Why do people place their faith in crypto?

It’s a great question.

Especially now… when the prices are fluctuating wildly from one week to the next.

As far as we’re concerned, it’s a question of trust.

Around the world, people are losing faith in traditional money, banking and governments.

Years of excess money printing have eroded trust in traditional money.

And it’s driving people towards alternative assets.

That’s especially true of countries that have suffered economic turmoil over the last decade.

Countries such as Ukraine, Kenya and Venezuela, have been quick to adopt Bitcoin.

Why?

Well as Tom said last week…

No-one can manipulate this money – you own and have access to all of it. And the supply of Bitcoin is capped at 21 million. That will never change.

You can move it cheaply and quickly – no need for a middleman, no clearing house taking a cut, no bureaucracy delaying the process

It’s open to everyone, even the ‘bankless’ – people in developing countries without access to a bank account or the traditional financial system can set up a wallet in minutes

But the basic ingredient is trust.

Crypto technology enables us to transact without the need for gatekeepers or middlemen.

It’s a way to automate trust.

People who have no particular confidence in each other can exchange money without having to go through a neutral central authority.

But why stop at money?

Why not seek to find more trustworthy versions of all the other systems we rely on: for example, stock exchanges, social media, loans, legal contracts.

The Trust Machine

That brings me to today’s topic: Ethereum, the second biggest cryptocurrency, after Bitcoin.

In a few short years, a community has sprung up on Ethereum that offers every financial service you could think of.

There are substitues for dollars, automatic exchanges, lending, liquidity pools and asset management.

And we think these are the building blocks for a completely new financial system.

The project was started by a Canadian Russian programmer named Vitalik Buterin.

There are many strange myths that surround Vitalik.

We know he was an extremely gifted kid with a natural proclivity for programming, and an ability to add three digit numbers in his head twice as fast as the average human.

He has a peculiar appearance: an emaciated face and skeletal frame, with a voice that sometimes sounds like a synthesiser.

But the platform he has created truly is a marvel.

Vitalik looked at Bitcoin and recognised a technology that made it possible for anonymous strangers on opposite sides of the planet to exchange value without a bank or government or anyone else in the middle.

In the traditional financial system you need a central authority.

A central bank to issue currency.

A system of commercial banks to issue credit.

What Bitcoin proved was that you didn’t need any of that.

A currency could be created by a community, and sent and received by anyone who chooses to participate.

Bigger than Bitcoin

The more Vitalik looked at Bitcoin, the more he recognised that it was just the first in a series of crypto projects that could completely decentralise society.

He realised that if he wrote a version of Bitcoin with the right programming language, the network could function like a massive global network where everyone could pitch up and start offering services to complete strangers.

You could replicate Facebook, reassemble the stock market, or even build completely digital corporations and run them beyond the jurisdiction of any government entity.

So Vitalik assembled a team of programmers and they holed up in a bizarre relic of a building in the middle of the woods outside Zug in Switzerland.

And they spent almost a year there, hunched over laptops, eating carrots and sleeping on the floor, hatching their plan for a new type of platform that could host their parallel economy.

How does it work?

The first version of Ethereum used a consensus mechanism known as “proof of work”.

In this system, anyone could earn Ethereum if they were prepared to do the work to verify transactions on the platform.

In order to do this, they would use computer hardware to solve complex mathematical puzzles and verify new transactions.

Its like a game.

The first “miner” to solve a puzzle adds a new transaction to the record of all transactions and they are then rewarded with Ether.

In the early years of Ethereum, miners built up huge computing rigs to try and beat other miners to verify transactions.

Some of groups of miners were so successful that they have bought up huge factories on the outskirts of cities across the world to house their servers.

They even hired planes to fly in the latest graphic cards so that they can get an edge on other miners.

At one point during the 2017 bull run in Ethereum, the AI and gaming industries found that there was a shortage in the most advanced graphic cards that they needed because they were all being bought up by crypto miners.

And this all worked well for a while.

But soon the system began to experience scaling issues.

Which is when Vitalik and his team started work on a new version of Ethereum.

Ethereum 2.0 uses a “proof of stake” mechanism.

As we said, on Ethereum, everyone who has a stake in the system can volunteer to validate transactions, and get paid for it in the process.

Proof of stake differs in that instead of miners, validators stake crypto for the right to verify a transaction.

These validators are selected on the basis of how much crypto they hold, and how long they’ve held it for.

Other validators can then attest that they recognise the transaction.

When there are enough attestations, the transaction goes through and validators then are rewarded for the successful block proposition.

This process is known as “forging” or “minting”.

Today it takes between 15 seconds to 5 minutes to validate a transaction on Ethereum.

That’s not as fast as Visa or Mastercard but it’s fast enough to allow a whole fledgling financial industry to start up.

The proof of stake system is faster and uses a FAR less energy than proof of work…

And that’s where things get really exciting.

Because there are further developments on top of this which increase the speed and decrease the costs of transactions exponentially (from minutes to milliseconds and dollars to cents).

We think Ethereum will increasingly be seen as the world’s decentralised settlement platform of choice.

The Key Takeaway

Ethereum could be used to replace huge parts of the traditional system.

Essentially, it’s a machine for engineering trust.

What we are witnessing is a perfect storm of collapsing trust in the integrity and competence of government, bankers, brokers, lawyers and real estate agents… and the arrival of a technology that is opening the way to the codification of money and trust itself.

Gil Luria at Wedbush Securities estimates that over 20% of US GDP is based on ‘trust’ industries that perform middlemen.

Ethereum could eat into quite a few of these industries.

Long term, there is scope here for a whole new economy to spring up around Ethereum.

So while the price of Ethereum has been falling in recent weeks, we are approaching a very attractive entry point.

This might be an excellent time to start to build a position that you hold on to for years to come.

You can find out how we are approaching this in the academy here.

Crypto is a risky investment and a volatile asset class. Successful investors have to be prepared to stomach 50% or 60%+ falls at times and not be shaken out of the market.

If you can do that, you can profit handsomely.

And with the market bottoming out, Tom and I will be looking to increase our investment in Ethereum in the coming weeks and months.