The Exchanges

Q I'm curious how that works in practice from the enforcement perspective, in that there could be millions of people who are on-ramping and off-ramping every day. So how does someone tasked with trying to find the nefarious on-ramp go about doing that?

A Well, I think it's all been possible because the on-ramps and the off-ramps have become quite regulated and quite overseen the same way that money service businesses are. So if there's some activity illegal that goes on in Bitcoin, eventually those coins are going to make their way to a wallet or to a transaction at an exchange or an order book or a service provider or a merchant processor. At which point, a transaction is going to be tied to somebody's name, bank account, bank name, etc. And the blockchain transactions are immutable. And so the transaction can be traced all the way back, no matter how many hops or transactions ago it was. And so ultimately, there's always going to be backward looking, a source that's going to be able to be identified.

AI assessment note: “blockchain transactions are immutable. And so the transaction can be traced all the way back”

Q So if you look at your large cap fund, what does that look like in terms of the underlying tokens and instruments?

A Yes, so the product itself is a rules-based methodology that has been reflected in an index, and so it seeks to give exposure to the upper 70% of the digital currency market, and then holds those assets on a market cap weighted basis. Now, given the way that we operate our business, there's a lot of disqualifiers as well. We have to have addressable markets, we have to have sound custodial solutions, and so today, That product is a market cap weighted basket of Bitcoin, Ethereum, Litecoin, and Bitcoin cash. But over time, and it does get re-evaluated quarterly, there's nothing that would prevent the product from owning 10 or 20 assets or suddenly going down to only owning two assets. It's all about providing market coverage and hoping that over time, investors will always have exposure to those assets that have the greatest network value, trading volume, etc.

AI assessment note: “That product is a market cap weighted basket of Bitcoin, Ethereum, Litecoin, and Bitcoin cash.”

Q Why would someone buy at a premium in the public market if they could just call you up and create at NAV?

A Well, so a lot of the public market trading is presumably being done by non-accredited investors. So there's a big group of the investment community that may not qualify to buy the shares directly from Grayscale at NAV. And two, I think there's a lot of activity as well in tax-advantaged accounts, and so investors looking for digital asset exposure in their IRA or Roth IRA or profit-sharing plan or whatever it may be, and because these are in fact securities, both through the private placement as well on the public market, this has been a really seamless mechanism for investors to gain digital asset exposure in those types of accounts. Since buying Bitcoin or other assets directly in those accounts is pretty much prohibited at the moment.

AI assessment note: “a lot of the public market trading is presumably being done by non-accredited investors.”

Q Over the last couple of years, there are some names like Coinbase that are clearly very large in this space. And then there are others, former ones like Mt. Gox that ended up not being a credible counterparty. If someone's looking into this space, how do you have to think about how you can make sure that your counterparty is someone credible?

A Yeah, so I think it comes down to the regulatory regimes that do or do not oversee and administer policy on top of a lot of these trading venues and order books, and so you're looking out for whether or not these are the types of places that are asking for AML and KYC information, provide tax reporting, have certain SOC reporting in place, disaster recovery, What their data retention is, things like that. So again, these are not the kinds of questions that the average investor asks themselves when they make a decision between opening an account at Schwab or TD Ameritrade. They kind of feel like both are just as good as the other. And so that's again why it's early days for this asset class and why it's ripe for opportunity. And we'll eventually have a lot of these become household names or maybe the Schwabs and the TDs end up acquiring them. But in the meantime, Still can be challenging and unfamiliar to a lot of investors.

AI assessment note: “it comes down to the regulatory regimes that do or do not oversee”

Q I'd love to walk through the products and really just get maybe a basic description of each of the ones you've selected. And to start with, maybe just for perspective, Bitcoin's had this huge run. And I'm curious, either in your large cap fund or maybe across your whole business, what percentage is sitting in Bitcoin?

A So the lion's share of it. So if I look at AUM across the product family, Bitcoin, or the Grayscale Bitcoin Trust is now probably occupying, let's see, call it about 80, 82% of our AUM, which has actually been coming down in value. It actually used to constitute A larger percentage of the Grayscale product families AUM. When we look at, for example, the Grayscale Ethereum Trust, that's now occupying a much larger share of the pie. It's over five billion dollars now, that product, and that now has emerged as the largest Ethereum fund in the world. And so after that, it tapers off quite quickly, but it's great to see momentum in our other products like the Digital Large Cap Fund, Like Litecoin, Bitcoin Cash, you know, these are products that are now in the hundreds of millions of dollars of AUM. And I remember a not too distant time ago when the Ethereum product was only a couple hundred million dollars of AUM. And so it's been encouraging to see the uptake and participation there.

AI assessment note: “call it about 80, 82% of our AUM”

Q Now you started with Bitcoin. How have you thought about the selection of which other digital assets to provide into products?

A It's a challenge. We're just far and away the largest manager in the space, and so there's quite a bit of scrutiny paid attention to the decisions we do and the decisions we don't make. I think more than anything, we look at practical considerations around certain tokens and whether or not to launch a product that could very easily be overlooked, and so we're looking at, well, what's the origin of a token? Is it possible that it was launched as a security? Or is it in fact something that falls outside of the idea of being a security, in which case it can be packaged into an investment fund? We look at the degree to which there is or is not centralization within a single asset itself. Who is it controlled by? Who are the decision makers within the ecosystem? We look at the regulatory status. Has it been recognized anywhere? Is there an addressable market that we're able to access and trade in? Is there legitimate price discovery and pricing mechanisms? What's the integrity of the underlying blockchain? Is it fraught with vulnerabilities, or is this something that is legitimate and stable and is kind of being adopted on a larger level? For us, we're pretty scrutinizing, and so there are certainly a lot of very promising digital asset protocols that we would love to launch products around, but unfortunately, The venues where they trade, or the instability of the underlying blockch…

AI assessment note: “we look at practical considerations around certain tokens and whether or not to launch”

Q Why don't you describe what Grayscale's business is today?

A So Grayscale is the world's largest digital currency asset manager, and so Grayscale is to digital currencies, maybe what PIMCO is to bonds or Vanguard is to indices. It is been and continues to be our mission to provide access and exposure to the digital currency asset class in the form of a security. Investors have had and continue to have Difficulty sourcing, transferring, storing, safekeeping digital assets directly. And so the grayscale business has been and continues to be born out of the idea that we can facilitate investors participation in this asset class by doing so in a structure or format that feels really familiar to them. We today have nine different investment products so that investors can gain exposure to the asset class.

AI assessment note: “Grayscale is the world's largest digital currency asset manager”

Q What's happened underneath the seams on the underlying technology that's different, say, today in this rise in Bitcoin than back in 2017?

A So on the underlying technology itself, not a ton, and that's actually ok. I think the development community around digital assets, Bitcoin, et cetera, is as robust as it's ever been. But there's also, as much as a lot of these talented developers are looking to innovate, And continue to challenge the status quo, find vulnerabilities, improve upon these protocols. There's also still this shared appreciation that, 12 years into Bitcoin, we, Thankfully, haven't really broken it. We haven't really messed it up, and so it's kind of the old adage of, if it ain't broke, don't try and fix it, but while that has remained relatively stagnant, and that's, I'd say, something I'd argue is a good thing, the dynamics of the market have changed tremendously since 2017. The development of derivatives, lending and borrowing, trading tools, tax lot reporting, order management systems, I mean, a lot of that infrastructure And a lot of those on-ramps were not in place back then, and you're dealing with a market that is much, much more robust, and did not have a lot of these dynamics at play two, three years ago.

AI assessment note: “So on the underlying technology itself, not a ton, and that's actually ok.”

Q I'd love to go through a basic description of what all of these protocols and ecosystems do. So why don't we start with Ethereum?

A Sure. So Ethereum is a distinct digital asset from Bitcoin and all the other assets folks have heard of. It is a protocol that is really meant to be a gas, if you will, to power decentralized applications. Things like smart contracts, a lot of decentralized finance is being built on top of Ethereum, and so the idea around Ethereum is that it is Going to, again, be a gas that powers applications, and so investors are thinking about owning pieces of that gas as more and more applications are getting built on top of it. So thinking about essentially what we're going to think of as programmable money, things that cannot be disputed like they are in human to human interactions, but rather programmable outcomes that are based on mathematics And payoffs associated with them, and so starting to see a lot of things being built on that, and pretty much anything that is being built on Ethereum can just as easily be deployed on Ethereum Classic. Very, very similar code bases with a couple of just different underlying philosophical distinguishing factors between the two protocols that really are tied to supply and governance and things like that. Bitcoin Cash is different than Bitcoin. There's a fork of Bitcoin. Call it a sibling. A lot of similar attributes, but again, looking to improve upon Bitcoin with higher transactional throughput. So one of the main flaws that is often looked at in …

AI assessment note: “Ethereum is a distinct digital asset... protocol that is really meant to be a gas”

Q Michael, where do you think your business is two or three years from now?

A Well, here's where I hope my business is in two or three years. What makes Grayscale amazing is its people. We are now 30 people strong. Our headcount is certainly continuing to grow and will continue to grow, and so I am a firm believer that our people come first and they're everything. Of course, second only to our investors and those entrusting us with their investments, so I hope as we grow our credo of transparency and being Reliant on one another and inclusive doesn't get diluted as our headcount grows. I hope and I'm confident we will continue to bring additional products into the market that will continue to provide new offerings and access for investors as they think about allocating to digital assets. And I think that we will certainly be making pretty material investments around both technology That will create some automation and improve our investor experience as well as our brand. We've known to be a pretty innovative and leading edge advertiser and working on quite a few fun things to continue to be hopefully a well-received actor in the digital asset space. If you ask me where prices will be or what AUM will be, your guess is as good as mine.

AI assessment note: “Well, here's where I hope my business is in two or three years.”

Q There's always this question of these digital coded owners and illegal activity, money laundering. What's the process for someone to get into this ecosystem in a way that they are known to this decentralized entity?

A Digital currencies like Bitcoin. Are, in fact, the worst, and again, I'll repeat, the worst mechanism for you to use if you would like to do anything the least bit untoward, nefarious, legal, you choose your own word. Every transaction in Bitcoin, the best way to think about it is that it leaves a digital breadcrumb behind, and so while you may operate in Bitcoin or on the Bitcoin network in a pseudonymous capacity, At some point, your identity is going to be revealed at one of the on-ramps or the off-ramps, and that is why law enforcement is so unbelievably engaged with this asset class, because unlike folks who may be doing nefarious activity with cash, with digital assets, the blockchain and that digital breadcrumb example again allows them to catch bad people doing bad things. And so some of the companies that we work with that provide blockchain surveillance and monitoring are companies like Chainalysis and Elliptic that actually can determine whether individuals, whether coins, whether certain transactions are associated with any kind of nefarious activity. Think about that. I could take a dollar from you, Ted. I could go deposit it into my bank. I have no idea if that bank is going to do anything with that dollar, not do anything with that dollar. I have no idea what transactions that dollar has ever been a part of. It could have been a part of a drug deal. It could have…

AI assessment note: “your identity is going to be revealed at one of the on-ramps”

Q And what have been some of the counter arguments that you come across?

A There are fewer and fewer these days. I think one of the ones that I do come across a lot, which frustrates the hell out of me, is when folks say, uh, well, okay, come on, Michael, Bitcoin has failed because I'm not buying a cup of coffee with it. And then this preconceived notion of Bitcoin as currency. And to that, we say, listen, in the developed world, Bitcoin is at a minimum in today use case, It's digital gold. It's speculative in nature, and it may not be anything in our lifetimes other than a digital store of value. It certainly has the potential to be all kinds of other things, but it is certainly in very many investors' minds outshining gold, so to speak, because it's more divisible, more portable, and is actually scarce. So that one is one that comes up frequently. I think some folks often say, well, isn't digital currency Kind of like, or Bitcoin, like the anti-ESG investment, and I need to be concerned about that these days because Bitcoin mining is heating up the world and melting the Arctic and all that, and we kind of drill into Bitcoin mining and the fact that it's more often than not done with renewable energy sources, and that's another big misconception that's out there. I mean, at the end of the day, Ted, I'd say in my seven, eight years being in this industry, Anybody who has really done the homework, I mean, really read up and really looked at Bitcoin and…

AI assessment note: “one of the ones that I do come across a lot... Bitcoin has failed because”

Q When you go and talk to people about the suite of products, what's the pitch for these assets?

A Investors are really coming to the plate, I'd say, more knowledgeable than we've ever seen them. I would still say, for the most part, investors' first foray continues to be an investment in Bitcoin, but twenty-twenty saw two new groups from our standpoint. One was the emergence of the Ethereum-only or Ethereum-first investor, which was just really interesting. I think kind of going alongside the proliferation and interest that we've It's seen in DeFi or decentralized finance. And then two, we saw the emergence of people that I think from an investment standpoint finally appreciated that Bitcoin and this asset class around it as a whole were here to stay, and that they knew they wanted exposure, but knew that they couldn't find the winners and avoid the losers. And we're looking to make like a singular allocation that would be broad based. And so We started seeing a larger uptake for the digital large cap fund where people could accomplish just in fact that giving themselves a broad based view and exposure to the asset class.

AI assessment note: “We started seeing a larger uptake for the digital large cap fund”

Q In any of these protocols, I suppose if someone is looking to invest in them, they need to try to figure out if the protocol will get used more and more and more, and therefore create value to the token. How do people go about doing research on whatever they think the value is today and what it might be in the future?

A So it's tough. We certainly do our piece, we hope, to provide educational resources around protocols. We have a great library of primers on each of these assets on the Grayscale website. It's called the Building Blocks series. In addition to that, though, we recently authored two papers that I would definitely encourage folks to check out. One is called Valuing Bitcoin, and the other is called Valuing Ethereum. The reason we decided to write these and publish these two reports is because we were so often hearing investors' enthusiasm and excitement for investing in these protocols. But when it would come time for them to figure out, well, what's my price target, or what do you mean there's no cash flows, and this is not Coca-Cola, this is not Google, and so we started to have to realize that investors should be thinking about valuing these assets in a way that is distinct from the way that they may look at valuation for more traditional assets, where they're, they might be able to do a discounted cash flow, For Coca-Cola, but for Bitcoin, they actually don't even know it, but they can look at the blockchain itself, and they get a tremendous amount of data that can be leading or lagging indicators or create certain signals that can be extrapolated out and associated with value accretion or depletion. And so it's not easy, but neither is this asset class, which is why we have a b…

AI assessment note: “they can look at the blockchain itself, and they get a tremendous amount of data”