Crypto markets tend to massively inflate values due to ‘potential global scale’: Fund manager

Starkiller Capital General Partner and CIO Leigh Drogen joins Yahoo Finance Live to discuss how crypto markets are faring after the FTX collapse, hedge fund trends in the crypto space, and how to earn a return as a crypto investor .

video transcript

DAVE BRIGGS: FTT, the FTX token, appeared after the new CEO of FTX, John Jay Ray III, left open the possibility that the crypto exchange could return, yes, return. In an interview with the "Wall Street Journal," Ray says, in quotes, "everything is on the table," end of quote, regarding the company, including a possible comeback if it provides a path to return money to investors. and other creditors. He went on to say that they are talking to interested parties who say they have identified what they see as a viable business. Who would have thought?

Crypto was less of a talking point at Davos than in previous years. It was more like a punching bag after the FTX collapse. This morning, JPMorgan Chase CEO Jamie Dimon doubles down on the analogy of him with the pet rock and adds a bit of spice, calling it an "overblown fraud." This is what Brian Sozzi and Julie Hyman heard about cryptocurrencies.

Michael Gronager: I do believe that Bitcoin prices will come back, but they will come back in a more organized fashion than expected. The interest rate will follow. So when the interest rate starts to fall, the price of Bitcoin will go up. And everyone will ask, why did the price of Bitcoin go up? Due to falling interest rates.

NOURIEL ROUBINI: FTX and SBF are no exception. They are a rule. Literally 99% of cryptocurrency is scam, criminal activity, totally, really, a bubble. The Ponzi scheme is collapsing.

DAVE BRIGGS: Leigh Drogen is a general partner and chief investment officer of cryptocurrency-focused hedge fund Starkiller Capital. Leigh, nice to see you. Your reaction to that last comment, a scam, well 99% of it is a scam. You heard it. What is your reaction?

LEIGH DROGEN: It's true. I don't know if it's 99%. Maybe it's 95%, you know, whatever. There are 30,000 legitimate coins being traded on exchanges, and yes, the vast majority of them will never be real businesses or reach scale to the point where they provide real utility.

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But I think it's important, at the same time, to be able to keep two competing ideas in mind at the same time. First, Roubini is right in what he says there, and also the limited number of these chains and protocols that are very real businesses that will provide very real utility on a very large global scale in the future, that's a very, very real thing and disruptive. . It's only a matter of time before we see that kind of scale. But yeah, a tremendous amount of fraud, a tremendous amount of ridiculousness.

SEAN SMITH: So, Leigh, given all of that, because at Starkiller Capital, for those who don't know, you're a crypto-focused hedge fund. So, you are investing in this business, or you are trading out of this business. You're not looking forward to progress here in terms of what we might see in crypto in the next 5, 10, 15 years.

He has come out with a new paper, and this is really interesting because it looks at the trend of cryptocurrency trading. And just to read a few lines of the paper for our viewers here, you compare investing in cryptocurrency to, I quote, "a hot ball of money constantly going in and out of crypto." He also says that cryptocurrencies have very little intrinsic value, as they lack fundamentals there. So where does that just leave us in terms of why you're trading crypto and that opportunity there?

LEIGH DROGEN: So if you look at the underlying potential utility for a lot of these coins and protocols and chains, the way the market treats them is basically that they're startups, right? They are simply traded with liquidity. And because of the potential global scale and how quickly these things can scale given that they're permissionless, the market basically tends to massively inflate the value of these things in short periods of time associated with a given narrative. And then, you know, because it takes a lot longer than people think, to finally... that valuation finally crashes.

When you have these kinds of dynamics associated with early-stage companies, if you want to call them that, they tend to show a lot of what we call a momentum factor, and that momentum factor is arbitrary, in a sense.

So what we do at Starkiller is take advantage of specific time frames where the history of this asset class shows that you can buy certain assets, hold them for certain lengths of time, and then rotate to other assets, you know, and constantly spend for that process. And it's been very profitable, and we've shown that it significantly outperforms Bitcoin and so on.

DAVE BRIGGS: So if someone is sitting at home looking at it right now thinking, okay, I've never gotten into the crypto space, are you selling it for long-term practical use or just a short-term opportunity to make some cash? ?

LEIGH DROGEN: I think it's both, and you really have to know which one you're in for, right? So, in my opinion, there are basically three ways to invest in the cryptocurrency market. One is that you only buy some Bitcoin and/or Eth, personally, and this is not a strong opinion. This is my personal opinion. I think Ethereum probably has, you know, a bigger, longer lasting utility for all of this, and you basically have to forget about that because individual investors are really bad at dealing with the kind of volatility that these high-growth , high volatility assets have. They tend to throw up their assets at the most inopportune times, which would be like right now instead of, you know, at the top. And then you have to forget about it for the next 10 years and close your eyes and deal with it.

The second way to do it is, you know, kind of like what we do, but that requires a lot more attention and risk management, but it's not rocket science, you know, frankly. We are not running massive machine learning models. You know, there are a lot of them, but they're pretty basic statistical models and they work.

And then you can day trade, right? And that obviously requires a lot of attention. There is a lot of money to be made there, but you have to be very, very good at it, and you have to have nerves of steel.

SEAN SMITH: Leigh, is this any different than what we're seeing on some of the meme stock? I mean, we try to make sense of all the volatility and all the momentum that we certainly see in that asset class. Does that fall under the same thing?

LEIGH DROGEN: I think there are similarities and similar things that drive those two variables there. There's not a 100% overlap, but certainly concepts like excess liquidity, you know, in the economy, people having time to, in a sense, bet things. We like to use the term that the cryptocurrency casino is the bootstrapper. for the most usefulness of it as we go along. You can't make these big crypto networks liquid and both sides of these markets have enough people to have any real utility unless there are people who want to be there without much utility initially.

So the casino of that, the trading of that, the financialization of that is kind of a bootstrap. When we look at some of these other, you know, meme actions, it's kind of similar in a way. You know, they're betting on things that may not have much intrinsic value today. They may not have much intrinsic value tomorrow. And certainly there are interest rates and a lot of the things that drive -- you know, drive both.

DAVE BRIGGS: Very interesting conversation. Leigh Drogen, Starkiller Capital, thanks for coming.