Ari Paul's View of The World Macro, Capital Markets, and Redefining Finance

Hello everyone. I'm probably the dumbest person on real estate in the room. I'm going to be talking about topics that are a little bit outside the core focus today, but that I can talk about a little more intelligently and hopefully in an interesting way for you all. I'm going to split my talk in two: first, big picture markets, global macro, and the crypto market cycle in a very succinct way, hopefully leaving you with a few useful data points or takeaways. Then the second half, I'll talk about the real-world assets theme through the credit lens. My firm, Blocktower, I'll talk just about 20 seconds about it so you know where I'm coming from. We started as a cryptocurrency investment firm six years ago, and we've grown into a general multi-asset management firm that includes a traditional credit franchise where we invest in traditional credit but that taps into cryptocurrency for prime brokerage, for financing of things like tranche assets and ABS. So I'm ignorant of much of the work that Natalia and many of you have been doing on the real estate side, but I can talk somewhat intelligently about the credit side, and there may be some interesting parallels that you can draw.

Starting with markets and macro, I think we're likely looking at something like the 1970s as a decade. That's not a contrarian view; many Wall Street research reports say similar. We're seeing it play out: rising inflation concerns, rising volatility, rising geopolitical risk. It's interesting to see this play out in real time. Concern about Israel-Palestine, for example, is not what happens there in terms of global markets, but the spillover effects we're seeing potentially with Iran, Syria, Jordan, Saudi Arabia. That's all part of the same macro theme: governments being under very tight pressure from their massive debt overhang, competitive currency depreciation, and basically rising risk aversion globally. We're also working through massive bubble backlogs. VC venture capital as an asset class was one of the biggest bubbles in human history two years ago, and I think people still don't fully appreciate just how big of a bubble it was. In cryptocurrency, where it was probably the most egregious, we saw seed-stage projects that basically had no chance of success getting hundred million seed financing rounds, almost guaranteed losses led by the best species in the world, the biggest brand names. Valuations have come in about 80%, but they're probably still too high in most of the sexy themes to venture capitalists. Similarly with sovereign debt, we had things like long-dated UK sovereign debt, the safest stuff in the world, fell 80% over the last two years. But there could be much further to go in many emerging markets and many parts of the world. So the way I'm personally investing and managing my own finances is very different from five years ago when we were in an era of free money, easy leverage, and almost zero risk aversion. For me personally, what makes sense is a barbell approach: hard assets, which is certainly a theme that many people are in favor of, things like real estate, gold, maybe Bitcoin is part of that, as well as cash flow. Cash flow is king in these kinds of environments. Entrepreneurship and business building, if you're building cash-flow-generating businesses, for me is part of that right-tail hedge on the inflationary scenario.

Turning to the cryptocurrency markets, I like using a baseball analogy. I think we are in something like the third inning of a bull market in cryptocurrency. What I mean by that: most asset classes through history, you go back 500 years, whether it's commodities, equities, credit, different countries, different centuries, there are certain patterns that arise from psychology. Typically, bull markets start with strong-hand value institutional buying. It's like buying real estate in 2008 where it's just attractive, the cash flows are attractive, smart money says this is a good value buy. Then it becomes a little bit of a common sense wisdom: this is how you allocate if you're a pension, if you're Wall Street, if you're a mutual fund. Then it usually becomes a retail frenzy if it's going to be a bubble. In cryptocurrency, every cycle where we've had a big bubble blow-off top, it always ends with a retail frenzy that's very visible in the data. For example, at the end of 2017, the last leg of the rally was South Korean retail, and you can see that very clearly in exchange data. That's the dumb money, the retail money buying into the meme that usually marks the end of the cycle. In cryptocurrency today, we're seeing relatively low volumes, relatively little interest, relatively weak product-market fit, weak usage, all pretty negative, but all pattern matches to the early stage of recovery. Over the last two months, we've seen a steady tick up in all of those variables. The things exciting the cryptocurrency industry today are things like the BlackRock Bitcoin ETF, which is about 90% to be approved in the next six months to help usher in more institutional interest and inflows. If history repeats, which I think it likely will, over the next three years for cryptocurrency, price appreciation in assets like Bitcoin then triggers public interest. You have New York Times and Wall Street Journal articles every day saying Bitcoin hits a new all-time high, which triggers retail interest. Price appreciation triggers greed, so people then say, 'I don't just want a 2x or a 5x, I want a 10x or 100x,' so they move down the risk curve. I want to be mindful of my time. My take: I'm not a cryptocurrency cheerleader. I don't tell people to mortgage their home and put their life savings into it. But today, and there have been many points in history where I've said I don't know if it's a great entry, personally I think this is a pretty attractive entry. But risk of bound shifting.

Now to the RWA, where I'll get much more in the weeds and a lot more technical. My firm two years ago got very bullish on this as a concept, as a theme. I wanted to bet half my firm on this theme, on this idea, on this concept. I'm really an investor, I'm a geek, I'm not a salesman, I'm not really an executive. So for me, first through the lens of investment, there was almost nothing to invest in. There were very few companies in existence. You had a few companies like Propy, but not many quality teams fundraising, very few liquid assets to invest in. So we turned our attention possibly even to entrepreneurship on the theme. Over the last year and a half, we've tokenized about 1.4 billion in assets. I'll clarify what that means. Most of that are T-bills, treasury bills. We've tokenized about 1.2 billion of those, and we've done another about 250 million of asset-backed credit securities, mostly bundled consumer loans. We've done that in two forms. One is we have this traditional credit fund that's buying those asset-backed securities, and we then tokenize them and sell them or place them with a stablecoin operator called MakerDAO. MakerDAO is a big cryptocurrency project with a multi-billion dollar valuation. The purpose of it is to create a dollar-pegged stablecoin that doesn't need dollars as collateral, that can be operated in a decentralized way. I don't know if Maker will exist in five years; it's certainly a good faith, promising, very interesting project. The key point I think at this stage is that on the credit side, we haven't really tokenized anything. I just threw out big numbers of what Blocktower has tokenized, but the reality is those tokens are not transferable for regulatory reasons. One of the biggest headaches in the space on this theme is the regulatory side. That kicks in around permissioning of transferability, basically AML/KYC. I'm pretty practical in how I think about compliance and regulation. Navigating cryptocurrency as an entrepreneur, as an asset manager, certainly requires some flexibility in the gray area. I was thinking if I should say this if this is recorded: the SEC is one thing, DOJ is another. When we talk about financial regulations around security offerings, that's usually civil, it's very questionable whether the SEC might even win in court. Whereas things like AML/KYC are often 'do not pass go, go straight to jail' kind of stuff. So there's a race by us and many other players to figure out the right regulatory compliance structures so that we can offer this to institutions, to SoFi, we can package these loans and sell them to a traditional hedge fund. Those are mostly unanswered questions today. Some of that will be very path-dependent on upcoming legislation, upcoming regulation. The next election in the US matters because it may result in regime change for the SEC administration. So that's an unsolved question, but there's a lot of smart people racing ahead. As one example of an attempt at solving this, there's a project that's using a German regulatory framework to tokenize securities that will then be permissionless transferable throughout the European Union. Natalia, I'm not sure exactly when I started, so feel free to give me a time warning. I'm probably just going to monologue until someone tells me to stop.

So yeah, all the tokenization so far is effectively just a wrapper. What do we need to make it real? What do we need to make this actually disruptive of prime brokerage, of traditional Wall Street? My goal, what I'm betting on, is that over the next 10 to 15 years, we create an alternative system to Wall Street prime brokerage, which is basically a 60 to 80-year-old system that's a crazy Rube Goldberg machine. Anyone who's ever had to deal with bond settlement knows it involves 18 different financial players as part of a stack, everyone's using old outdated software and standards, and you can't change anything because everything is so interconnected. It's a little bit like bootstrapping an electric car where you have the problem of all the existing infrastructure is gas stations. You can't sell an electric car without the charging stations, you can't have charging stations without the car. So how do you bootstrap that? It's creative problem solving around the initial product-market fit. I really like to think about the zero to one Peter Thiel framing. Amazon wanted to build what they've built, but how do you get started? Amazon sold antique books that Barnes & Noble didn't sell as their little zero to one footstep. What Blocktower has done is very similar. We haven't done anything real on the theme. What we've done, with a lot of hard work, is solve a little mini coincidence of wants to help bootstrap, to help find that product-market fit, to help subsidize all of the engineering and compliance work that's ongoing and going to come over the next few years. The main things we need to do to make this real: right now, when we have these tokenized T-bills or tokenized ABS securities, all the real work is happening within the traditional financial system: the bond servicing, the custody, the bond math and calculations, the fund administration. We basically just have this little token sitting on top. One by one, those pieces need to get moved and integrated into a separate system, an on-chain system, so that all of this gets the value benefits that I think many people in the room have been hearing about all day: transparency, 24/7 settlement. All of those benefits only arise if enough of the system is on-chain and separate. Otherwise, the bottleneck remains the traditional system. The ones we've identified as those next precursors: having bond math calculated on-chain, having data and API standardization. It's challenging. Cryptocurrency in almost every area has a million competing standards, and no one knows what the standard will be in three years. So if you're JP Morgan, you're very reluctant to invest a year of engineering time connecting to an API feed when you have no idea if that's going to be the API feed you care about in two years. So it's a race right now to build these basic financial primitives, engineering primitives, standardizing things like the data of how you even report bond delinquencies, how do you report that, how do you process it. We need all the players in the ecosystem on one or two identical standards, or at least ones that can interact with each other in a healthy way. Many other pieces of the bond servicing stack, we definitely can't do this all at once. This is going to be over 10, 20 years. Many other pieces I think are likely to play out as hybrid or piecemeal. For example, we may be able to... Oh, I see I have my clock. Thank you so much. As an example, servicing delinquent bonds: how do you do that, how do you automate that? You probably can't fully automate it, but maybe we can decentralize it. Maybe you can create incentives where regional broker dealers are incentivized to get a delinquent bond performing, and maybe we can create an incentive system where that can actually be done in a decentralized marketplace kind of way. If that sounds pie in the sky and ambitious, I don't disagree. Those are the things I'm thinking about more five to 10 years out, which may or may not ever play out.

I'll end with how I'm trying to think about this in the product-market fit sense. With MakerDAO and what Blocktower has done so far, it was a lot of work to identify a problem we could solve at all. For me, the process was interesting. My first thought was, 'Hey, I can go to any credit fund manager and say, if you give me $100 million of the bonds you currently have and I can get you 30 basis points of savings or value on top, wouldn't you give me all your money?' And their answer was no, because Wall Street finances rated securities cheaper than cryptocurrency capital. So we really had to fight to find the coincidence of wants between basically creating a value proposition for an average credit investor. Credit investors don't want to underwrite new tech, they don't want to underwrite new platforms. If you're investing in Microsoft, you don't want to take crazy startup risk alongside it, right? Why would you? So it's a lot of work to both make this frictionless and as close to riskless as possible with things like ancillary risks. We've been able to structure things where we're taking zero risk to cryptocurrency, which takes a lot of complex and very detail-oriented work. Then you have to prove it. It's not enough to say that; you have to be able to prove it to a Goldman, to a JP Morgan, which is an immense amount of work. So a key thing is thinking about what is that initial zero to one value proposition, how do we get that initial interest. It's a different answer for each segment. For institutions, it's a number, it's part of my language, it's a lot of cover your ass. You need all the boxes checked, you need to have a 50-page document that gets their legal team comfortable that you've researched every legal element. So it's brands, but in a very different way than retail. You need to be able to check a million of these institutional boxes about how it interacts with all of their riders, all their systems. For retail, it's almost the opposite. I actually think that risk-adjusted yields don't matter to retail. Retail kind of just responds to the headline yield. So you're looking for very different elements of quality of product. For retail, it's just convenience. Some of the things we're looking at for bootstrapping this is integrating with existing platforms, whether that's a Coinbase or a SoFi, and having a product that's like a money market fund that they can seamlessly move in and out of. An example of how this is going wrong right now and why the opportunity is so big: you have... I don't know how many people in the room are familiar with Tether. Could you raise your hand? Gotcha, great. I didn't know quite how crypto-native the crowd was. Tether is basically a hedge fund, a credit hedge fund that takes plenty of risk, does asset selection, engages in active trading, where all of the returns are kept by the principals, any losses are borne by the stablecoin holders. It's basically like the worst credit hedge fund structure in the world. Why does that exist and why does it have more than $40 billion? Well, it has more than $40 billion. Thank you. I'll take 30 seconds. Basically, the regulatory side has made it difficult for stablecoins and things like an on-chain credit fund to actually pay out yield or cash flows to investors. As soon as you're paying out yield or cash flow, you're in a whole different regulatory regime that has made that so far near impossible in crypto. That will change. My point is, we already see there's more than $50 billion of interest for the worst possible version of this product. Thank you.