Can't touch or feel a digital asset?

Dennis Posadas November 22, 2023 11:20

One mental hurdle that many older generation investors like Warren Buffett, Charlie Munger, Jaime Dimon, and others have over digital assets is that it is not real. By real they mean something that is basically matter, something that occupies space and has weight. They often point to commodities like gold and silver, which have been used for ages as a store of value, that you can hold in your hand if you want, and have other uses such as jewelry and other industrial applications.

This mental hurdle of needing something to be physically tangible has its roots in the way many of us grew up alongside analog assets. From an early age, we traded baseball cards, toy soldiers and guns for boys and Barbie dolls for girls. We consumed music that was in analog LPs, in cassette tape, in digital DVD, and other formats. For us, the physical medium was part of the allure of the music.

However the current Gen Z and Alpha generations all grew up in a purely digital world. They have never used rotary dial payphones, or owned analog versions of music and film, instead preferring to stream it online from Spotify or Netflix. Some of them do not even need to own a car or a vacation home, preferring instead to use Uber (or Grab), and rent an Airbnb listed property. Those who play games often purchase "in game digital assets" like swords and skins, and trade it among themselves. In short, their world is digital and that is the only world they know.

In trying to defend their position, older investors mention all the advantages of analog assets like real estate, bonds, stocks, physical commodities without acknowledging the disadvantages. Especially now that we have reverted back to a high interest rate world. Try paying someone with $1M worth of gold internationally, it is not that easy and safe. That ease of transacting cross border payments is one great feature that digital assets do possess.

If you've had an argument with the bar over your drinks tab, you will realize that having many people know what you ordered versus your word against the cashier is far better. It is the same with a synchronized multiple ledger blockchain. Having many validator servers in synch that simultaneously record that you already paid your mortgage or car payment for the month or transferred property ownership, versus losing that record because the single centralized server handling your account was hacked, is a superpower older investors fail to realize.

Real estate for example may be real but is not that liquid and totally risk free. Office Commercial Real Estate (CRE) occupancy is low these days because of the Work from Home (WFH) trend and has cut into present and future rental and lease cash flows. Sometimes you immediately need the cash but cannot sell a property, unless at a big discount.

Bonds these days have demonstrated that these are subject to duration risk market value devaluation when current yields go up, and even credit risk when the issuer can no longer pay not just the yield but also the principal.

In a recession, the price of stocks can drop because these are simply priced based on an estimate of the present value of future cash flows. To say nothing of a stock implosion if the world suddenly finds out that the management team has been engaged in criminal activity.

The 60/40 stock and bond allocation is no longer true in a high interest rate world. To say nothing of counterparty risk if the company, bank, or even country, goes belly up. Right now, debt levels and interest rates globally are at extremely high levels. If you cannot sell an asset at that point in time that you need the cash, it does not really matter if it is a stock, a bond, or a digital asset.

Then there are those who say digital assets are too volatile. The volatility (or beta in finance) relative to a market like the S&P 500 is more a function of who the investors are rather than the asset itself. Once the big institutional investors take positions in digital assets for their portfolios, they will not act like a jumpy retail investor afraid to lose his small stake who will suddenly sell off.

Before detractors pass judgement on the new world of digital assets, they should try to assess both the risks and advantages objectively. Fraud exists in all new technologies and all types of asset classes.

The recency bias influenced by the way news tends to highlight crypto fraud and downplay traditional finance fraud that happens every day fails to recognize that all technologies, whether credit cards, the Internet, email, and other, have had their share of fraudsters at the start, but we learned how to manage those risks over time. Even today we still have credit card fraud, but we have learned how to manage and avoid it.

If you can sell your asset in the future when you need it for a good price, then it functions as an asset. The risks and characteristics that older investors became used to in an analog world are just an old paradigm that they have, and not really relevant to the value of an asset in a world where most of the young live, work, and play in a digital domain.

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Dennis Posadas

The writer is a Filipino crypto and blockchain advocate.