For this Post in Product | Strategy | Innovation I will expand on prior posts that introduced Part 1: “ What is money?” And what jobs do we hire money to do for us? And Part 2: Money: Medium of Exchange. In this Part 3, we will cover Money as a Store of Value.
Job #2 for money is to be stored and retrieved at a later date without losing its value.
Historically, most currencies were backed by a scarce commodity like gold and in some cases silver. The gold standard took over in the US in the 1870s until the early 1920s with gold serving as the economic unit of account. Thus, currencies themselves could act as a Store of Value by being pegged to something scarce.
The money supply under the gold standard was constrained by how much gold reserves could grow. This was further constrained by how much new gold could be mined annually. But as governments wanted to implement more expansive policies after World War I and II, fiat currencies were created with the elimination of constraints on the money supply. A fiat currency is backed by faith in the government that declares it as legal tender.
Thus, with fiat currencies, money as a Medium of Exchange is decoupled from money as a Store of Value although one fiat currency like the US Dollar may hold its value better over time than another fiat currency like the Argentine Peso. To store value over time, excess currency can be converted into a scarce, non-productive asset like gold. As a non-productive asset, holders of gold are speculating it will hold its value or appreciate in value over time relative to other assets. Gold is regarded by some as the ultimate safe-haven asset since its Store of Value does not deteriorate in an economic crisis, is always in demand and is easily convertible. Job #2 for money is to be stored and retrieved at a later date without losing its value.
Productive assets include real estate and securities like bonds and stocks. Over sufficient time, these productive assets can also be used as a Store of Value relative to a fiat currency, but they are also subjected to expansive policies when more real estate property is developed over time and more bond and stock units are issued through both private and public markets.
Prime Manhattan land has performed incredibly well as a Store of Value over time.
However, productive assets can offer scarcity as well. Skyscrapers and high-rise buildings in Manhattan can continue to add more capacity above and below ground over time, but prime land in Manhattan is both scarce and in demand. Prime Manhattan land has performed incredibly well as a Store of Value over time.
But there are also some key limitations to using prime Manhattan land as a Store of Value today.
This Store of Value is now tied up in developed real estate. So it is not just scarce. Prime Manhattan land is considerably illiquid unless developed real estate associated with it is sold.
There are significant limitations on how much this Store of Value can be divided to manage the unit economics. Acres can be divided into square yards and square feet to manage the unit price, but that is likely the limit. This would make this Store of Value, even if available, too expensive for use except for institutional, corporate and sovereign funds.
This Store of Value has significant limitations on transportability. You cannot move prime Manhattan land as a Store of Value to Japan or Europe. You would have to convert this Store of Value into a more transportable asset with the associated transactions costs to do so.
But a retail investor doesn’t actually “own” gold through GLD. Regular shareholders own an asset backed by gold.
Gold bullion and gold coins are non-productive assets that are scarce and they are much more liquid than prime Manhattan land. Gold is also more divisible using troy ounces for better unit economics at least for the foreseeable future. And in smaller quantities up to 100s of gold coins, gold provides reasonable transportability. But moving a lot of gold starts to present challenges with transportability although certainly more portable in any scenario than prime Manhattan land.
GLD is a Grantor Trust exchange traded fund (ETF) that tracks the spot price of gold, less expenses and liabilities, by directly holding gold bullion in London vaults. This is often used as a proxy for holding gold bullion. Thus, GLD is considered a more transportable means to hold gold. But a retail investor doesn’t actually “own” gold through GLD. Regular shareholders own an asset backed by gold. And the gold is not required to be insured by the Trust and the Trust is not liable for loss, damage, theft or fraud. So, even though GLD may be a proxy for holding gold bullion, you are far removed from the custody and security of that gold as a Store of Value.
First principles help design the requirements for a Store of Value.
Potential Energy is a good proxy for an ideal Store of Value.
Store of Value (final) should be equal to or greater than Store of Value (initial). This is only possible if the Store of Value is scarce with very limited, if any, unit growth over time. Expansive policies are what drive inflation by eroding the purchasing power of money.
The ideal Store of Value should approximate infinite divisibility to manage unit economics as the market cap scales.
The ideal Store of Value should be liquid with a readily available market for conversion into another Store of Value, a Medium of Exchange or other assets. Ideally the market is available 24 hours a day, 7 days a week, and every day of the year. And the conversion should handle any value large or small.
If Potential Energy is a proxy for a Store of Value, then the ideal Potential Energy should be instantaneously transportable from any location to any other location at no cost. This allows the Potential Energy to be generated where it is cheapest and converted to do work as Kinetic Energy where it is needed the most.
The ideal Store of Value should have many options for custody (storage) including brokers, exchanges, banks, trusts, securities, corporations and even individual self-custody for the ultimate control of ownership.
An emerging, volatile (so long-term) Store of Value that shares the attributes of scarcity and liquidity with gold, but with even more options for divisibility, transportability and self-custody at scale is the original cryptocurrency Bitcoin launched in January 2009. The original design for Bitcoin was that of a payment network that settles transactions in a block every 10 minutes. Each new validated block is added sequentially to the chain of blocks.
But as the security of the network and market value of Bitcoin has increased significantly over time, Bitcoin is now primarily regarded as a long-term Store of Value with a market cap as of August 10, 2022 of US$451 billion compared to US$11.9 trillion for gold and US$2.70 trillion for AAPL. Bitcoin is also considered property versus a security.
This partnership will give BlackRock’s institutional clients access to Bitcoin trading, custody, prime brokerage and reporting via Coinbase Prime and BlackRock’s Aladdin software to manage and conduct risk analysis of their Bitcoin holdings.
But whereas institutions and sovereign funds can hold gold, GLD and securities, the lack of regulation on cryptocurrencies prevents many of these same funds from widely participating directly in holding Bitcoin. That will likely change with the largest asset manager BlackRock, with over $10 trillion in assets under management, recently partnering with Coinbase Global. This partnership will give BlackRock’s institutional clients access to Bitcoin trading, custody, prime brokerage and reporting via Coinbase Prime and BlackRock’s Aladdin software to manage and conduct risk analysis of their Bitcoin holdings.
BlackRock also announced last week the launch of a new Bitcoin private trust. This trust is available to U.S. institutional clients and seeks to track the performance of Bitcoin, less expenses and liabilities of the trust. Greyscale has offered a similar Bitcoin trust for a number of years, but the scale and influence of BlackRock could eventually enable approval in the U.S. for a spot ETF for Bitcoin to replace their trust with other asset managers to follow with their own spot ETFs for Bitcoin. These securities backed by Bitcoin could fuel more capital from institutional and sovereign funds to influence Bitcoin as a Store of Value.
As more capital enters Bitcoin with only 21 million “coins” ever mined, the price per Bitcoin will adjust.
Some individuals already hold significant assets in Bitcoin as a Store of Value. Think of Manhattan when undeveloped land was still available and before the skyscrapers were built. As more capital enters Bitcoin with only 21 million “coins” eventually mined, the price per Bitcoin will adjust. But the bull case for Bitcoin (BTC) is when it becomes an alpha asset to store value paired with a digital Medium of Exchange like the US Dollar Coin (USDC) backed by the US Dollar. USDC will also require eventual regulation by the SEC as a security.
The transportability, self-custody in digital wallets and liquidity of this Store of Value (Potential Energy) enables conversion to do work locally with a Medium of Exchange (Kinetic Energy). If USDC is not recognized in a local market, there will be a market to convert BTC to another Medium of Exchange. And divisibility also helps the use case with 100 million satoshis (units) in 1 Bitcoin.
An even more bullish use case for Bitcoin is when protocols like the Lightning Network scale the volume of transactions possible to increase the efficiency of transactions on the Bitcoin blockchain.
This decentralized BTC/USD pair in digital wallets along with a few other pairs like BTC/EUR, BTC/YEN & BTC/CNY could disrupt conventional financial services and the remittance of funds across borders. An even more bullish use case for Bitcoin is when protocols like the Lightning Network scale the volume of transactions possible to increase the efficiency of transactions on the Bitcoin blockchain. This will also address many of the environmental concerns regarding the energy requirements to operate the Bitcoin blockchain.
Bitcoin could also help accelerate the transition to sustainable energy by balancing loads between conventional and renewable energy sources while also helping to fund the build out of renewable energy sources. Nuclear and hydroelectric energy sources can be supported locally with Bitcoin mining and convert quickly to meet residential and commercial energy needs when loads spike on the grid. Bitcoin miners can be incentivized to provide this on-demand service to the energy grid.
Best,
Stephen
I’m long at least 4 operating companies that have reported holding Bitcoin on their balance sheet: HUT, MSTR, SQ and TSLA. Nothing in this post is intended to serve as financial advice. Do your own research. The opinions and views expressed in this newsletter are those of the author. They do not purport to reflect the opinions, views or policies of any other organization, company or employer.