Blood In The Water

I was reading a cryptocurrency report from Goldman Sachs this morning and stumbled upon the following chart:

Source: Goldman Sachs

Now, put those dates in the context of the Bitcoin price action (which I think is a fair approximation of investor appetite for cryptos more generally):

Source: Bloomberg / coindesk

This speaks to a corollary of The Golden Rule:* The market supplieth what investors doth demand. If people are willing to throw billions of dollars at crypto lottery tickets, you can bet they will find an ample supply of coins and tokens to invest in.

Another, perhaps more intuitive way of thinking about this is that “easy” money attracts “investors” like blood attracts sharks. The sharks come swimming, and if there is enough blood in the water a feeding frenzy will ensue.

This description from Wikipedia is rather evocative:

In ecology, a feeding frenzy occurs when predators are overwhelmed by the amount of prey available. For example, a large school of fish can cause nearby sharks, such as the lemon shark, to enter into a feeding frenzy. This can cause the sharks to go wild, biting anything that moves, including each other or anything else within biting range. Another functional explanation for feeding frenzy is competition amongst predators.

In boring old non-tokenized finance, this dynamic drives the credit cycle. Suppliers of capital get good deals when capital is scarce. They get crap deals when capital is plentiful. When capital is plentiful, and investors are overly trusting, capital ends up in the hands of miscreants and value destroyers (though admittedly, many value destroyers are well-intentioned). In fact, driven wild by greed and vying for deal flow, investors compete aggressively to offer capital on favorable terms to miscreants and value destroyers.

What kind of deal do you suppose you are getting when you exchange cold hard cash for a token with no protective covenants, that gives you no claim on equity or future cash flows, and which may not even exist yet?

Source: Wikipedia

* The Golden Rule: He who hath the gold, maketh the rules.


I am generally a contrarian by nature.

To illustrate:

  • I am skeptical of home ownership as wealth creating endeavor.
  • I do not like reading “popular” books or seeing “popular” movies for the sake of being able to have conversations about them.
  • In my view at least 50% of the episodes of Game of Thrones are time-wasting filler.
  • I am generally not that into big events that draw crowds (sports victory parades, Coachella, Burning Man or Fyre Festival–but there are exceptions).

Perhaps unsurprisingly this permeates my investment philosophy. Things I like right now include a Russian natural gas company, a Brazilian aerospace company and sub-Saharan African bank holding company (I have a North African/Middle Eastern bank on my watch list, too, if the valuation ever comes down to earth). This is not a recipe for outperformance. It is not investment advice. It is just who I am as an investor.

Being a contrarian investor is great. You have good company in people like Seth Klarman and Howard Marks. On the other hand, being a contrarian in the investment business is not nearly so pleasant.

Contrarian ideas are often hard to sell and investment committees are engineered to arrive at consensus decisions. Consensus decisions are generally good for business. Consensus decisions will not deliver top quartile performance but they will not deliver bottom quartile performance, either. You can have a very nice business and never deliver top quartile performance. But woe betide you if you end up in the bottom quartile. It may well be the end of your business.

I sometimes hear about firms that designate “devil’s advocates” on committees. The devil’s advocate’s job is to argue against every single investment thesis. She is not allowed to argue in favor, or to moderate her argument. She is a dedicated short and everyone knows it in advance. This is a neat solution to the problem of encouraging a contrarian viewpoint in a high pressure group setting (contrarians can often grate on their fellow committee members). But does it make any difference?

What percent of ideas get blown up because of the devil’s advocate? Or is the whole thing just an exercise in box-checking dreamed up to please consultants? I suspect in most cases it’s the latter.

Edward Hess summarizes the issue quite nicely in an article titled “Why Is Innovation So Hard?”:

Most organizational environments won’t help us overcome our fear of failure and build our innovative thinking skills. That’s because most organizations exist to produce predictable, reliable, standardized results. In those environments, mistakes and failures are bad. That is a problem. To innovate, you must simultaneously tolerate mistakes and insist on operational excellence. Many businesses struggle with implementing that dual mentality.

Here we can learn from exemplar companies like IDEO, Pixar, Intuit INTU -1.84%, W.L. Gore & Associates, and Bridgewater Associates. In those organizations, mistakes and failures are redefined as “learning opportunities.” IDEO takes it even further, characterizing failure as good because it helps people develop the humility that is necessary for empathy—a critical skill in user-centric innovation.

But in many workplaces, people do not “feel safe enough to dare.” They don’t necessarily feel that they can speak with candor up and down the organization. Can you tell your boss the truth?  Innovation occurs best in an “idea meritocracy,” a culture where the best evidence-based ideas win. There can’t be two sets of rules—everyone’s ideas must be subject to the same rigorous scrutiny. As Ray Dalio, the founder of Bridgewater Associates, one of the largest hedge funds in the world, so bluntly said, “We all are dumb shits.” That’s why everyone at his company is engaged in a radically transparent “search for truth,” which involves candid feedback and a deliberate effort to “get above yourself,” to get past the emotional defenses that inhibit our thinking.

In other words, organizational incentives are skewed toward rewarding preservation of the status quo. If The Golden Rule is “He who hath the gold, maketh the rules,” surely immediate the corollary is “He who f***eth with The Golden Goose shall meet with a pointy reckoning.”