuries look.
Ian de Lange: I mean, I think that's, that's absolutely correct. And, and obviously, you know, we, we, we, in this new digital age when, um, is so much, uh, that is getting effectively digitized and from an analog world to a digital. And so in many ways, sort of your store of value or the means of transferring value, one to another was done more on an analog basis.
Ian de Lange: And now it's moving pretty rapidly in many ways to a digital environment. And, and when, and in many ways we've sort of had this digital environment, but it's, I think it's run on the rails of, of legacy. [00:11:00] Let's say banking. Many people haven't really seen necessarily maybe a need to actually upgrade, but, you know, along came the sort of digitization, so to speak of value, especially with, with Bitcoin and then, and then all these other, you know, there's been so much adoption, I think on top of that, but it's still relatively early days in so many ways.
Ian de Lange: So many people are trying to try and grapple with us, obviously. Uh, you know, is it, is it a proper store of value? Is there something there clearly the intangibility of it concerns, some people. Uh, because when you think of value, we think of something more tangible, so to speak, even if it's a share certificate, but there's something tangible behind it behind this.
Ian de Lange: There's a company as people that's making proper goods, it's, you know, something that's purely intangible is very difficult for so many people to wrap their head around. Bitcoin effectively, what has been achieved has been digital scarcity because with digital, as we know. You know, you can make unlimited [00:12:00] copies of email.
Ian de Lange: You can take a photo, you can make unlimited, unlimited versions of, of your photo. You know, what's the original and what's the copy. I mean, that's exactly one for one replication, but the methodology that was actually actually achieved, what so many people have been working on for such a long period of time, trying to figure out how do we, how do we achieve in a digital world this scarcity ?
Vincent Heys: So let's just quickly talk about the history of transacting and we don't have to go that far back. You know, we, we had the gold standard till when was at 1971, all the currencies issued was backed by gold and then we broke away from, from gold. And that was a big shift, you know, moving away from something stable behind the currency, into what is known into a Fiat currency.
Ian de Lange: That's right. So I think, I think over many, many, many decades and centuries, I mean, I think the gold [00:13:00] came to obviously represent good money in so many ways, uh, durability, even a degree of portability because it's, it's, it's pretty tense and, and, and the biggest factor was scarcity. So the scarcity factor, the world settled pretty much on gold in so many ways.
Ian de Lange: And it did, first of all, obviously gold coins we used and then. Uh, paper currency on, on the, on the top of gold as the base layer. But slowly I think, as we saw that God unwelcomed Britain woods was obviously post the second world war. The idea was okay, we'll have the dollar as the standard, but the dollars back to golden.
Ian de Lange: Was basically set to the dollar, but essentially you had the backing and as you said, that went all the way to 1971 and effectively Nixon had no real choice, but to take the dollar off the gold standard, um, because the us was getting the store of gold was getting depleted. The French were effectively saying, give us a gold, here's your paper, [00:14:00] money.
Ian de Lange: We want a physical gold. And so you had no choice, but to say, okay, that's it no more convertible. Of our dollars into gold. And so I think from that period of time, which is 50 years now, we have had effectively free, free floating, uh, paper feared money system, which has got no real backing it's by and large, I think it's worked okay.
Ian de Lange: But there's definitely a lot of cracks in the system. Yeah. So in many ways, um, whoever founded Bitcoin and obviously no one knows, you know, it wasn't one person was. Was it a bunch of people who knows many people have been trying to work on on a concept of it. So-called maybe people's money, top some type of currency that, that, that could be so called, produced digitally and, and effectively, I suppose, outside of the government system.
Ian de Lange: And that's obviously a concern where, and how does the government step in, but what we have now for anyone to really step in, uh, do you believe because of [00:15:00] the decentralized nature of such a huge component. Uh, it's not like this, you know, it's not like there's a head office, there's a CEO of this. There's no one.
Ian de Lange: And so this is just a protocol that's obviously just running across a bunch of de-centralized computers.
Vincent Heys: Yeah. And I think that's important is for everyone just to kind of get your heads around that one is that the dollar before 1971 was backed by gold, the dollar or any currency really now is backed by a promise from government to be able to.
Vincent Heys: To take that currency and convert it into goods. And Bitcoin is really backed by a consensus of open source developers that agree to the playing field. It's a bit like playing, playing chess that everyone agrees to the way that chess will be played. Now you can say as a single developer that you want to have more pawns on the, on the, on the chase game.[00:16:00]
Vincent Heys: And you can set it out, but the chances of everyone agreed to use very slum. And so that's the way that a good analogy in terms of how algorithms and the code behind Bitcoin is protected by consensus of open source developers, the backing of the number of Bitcoins issued. And obviously that has a direct impact on the pricing of Bitcoin, which is not the case with other.
Vincent Heys: Most of the other thousand 200 cryptocurrencies out there. And that's probably the main difference. Let's quickly talk about investment case. Uh, you know, w if we talk about risk versus return buying gold buying bonds, uh, or buying Bitcoin, what is the risk that we take for each of those three? And what is the potential.
Ian de Lange: I mean, there's an important question, obviously, and we've, we've tried to think about it a lot, but it's an ongoing process. Obviously certain asset classes as it were [00:17:00] available and Bitcoin is not necessarily that accessible. I do. And we sort of do view it more kin to something like a gold in its physical format compared to Bitcoin.
Ian de Lange: If they do share a number of attributes from, from a sort of investment perspective. And I think the biggest one. Limited availability are either scarcity factor. The second attribute that sort of comes into it from an investment perspective is it's not easy to produce. So, you know, with most of the commodities up there, you know, you increase the price, the price goes up and suddenly there's a huge incentive to go in mind more.
Ian de Lange: And there's availability, you know, whether it be iron or copper, coal, whatever the case. That's not the case with gold, no matter, you know, it's the price doubles. That's not that easy to just go and pull more out of the ground. It's very, very difficult. It's not the same as coal or copper or, and that's exactly the same with bitcoin as well.
Ian de Lange: So the price can double or triple, but can even more so because of [00:18:00] the difficulty adjustment means that actually irrespective of the price it's price inelastic, no more can be produced is an algorithm. Was. This is how many will be produced, no matter how much computing power you throw at it. So that's, that's that there's this high degree of correlation with gold in that respect.
Ian de Lange: The other attribute, the other attributes that is commonality to let's say gold is the fact that it's a non yielding asset. Unlike your property, commercial property, or your residential property that you rent out, or the company that throws off dividends, or let's say your government bond, where you're lending to the government and it's throwing back in interest.
Ian de Lange: The zero yield. So that's a zero yielding asset. Exactly the same as gold golden its physical format is zero yielding. You know, you buy, you buy the gold. In fact, we're gold. I mean, you've got to pay money to just to store the gold. So in retrospect, I'm very similar. I think many people, you know, and that's why it's sort of viewed as digital gold it's it's, it's it's it shares so many attributes from an investment perspective and that, [00:19:00] and that makes it difficult to think about, uh, for investors.
Ian de Lange: It's an it's it's a whole lot easier to have a, uh, yielding. You can discount the future cash flows and take it. This is the value of my asset. I can see that, you know, I can discount future values, uh, to, into a present value and actually produce, uh, a reasonable value of what it should be trading it.
Vincent Heys: If we talk about asset location and, uh, investors do want to include Bitcoin into their portfolio.
Vincent Heys: I think currently we see Bitcoin as a component of. The alternative asset class within the portfolio. So that just means private equity, private debt, commodities, gold. And then I guess Bitcoin could also come into that area if someone wants to include Bitcoin into their portfolio. And what do you think is a good, uh, and cautious allocation to.
Ian de Lange: Yeah, I think, I mean, it's different ways you can, you know, you can look at it from an asset allocation perspective, you know, [00:20:00] clearly believes the sort of, uh, investment case and say, okay, well there's merit in this, in this asset class, uh, in, in, by itself with history over the last 10 years, uh, you know, ever since it started getting priced, I mean, it's been, uh, it's been a exceptionally volatile asset in terms of trusting, passing in.
Ian de Lange: But that volatility has paid off in terms of the returns that's generated. So if you're, if you assume those numbers or if you even assume half of that, I think there's a, there's a use case to be, to be included as part of the asset allocation. Uh, I think that volatility does scare off obviously as a, it's a huge factor, which scares off, uh, investors in terms of including it.
Ian de Lange: I mean, I would think, you know, at a total portfolio level, 1% would be, should be a relatively easy allocation to include. Irrespective almost of the risk profile, I think of the investor. So that would be like maybe like two and a half percent of that sort of alternative care category, as you're saying, you know, if you pack it, [00:21:00] you always you're so 40%, uh, alternative category, you know, maybe it's two and a half percent of that category at 1% portfolio level, you know that the asset could go to zero and you know, your portfolio is really not going to be impacted.
Ian de Lange: But it could start, you know, lift, you know, and you don't have to look at rebalancing, but I mean, if lifted, you know, it could double and double again before perhaps you need to trying to get back in a portfolio.
Vincent Heys: Well, great. Thanks. And, uh, that was that's great insight. I think, I think just, um, just this one thing, you know, that often people think about investing in binary terms.
Vincent Heys: Often when I speak to clients, it's either want to go full out for something. Or completely ignore something. I think there's this, uh, you know, this is good insights as to understand what is backing the different cryptocurrencies and especially Bitcoin, and whether it makes sense for them. And if it makes sense, It doesn't mean that you have to [00:22:00] go aggressively into something, but rather just know that it, it potentially forms a, a portion or a small portion of the overall picture.
Vincent Heys: Because as we know as Ian said, the volatility is. So with anything you do want to spread it. You want to split your counters over the portfolio of different counters, reduce, um, the allocation, but it can form part of a portfolio and be wise in terms of using that as part of your portfolio.
Ian de Lange: I think, you know, investing is not about, um, a binary.
Ian de Lange: It is, it is about probabilities. You know, you need to look at every asset class in a range, in a range of probabilities, and it's exactly the same way. You know, so there's, there's a percentage chance that the thing goes to zero. Okay. What do you assign a percentage chance? And when you look at it in those terms, and then you can actually, you know, tone down your concern that you have, uh, about the volatility in terms of your position [00:23:00] sizing in the portfolio.
Ian de Lange: And it sort of matches with, with the sort of probabilities.
Vincent Heys: Good. Thank you so much. It was great talking to you. Thanks for the insight, I'm sure that all the listeners with.
Ian de Lange: Awesome. Thank you all the best.
Vincent Heys: Hey, thank you so much for listening to our podcast today, you can find our content on wealthstack.ca or on LinkedIn. I'm Vincent Heys and you've been listening to the financial wellness podcast series.