Bitcoin for Capitalists

Fred Krueger

Foreword:

A lot of books have been written about Bitcoin. Most of them have a very anti-society bent.
The world is drowning in debt. Inflation is rampant. The gap between rich and poor has never
been higher. Enter Bitcoin, the savior. Finally we have hard money and people’s values
miraculously change. We enter a new utopia, where war is a thing of the past, people live in
small “citadels”, and big government somehow ceases to exist.

I don’t believe this for a New York minute.

I do, however, believe that Bitcoin is going to be fantastically successful, and is going to make
an enormous positive impact on some people’s lives: specifically those smart enough to jump
on board at this relatively early point in Bitcoin’s life cycle.

Call me cynical. Call me self-interested. Make fun of me because I am only interested in

“number go up”. All of this is quite true. And the only reason I am writing this book is that I
hope to do my part in pushing the game theory of Bitcoin to the next person. Handing
somebody a book, especially somebody I know, is a better use of my time than repeating for
hours on end what Bitcoin is, and why it’s (at this point) the best long term, financial asset that
I am aware of.

Written, literally above the North Pole on a flight from Dubai to Los Angeles.

Fred Krueger

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 Chapter 1
Origins

Bitcoin came into being in 2008, when an anonymous person (or group of people) called
“Satoshi” published a 9 page white paper that outlined in precise detail the architecture of a
new digital currency. Shortly after that, a working version of this new system was released as
open source code. Anybody could copy it, and start “mining”. Bitcoin was born.

Nobody actually cared at that point except for a few people deep in cryptography who quickly
started to understand that this might be the solution to a problem that is far more complex
than it might initially appear.

But let’s back up.

The idea of digital currencies was already thirty years old by the time Bitcoin was invented. A
pretty well known example of this was the digital currencies “Beenz” and “Flooze” that had
some success around 1999, at the peak of the “dot com boom”. These currencies operated
like reward points in a database. You sent in some dollars, and you bought some “Beenz” at a
fixed exchange rate, which you could then send to people quickly on a web-based platform.
This allowed merchants to easily sell things online without asking for a credit card each time.

On paper this kind of setup seems ok. But there are vulnerabilities. If you use a credit card to
buy Beenz, and the credit card is stolen, these Beenz could have already been spent on hard
goods by the time the credit card fraud was noticed. That is in fact exactly what happened to
Beenz. Russian hackers used stolen cards to buy Beenz, used those Beenz to buy electronics
on the market, and sunk the company.

But over and above the payment rails, these systems all relied on central databases and
companies maintaining these databases to exist. Flooze had Whoopee Goldberg as their

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spokesperson, but once the money ran out the servers were shut down and Flooze ceased to
exist.

The question of whether it was even possible to create a digital currency that didn’t require a
company or a central database to store things was unclear in 2008, just as the great financial
crisis started to unfold.

And then Satoshi dropped the whitepaper, with the first solution that actually worked. Satoshi
combined a lot of ingredients together with certain key new parts, and the first completely self-
sustaining, decentralized digital money was born.

The core idea

Satoshi started out with a radical core idea: that the total supply of coins would be finite. These
coins would be created by “proof of work”, where miners solve problems of varying difficulty,
with the difficulty automatically adjusted to give an average solution time of 10 minutes. Once
one of these problems was solved, the “miner” solved it could commit as many transactions as
possible in a 1 MB block, and then link that block to another block, creating an immutable
public ledger called the “blockchain” which records every single transaction ever done.

In order to keep the maximum number of coins finite, every 210,000 blocks (or roughly every 4
years), the mining rewards would be cut in half. Starting at 50 BTC per block, we have already
had three such halvings. We went to 25 BTC in 2012, 12.5 BTC in 2016 and 6.25 in 2020. In
April 2024, we will have the 4th halving bringing the reward to 3.125 BTC.

The ideas of regular timed blocks, difficulty adjustment and halving are all very uniquely
Satoshi. Without these elements, there is no way to have a crypto currency with a finite amount
of coins. This of course is the core feature of bitcoin. Sum up all these mining rewards from the
first block mined to infinity and you get the famous “21 Million” maximum supply.

This immediately caught some people’s attention. The first person to receive a Bitcoin from

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Satoshi was the cryptographer Hal Finney, who quickly computed that the price of Bitcoin
could potentially reach 10 million dollars if the new invention actually took off.

Other people had gotten pretty close to this solution, but weren’t able to piece it all together
like Satoshi. The idea of “proof of work” came from my personal friend Cynthia Dwork, who
thought of it in 1992 as a solution to solve spam in email. Adam Back pushed this idea much
further along with his “HashCash paper”. Nick Szabo , Wei Dai and Hal Finney got even further
with Bit Gold, B-Money and RPOW, three proto-Bitcoin systems, the latter of which was
actually coded up, and not just a theory.

There has been speculation that Hal Finney was in fact Satoshi or part of Satoshi. I personally
think that this is possible. But it doesn’t really matter. The entire point of Bitcoin is that the
code speaks for itself. Once the first “genesis” block had been mined, all future blocks could
be mined by anybody, without anybody’s permission, and without any central database. The
entire history would be encoded as a long linked list of blocks, each of which contained
thousands of transactions.

Nakamoto Consensus

I won’t spend too much more time on the technicalities of Bitcoin or its origins, but I do want to
point out how Bitcoin addresses the issue of “double spends” or “bad transactions”. At first
glance, this is a core problem with the system. What prevents a bad actor from mining a block
and including one or more invalid transactions, for example taking Bitcoin from one address
and giving it to one that they control?

The answer is brilliant: game theory. As the blocks are very hard to mine, a massive amount of
electricity / compute power is needed to find one. The competition is intense: 25 GW of Power
and several million miners are now all trying to solve the next block. At this point if you
happened to own a 1GW Nuclear reactor ($5 Billion setup cost) and several hundred thousand
specialized mining machines you might find one block per day. It’s that difficult. That block
would be worth today 6.25 Bitcoins or about $250,000. Now if you decided to put in that block

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a completely invalid transaction, your block would likely not get selected to form the parent
block of the next found block, because they, like you, would not get the benefit of finally
getting the Bitcoin reward.

If this seems complex, don’t worry the key thing is to get a rough idea of how the blocks are
linked together. This diagram is directly taken from the Whitepaper. Again the important thing
is to make sure your block does not contain any problem transactions otherwise the next block
may skip yours, and just chain off of your parent!

With less than 50% mining power, your possibility to abuse the system decays exponentially.
Again, if you use the 1 GW nuke example above, you would only control about 1/24th of the
overall hash rate, and it would be next to impossible to continue your fraud over even 6 blocks.
The system is “exponentially hard”. Which is why it works.

As an aside, the actual parameters of this exponential hardness were set out by Satoshi on
page 9, and I have confirmed them on a google sheet which you are welcome to check out
here. The math is not trivial. It’s part of the standard Graduate level probability theory, which
Satoshi references in Feller Vol 2, a book I used myself at Stanford in Graduate school.

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Chancellor on the Brink
Satoshi created Bitcoin in 2008 as a complete solution, but he left it open for the general
community to make minor changes. A number of these were made over the years, including
moving the block size from 1 Mb initially to now a total of 4 Mb today (it’s a bit more
complicated than this, but I won’t go into details). The main defining thing of Bitcoin was and
still is the hard limit on money supply.

Satoshi clearly saw this as a fundamental goal: fight the kind of crazy fiat money printing
machine that had created crisis after crisis, resulting in the Great Financial Crisis of 2008/2009.
As a testament to this the Genesis Block contains, in the actual Bitcoin code, the text
“Chancellor on the Brink of the Second Bailout for Banks”. Satoshi is saying right here, for
posterity, that this system is intended to replace them all.

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 Chapter 2
Number Go Up

There are a lot of reasons to buy actual Bitcoin, which we will go over in the next Chapter, but
most of these will not apply to you, dear fellow Capitalist. Let’s face it, the only reason you
have made it to Chapter 2 is because you have heard stories that Bitcoin might just be a
superior asset, and that regardless how volatile it is, you might want to consider it in your
portfolio

When looking at the price of Bitcoin, the numbers get so big so quickly that the first years get
blurred on a graph. So let’s just focus on a few data points: the first day of each calendar year.

Jan 1 2011 $0.30

Jan 1 2012 $4.72
Jan 1 2013 $13.51
Jan 1 2014 $771
Jan 1 2015 $310
Jan 1 2016 $431
Jan 1 2017 $998
Jan 1 2018 $13,657
Jan 1 2019 $3,849
Jan 1 2020 $7,220
Jan 1 2021 $29,370
Jan 1 2022 $47,620
Jan 1 2023 $20,250
Jan 1 2024 $44,167

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Now it is one thing to look at these numbers briefly. It is an entirely different thing to have any
substantial amount of money and ride up and down this rollercoaster. If anything, these end of
year numbers under-state the actual volatility of Bitcoin. In 2020 for instance, the market
managed to reach $60,000 before losing half its value and ending the year just below $30,000.
Anyone who has lived through the 2022 bear market remembers the peak of $67,000 in
November 2021 and the fall all the way down to $16,000 in January 2023.

Intraday, the market can suddenly drop 10% in minutes over a rumor of a ban, Satoshi’s coins
moving, or any number of factors. And then it can come right back, equally fast, and end the
day up. Long time traders of stocks will look at it and conclude it is completely irrational, that it
doesn’t make any sense. When it falls, the naysayers will appear out of thin air and announce
with high confidence that it is going to zero.

A website called “Bitcoin is Dead” keeps track of all the times the press, and leading pundits
have declared that Bitcoin is headed to zero, together with the price at the time. A few recent
examples include:

“Crypto Is Never Coming Back” – Twitter | $16,618.2 November 2022

“Bitcoin Will Go Negative” – Peter Zeihan | $16,955.08 January 2023
“Bitcoin Is A Joke Wrapped In A Fraud” – Express | $24,436.35 March 2023

This behavior has been consistent all the way back to the very beginning of Bitcoin. People
were negative at $100, at $1,000, at $10,000 and at the all time high of $69,000. While it is
trading below the all time high, I personally expect that to fall this year making the percentage
of people wrong on Bitcoin a clean 100%.

If you want further validation that Bitcoin is a bad ponzi scheme look no further than legendary
investor Warren Buffet, who has declared that it is “Rat Poison Squared ''. His former partner
Charlie Munger has called it “Worthless Artificial Gold”, and Jamie Dimon the head of JP
Morgan Chase, has summed it up in one word: “Stupid”.

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Imagine now holding a substantial position and watch it drop suddenly and continuously for
months on end, and then get the psychological pressure of the mainstream media trotting out
these Bitcoin experts to tell you that you are about to lose all your money.

I didn’t have to imagine. I felt it. Bitcoin ended 2017 at a peak of almost 20,000 in November,
and every tech person I knew in Santa Monica had moved into some form of crypto currency
startup. A year later, it hit a low of 3,400, exactly on the last day of the year. Even though that
was 2x the price of 2 years earlier, the pressure for anybody in “the industry” was soul
crushing.

I wasn’t around during the previous cycle, but by accounts of people who lived through this
period, the feeling was identical. This was it. The gig was over.

Reading about these ups and downs is one thing, living through them is another. And, as much
as I would like to tell you so, these cycles are probably here to stay.

So in what world can we really say “Number Go Up”?

Well, as it turns out the enormous volatility of Bitcoin masks a clear progression when you look
at the data the right way. I am grateful for Stephen Perrenod and Giovani for this model.
Coincidently, both of these gentlemen are astrophysicists, and for both it was natural to look at
this data on a “log-log” basis.

Log Log graphs

Astrophysics naturally compare objects on logarithmic scales. In fact Kepler in 1614 used
exactly this method to compare the distance of the Planets from the sun to the length of the
Orbital period. He found that these two quantities fell on a straight line, when measured in log
space, and from that he deduced that the square of this period is equal to the cube of the
distance.

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Logarithms are the reverse of exponents – they make power series look like straight lines. And
this doesn’t only apply to astronomy. Many natural relationships fall into what we call these
“power laws”

In order to apply log-log graphs to Bitcoin, we’ll need one additional tweak. We need to
consider time in “Block Years” as opposed to calendar years.

Let’s just define a “Block Year” as 52,500 blocks. If we do that then the halving occurs in
exactly every 4 block years, so we take the variability of the difficulty adjustment out of the
equation.

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The Power Law Graph for Bitcoin

With this in mind we get a very compelling graph.

In log-log space, Bitcoin is moving inexorably higher as time goes by. The three peaks of 2011.
2014 and 2017 are almost precisely aligned, and the peak of 2020 is just a bit low.The
downside channel also follows a very consistent line.

It’s not quite Kepler’s planets, but it’s eerily aligned. It’s almost as if the game theory of

(a) Bitcoin being a finite supply

(b) The mining rewards decreasing by a factor of 2 every 4 years
And
(c) The word of Bitcoin / usage increasing by some normal exponential spread factor

all, together, create this power law behavior.

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A little bit further down in this book we will go into reasons for why this behavior occurs, but for
now the main thing I want to leave you with, dear Capitalist Reader, is the price behavior is far
from random and can be expected to increase in the decade ahead.

How to think of the data: focus on the lows

I opened the chapter with a list of Bitcoin prices at the beginning of each year. And we have
seen historically how the data tracks the power law. But another way to look at the data is in
terms of yearly lows.

Bitcoin Yearly Lows

2012 - $4
2013 - $65
2014 - $200
2015 - $185
2016 - $365
2017 - $780
2018 - $3,200
2019 - $3,420
2020 - $4,565
2021 - $28,105
2022 - $15,635
2023 - $16,510
2024 - $38,550 (so far)

This idea of “higher lows” is really a good way to get comfortable with the massive volatility of
Bitcoin.

Gold as a benchmark

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As I write this today, Gold has a market cap (according to Google) of 13.7 Trillion USD.
Bitcoin’s market cap is exactly 846 Billion.

So Gold is worth exactly 16.3 times as much as Bitcoin. Ignoring any price movement of Gold,
Parity would put Bitcoin today at $700,000 per coin.

We’re definitely moving in that direction as the chart of Gold priced in Bitcoin shows. But we
have much, much further to go.

Now extreme Gold Bugs such as Peter Schiff, would argue that this is just a temporary
aberration. Gold has been around for 5,000 years, while Bitcoin has only been around for 15.
How can this new store of value possibly replace the established standard?

My answer to this is Gold is just a technology for storing value, much like the Horse, for the last
5,000 years as well has been the standard technology for transportation.

In just 12 years however, New york city went from being filled with horses and buggies (1901)
to filled with cars (1913), The following picture of 5th avenue shows this exactly

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When a technology comes across that is far better than a new technology, it gets adopted
pretty quickly.

For this reason, I have argued online that parity of Bitcoin to Gold is just the beginning. Getting
from a price of $1,000,000 per coin puts Bitcoin in the same zip code as Gold, but there is no
reason why we couldn’t get, as Hal Finney suggested, to $10 Million.

Power Laws applied to Gold / BTC Cross

As my friend Stephen Perrenod notes, the same power law analysis for Bitcoin / USD can be
applied to the Gold / Bitcoin Cross.
It doesn’t look particularly good for Gold. In 2013, One ounce of Gold was worth more than 10
Bitcoins. Today it’s less than 0.1 BTC. The Gold / Bitcoin relationship has deteriorated 100x in
just 10 years, on a very consistent basis. In Statistical terms, R2 is 0.87 with an F Test of 819
on 128 Observations.

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Why is Bitcoin the better technology than Gold?

Human beings have used all kinds of things to keep track of ownership. Shells, beads, and
even large stones (on Yap Island in Micronesia), have been used. Wampum and furs were also
used as money. See Nick Szabo’s Shelling Out, where he talks about how money began as a
collectible.

Gold won out in most cases because it is rare, relatively portable, and relatively durable. It
certainly has some “real world uses”, in electronics and jewelry but that is almost incidental to
Gold’s role as money. It is just a convention.

Bitcoin, while only 15 years old, has an established user base of some 150 Million people, and
is far easier to transport and audit than Gold. It is also mathematically rare, as opposed to just
“rare today”. There is no possibility of a major discovery, such as the Spanish discoveries in

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Mexico and Peru in the 16th century. Finally Bitcoin is much easier to protect than Gold. No
vault or armed guard is needed, only the ability to safely remember 12 or 24 words.

At the very beginning of Bitcoin’s life, you could argue that it might have a hard time reaching
critical mass. You can’t argue that today, as Bitcoin has uniquely come back 3 times now from
deep 75%+ bear markets to reach a total market cap of nearly 1 Trillion USD. As I was
discussing very recently with Lawrence Leopard, this is a unique asset to have ever pulled this
off.

So should you sell all your Gold?

The short answer for me is no. I am again going to reference Lawrence Leopard, who I think
makes an excellent point that while Bitcoin has the highest potential and will eventually
overtake the market cap of Gold, much higher volatility comes with that higher alpha. I myself
own physical gold, and I have no plan on selling. Having 100% of one’s net worth in Bitcoin is
not a reasonable position, and I would argue that having only Bitcoin and no Gold is also
extreme. These two assets complement each other. And while Gold purists like Peter Schiff
argue all Gold, and Bitcoin purists like Saylor argue all Bitcoin, I find myself more in the 90 / 10
range, and would argue as Bitcoin goes up towards 1 Million, I might even shift that more to
60% BTC, 40% Gold.

Tom Lee’s demographic arguments

If you don’t follow Tom Lee, the Wall Street analyst at FundStrat, you should. Tom is a top Wall
Street analyst who really “gets” Bitcoin. I had the opportunity to meet him in 2019 in Bermuda,
and the trip was key to my “Orange Pill”.

In a nutshell, Tom argues that each generation has a preferred asset class, specific to its set of
circumstances.

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The “Great Generation”, those who lived through WW2, were also children of the depression.
They favored Gold as an asset when they reached peak spending power in the 1970s.

The “Boomer” generation felt better about the world, and embraced “SP500 Index Funds”.
This is what drove Vanguard’s success from the 80s to the early 2000s;

The next generation, “GenX” grew up with the Internet and the PC / Mac and wanted Tech
versus just Broad Large Cap. This drove the outperformance of the Nasdaq from 2010 on.

Finally for the current rising generation, “Millennials” the values of mobility and freedom are
key. They are all about “experiences” and less about “McMansions”. For this generation,
Stocks are less interesting. Crypto, and specifically Bitcoin is the killer asset.

This demographic argument really made sense to me and is part of my framework for why
Bitcoin has been so successful over the last decade in particular. Sure it is being used more,
but really it is the perfect asset for the next generation. The narrative is perfect for this
generation of Millenials. It can be moved everywhere with you as you live your nomadic
lifestyle, it is your protection against the Federal Reserve and the Government that you don’t
trust, and it can be held directly – without any banker, brokerage house or other intermediary.

This is for me, succinctly the reason that Bitcoin is actually going up. The math is perfect, but it
also is perfect for this generation, for this set of circumstances. This is not so much a
technology as an asset class that perfectly mirrors the ZeitGeist..

To Summarize

Bitcoin is indeed, verifiably and mathematically a new “number go up technology”. It’s

massively volatile, and subject to 75% drawdowns, but over 4 years or more, it has a track
record of absolutely beating any other asset class. When looked at on a log-log graph it’s
pretty hard to argue that this is a fluke. When compared to Gold, it appears that a 10x or 20x of

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the price from current levels is absolutely achievable, and a 100x is in the realm of possibility.

Does that mean you should sell everything you own and buy Bitcoin? I personally don’t think
so, but I know people who have. As we will quantify later, at this point it just belongs in your
portfolio. Depending on your age and risk appetite, somewhere between 1 and 5 percent is the
recommended allocation is the number we will get to. As we will see later, if you are a
millennial, a much higher recommendation is recommended.

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 Chapter 3
Asset Allocation

In the previous two Chapters I introduced Bitcoin as a revolutionary new asset, went into its
technical origin story, and made the case that over any long period it has performed
remarkably. I want to now go into very specific guidelines as to what form to own it in, how
much of it to buy as a percentage of your portfolio, and how to think of it as a long term
holding.

I have to make the disclaimer that this is general information, not financial advice, and that this
represents my opinion only. I recommend you talk to your financial advisor before making any
final decisions. Think of this as just a starting off point.

How to hold Bitcoin

There are roughly speaking three ways you can hold Bitcoin
- in physical form, in a hardware wallet
- in custody with an exchange like Coinbase
- through an Exchange Traded Fund (ETF).

I will cut to the chase and immediately recommend that for most Americans, the ETF is the
recommended approach. This will irritate hard core Bitcoiners, but i aiming this book at
Investors, or as I call them “Capitalists”. The ETF is tax efficient, simple to buy and sell, and fits
in your brokerage account just like any other stock.

At the time of this writing, ETFs are less than 1 month old, but they are already showing
extreme popularity, with over 8 Billion dollars moving into the “New 9” Bitcoin ETFs.

I will get into “Physical” Bitcoin a little bit in future chapters, including hardware wallets keys
and trading of Bitcoin on Exchanges, but I think all of this is best left for later. The most

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important thing is to get you up and running with the right Bitcoin ETF and give you exposure
to the asset.

The ETF Choices

On Thursday Jan 11 2024, the first ETFs started trading. This was a momentous day for those
of us in the Bitcoin world, an event that has taken a full 10 years from when the first ETF
applications were filled by the WinkleVoss brothers. In rough order of personal preference, here
are the top 4 contenders:

IBIT - The BlackRock Bitcoin ETF, is the biggest of the new ETFs, run by the world’s largest
asset manager. It is extremely cheap, (30 bp) and has deep liquidity already. I own it.

FBTC – The Fidelity Bitcoin ETF, is running number 2 to IBIT. The product is top rated, backed
by Fidelity which is almost as big as BlackRock, and integrated into Fidelity’s platform.
Technically, Fidelity does its own Bitcoin custody, which some view as a plus. The fees are a
touch higher than IBIT, but I the product is good.

ARKB – The Bitcoin ETF from Cathie Woods ARK Investments is a much lower market cap
than IBIT or FBTC, but might make sense to you if you already have exposure to ARK
products.

BITB – The Bitwise ETF is the “independent” ETF from Bitwise, a crypto fund provider with an
excellent reputation has made a splashy entrance with a clever marketing campaign and ultra
low fees. I would at least check it out.

I believe any of these 4 ETFs will do the job to get you exposure to the asset. Which one you
go with is a personal choice, and will depend to some extent of where you have your existing
brokerage account. Merrill Lynch and Vanguard accounts will not allow you to buy these ETFs
at the present time. If you fall into this category, I would recommend opening a Fidelity

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account, which I just helped someone with, and I must say the onboarding experience was
excellent.

What about GBTC ?

Technically the largest ETF around, the GrayScale Bitcoin trust is to be avoided. With fees of
1.5% versus 0.3% for IBIT in particular, there is no logical reason for any new Bitcoin holder to
choose the GBTC solution.

This entity has a long history as a closed end fund, and a problematic one at that. Mired in
litigation, and facing massive exodus from investors, it should not be on your investment menu.

Tax implications

Part of the popularity of ETFs is their ultra efficient tax status, As long as you hold the ETF for
more than a year, you will be subject to long term capital gains taxes, just like any other tax.
No special tax reporting is needed: it’s just another stock in your portfolio.

Are these new ETFs really Bitcoin?

Many people wonder if these ETFs are really backed by actual Bitcoin, or if these is some kind
of funny business going on, where like a bank, they have “partial backing”. The answer is
simple: your ETF is 100% backed by actual Bitcoin held in the custodian. In the case of IBIT
the custodian is CoinBase, and the IBIT shares are only created once Coinase receives the
Bitcoin from the “transfer agent”.

This is really important to understand. There are multiple kinds of ETFs, but the 4 i have singled
out are what are called “spo” ETFs, meaning that they hold actual Bitcoin as opposed to
futures or other types of Bitcoin “exposure”. This means that absent day to day redemptions
and cash creates, the tracking is one to one. I don’t want to get into the weeds of the creation
and redemption process here. Suffice it to say that you can trust this “wrapper” to faithfully

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match the performance of Bitcoin the asset

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