Translation: Plain language blockchain
After eight consecutive weeks of gains, the crypto market has finally seen some pullback. However, my bullish sentiment on Bitcoin is stronger than ever, even as we are currently in a price exploration phase. The reason is simple: as an asset class, Bitcoin is gradually entering the (3,3) system of traditional finance (TradFi).
1) Growth of passive funds
To understand TradFi, one must first understand the development of passive funds in investing. Simply put, passive funds are investment products designed to track and replicate the performance of a specific market index or market segment, rather than attempting to outperform them. These funds follow specific rules and methods to serve their target markets and risk preferences.
SPY (SPDR S&P 500 ETF Trust) and VTI (Vanguard Total Stock Market ETF) are examples of well-known passive funds. Your financial advisor friend or older relatives may have suggested you buy these funds instead of some 'air coin', but you proved their advice wrong with your actions! Anyway, I'm digressing.
Most investment enthusiasts may remember that Buffett once made a bet with a hedge fund manager, wagering that the S&P 500 would outperform the vast majority of actively managed funds, and it turned out that Buffett was right. Since 2009, passive funds have rapidly risen, becoming the investment choice for the vast majority of people.
But please don't consider those college classmates addicted to WSB options as 'the vast majority'.
A deep dive into all the details driving the development of passive investing would require an entire article, but we can summarize it into a few simple factors:
1) Cost efficiency
Passive funds (such as index funds and ETFs) generally have much lower expense ratios than actively managed funds because they do not require fund managers to engage in extensive 'active operations'. Once the rules and methods are set, the subsequent work is mainly done by algorithms, requiring only minimal human intervention during quarterly adjustments. Lower costs typically mean higher net returns, making passive investing particularly attractive to cost-conscious investors.
2) Accessibility and distribution channels
In simple terms, passive funds are easier to access. You don't have to sift through which active funds are worth investing in. There is an entire industry dedicated to delivering financial products to your grandparents, and passive funds have become more deeply integrated into these distribution channels due to regulatory influences. For instance, most active funds face restrictions on promotional materials, whereas passive investment products have truly integrated into various channels such as 401(k) and pension systems.
3) Stable performance
"The wisdom of the crowd" often yields better results. Over the past 15 years, most actively managed funds have underperformed their benchmarks, further highlighting the advantages of passive funds. While you may not achieve tenfold returns like early investors in Tesla or Shopify, most people also wouldn't bet 50% of their net worth on a single stock. High risk is not always the sexy choice.
4) Still unconvinced? Here are some interesting data
In the U.S., assets in passive funds have quadrupled over the past decade, growing from $3.2 trillion at the end of 2013 to $15 trillion by the end of 2023.
As of December 2023, the total assets under management (AUM) of passive funds have, for the first time in history, surpassed those of active funds.
Data from October 2024 shows that U.S. equity index funds hold $13.13 trillion in global assets and $10.98 trillion in U.S. assets, while actively managed equity funds hold $9.78 trillion and $7.26 trillion, respectively.
Index funds now account for 57% of U.S. equity fund assets, compared to just 36% in 2016.
In the first ten months of 2024, U.S. equity index funds saw inflows of $415.4 billion, while actively managed equity funds experienced outflows of $341.5 billion during the same period.
For this reason, the entire traditional finance sector and crypto fund managers with traditional finance backgrounds are highly focused on the progress of Bitcoin ETFs (pun intended, as they are indeed 'invested' in it). They understand that this will be the starting point of a larger tide, truly bringing Bitcoin into the retirement portfolios of ordinary people.
2. Crypto investment products
What is the relationship between Bitcoin ETFs and passive funds? While the three major index providers (S&P, FTSE, MSCI) have been working on developing cryptocurrency indices, their adoption has been relatively slow, starting only with single-asset crypto products. Clearly, this is because these products are easier to launch, which is why everyone is rushing to be the first to launch a Bitcoin ETF. Today, we are beginning to see efforts to develop Ethereum staking ETFs and more products based on altcoins.
However, the real killer product is BTC hybrid products. Imagine a portfolio with 95% in the S&P 500 and 5% in BTC, or 50% in gold and 50% in BTC. These products would be more reassuring for financial advisors to recommend, and they would also be integrated into the supply chain of investment products, thus expanding their distribution channels.
Nevertheless, the launch and promotion of these products will still take time. As they emerge as new products, they do not automatically enjoy the monthly inflow advantages of existing popular passive products.
MSTR drives traditional finance
Next up is MSTR: As MSTR is included in the Nasdaq 100 index, passive funds (like QQQ) will be forced to automatically buy MSTR, while MSTR will use these funds to purchase more Bitcoin. In the future, new BTC-stock-gold hybrid passive products may emerge to replace MSTR's role, but in the foreseeable 3-5 years, due to MSTR being a mature, publicly traded U.S. company, it is more likely to quickly meet the criteria for inclusion in top passive fund indices compared to newly launched passive products, thus playing the role of a 'Bitcoin treasury company'.
Therefore, as long as MSTR continues to utilize capital to purchase more BTC, the demand for Bitcoin will keep increasing.
No better options
If this sounds too good to be true, it's because there are still some small obstacles to overcome for MSTR to play this role more effectively. For example, MSTR's chances of being included in the S&P 500 are smaller because the S&P 500 requires companies to have positive cumulative earnings for the most recent quarter and the past four quarters. However, new accounting rules set to take effect in January 2025 will allow MSTR to account for changes in the value of its BTC holdings in net income, which may qualify it for inclusion in the S&P 500 index.
Essentially, this is the core of traditional finance.
5 minutes of rough calculation and hypothetically, I really only spent 5 minutes doing this calculation. If there are any errors or suggestions on the assumptions, please leave a comment below!
In short, because MicroStrategy is integrated into the supply chain of traditional finance, the entire passive investment ecosystem of traditional finance will inadvertently buy more Bitcoin, just as they unknowingly hold Nvidia stocks, which has a similar effect on Bitcoin prices as traditional finance.
