Note: In addition to the two hours it takes to record this show, our guests dedicate a serious amount of time to preparing beforehand. Being a podcast guest requires a serious time commitment, so please, if you enjoy this content, thank Ari for this episode.Thanks @AriMNazir for the excellent interview with @claycollins on The Flippening Podcast. Click To Tweet
This is one of our three best episodes to date (certainly in contention for the #1 spot).
I met Ari in part because I’m a limited partner in Protocol Ventures, which we covered in a previous episode. Protocol Ventures is a Fund of Funds with a portfolio that includes crypto asset hedge funds like BlockTower Capital, MetaStable, PolyChain, and Ari’s Neural Capital.
As an LP of protocol ventures, I get to see how these funds are performing; these reports made it clear to me that I needed to have Ari on the show.
Ari is without a doubt one of the top minds in crypto investing, and I think you’ll find this episode to be as funny as it is informative.
- Sentiment and momentum investing and why value investing might be overrated when it comes to crypto.
- When and how Ari would buy a sh*t-coin.
- Why Ari wouldn’t get in the door of most traditional funds.
- Ari’s favorite twitter accounts and telegram groups for staying up to date.
- Exponential moving averages, Simple moving averages, and some of Ari’s other favorite indicators.
- Ari’s strategy of shorting everything pitched on CNBC fast money.
- Why Ari is pro-regulation and why he thinks when it comes to trading, the first thing the SEC will go after is insider trading.
- What Ari refers to as the “Bitcoin Chad trade”.
- How Ari might short something like Stellar.
- Why Ari models Neural Capital after Jane Street.
Links Relevant To This Episode:
- Ari Nazir
- Neural Capital
- Protocol Ventures
- BlockTower Capital
- Kyle Samani
- Multicoin Capital
- Crypto Hedge Funds and Multicoin Capital w/Kyle Samani (Episode 0002)
- Andreessen Horowitz
- David Sacks
- Jane Street
- The DAO
- Ethereum Classic
- Richard Thaler
- Crypto Yoda
- Crypto De Medici
- Justin Sun
- Brian Kelly
Terms Mentioned in the Episode:
- Pure Play
- Quant Funds
- High-Frequency Trading
- Ichimoku Clouds
- Exponential Moving Average
- Simple Moving Average
- Relative Strength Index
- Sentiment Investing
- Prime Brokerage
Clay Collins: My guest today is Ari Nazir. Ari is a founder and managing partner at Neural Capital. I met Ari in part because I’m a Limited Partner in Protocol Ventures. Protocol Ventures is a San Francisco based fund-of-funds with a portfolio that includes prominent crypto asset hedge funds like BlockTower Capital, MetaStable, Polychain and our guest Ari’s Neural Capital. As an LP of Protocol Ventures I get to see how these funds are performing and these reports make it clear that I needed to have Ari on the show. Ari is without a doubt one of the top crypto investing minds and I think you’ll find this episode to be as funny as it is informative. I think this will go down as one of the most downloaded episodes of this podcast.
This will be the very first two-part series we’ve done with a guest thus far. In this episode, which is part one, of my conversation with Ari we discuss, one, sentiment and momentum investing and why value investing might be overrated when it comes to crypto assets. Two, when and how Ari would buy sh*tcoin. Three, why Ari wouldn’t get in the door of most traditional hedge funds. Four, Ari’s favorite Twitter accounts and telegram groups for staying up to date. Five, exponential moving averages, simple moving averages, and other favorite indicators. Six, Ari’s strategy of shorting everything pitched on CNBC Fast Money. Seven, why Ari is so pro-regulation and why he thinks when it comes to trading the very first thing the SEC will go after is insider trading. Eight, what Ari refers to as the Bitcoin chad trade. Nine, how Ari might short something like Stellar. 10, why Ari models Neural Capital after Jane Street. This is his podcast debut, please enjoy my conversation with Ari Nazir. Ari can you tell us about the origin story of your involvement in crypto asset investing?
Ari Nazir: To go into my background in crypto asset investing it’s pertinent to just disclose my initial entry into the space. It was relatively recently in 2015. I was working at the White House under the last administration and got introduced to a company called Ripple. Now for the listeners, yes, Ripple, XRP is not a real cryptocurrency, please don’t @ me on Twitter for that, but it’s just helpful to know that it is a blockchain based ledger that is supposedly being used by banks to transfer capital or settle transactions. I was actually working on part of the team that help fine XRP for being an illegal money servicing business and we can talk about that more later. But that’s how I first got into this space. Then I had a stint in venture capital where I focused really on crypto infrastructure.
Looking at companies like ShapeShift, BlockStack and a few other smart contract platforms. That’s around the time when the DAO happened, so got to see that from sort of it’s nascency to the explosion during the summer. Then it really was the response, the really professional response in my opinion after that and how that was handled really for everybody in the entire world to see, that got me believing in the potential for Ethereum and smart contract platforms because by that point Bitcoin was at maybe $1,000. It’s a fraction of what it is today, but it wasn’t zero. I felt confident that Bitcoin was a cockroach that was going to survive but it was really after the DAO that I had more faith in a lot of the governance and the way that people were able to respond to real-world events.
Clay Collins: Hey, Clay here to provide some context for all you institutional investors who are new to crypto assets. DAO stands for Decentralized Autonomous Organization. A crypto project called The DAO did an ICO in 2016 and raised 150 million dollars of which 50 million was stolen in June of that year. In order to recover the funds the Ethereum Foundation organized a hard-fork of the Ethereum Blockchain which would deny the DAO hack transaction, thus returning the stolen funds to investors.
Ari Nazir: That’s when I went in heavy into crypto investing and actually started with my meager life savings at the time and I took out a max-out credit card loan, which I do not advocate for. I do not encourage, but at the time the expected value on that payout was very, very, very, high and I’m glad I did it and I have paid off all my loans. Mom, please stop sending me the emails.
Clay Collins: What year was that and where were you at the time?
Ari Nazir: In 2016 I was living in Detroit, Michigan at the time and working for a few venture firms and just doing deals as I learned more about the space.
Clay Collins: I went through your background and saw that you do have a Master’s in Finance and a background in finance.
Ari Nazir: Yes.
Clay Collins: Do you think you’d be involved in hedge funds, venture capital, financial services if it weren’t for Bitcoin?
Ari Nazir: Oh definitely I was going into venture capital anyways and I saw myself as a, not a vulture capitalist, but definitely either a growth investor or early-stage investor and that’s what I was trying to figure out as I first got into the space.
Clay Collins: Hey Clay again, I hope these outbursts from me aren’t too disruptive. I wanted to note that all my guests today have said that if cryptocurrencies did not exist they wouldn’t be doing the analog of their current role in the traditional financial world. Ari is the first person to break that trend, back to the show.
Ari Nazir: As I learn more about the blockchain cryptocurrency space it just seemed like a very undervalued asset class in 2016. Then I actually had a chance encounter in suburban Detroit with a guy named Alex Leverington who’s the first employee and engineer at Ethereum and then he was early on at Golem and now is has a number of projects that have performed really well and had actually shipped. I had a chance to run into him by chance in a coffee shop and I had a talk with him for awhile and really if you think about it it’s the same thing a venture capitalist does, right. You meet early-stage founders or early-stage employees, see what the really smart people that work at Google, Facebook do on the weekends and then just you know do deep level diligence on either technologies or the team. I’m not technical myself but you know at the time I had a number of technical friends that at least understand what Bitcoin was and they understand the power of Ethereum and talking to them, the people from you know that I went to school with and other friends in the tech space, the problems were not as magnified as they are today.
But given the low, relatively low stakes, the total market capital is at 11 billion at the time, it was worth making an exploratory bet. Really it was a, I was betting it was on, you know what would happen if this played out the way I thought it could or better? Right, what would happen to my career and what would happen to the entire early-stage and mid-stage funding cycle? And that was well if ICOs work then a lot of need for B and C rounds and a lot of the lawyers and the middle-men that are involved with that, there’s no need for them anymore. The caveat there is well, how do you create a governance structure that gives preferred voting rights to certain investors because a lot of venture capitalists are actually pretty helpful when it comes to that, but they also do require board seats or preferred voting rights. While currently the Ethereum ICO platform and the ERC 20 structure doesn’t really allow for that.
I’m optimistic about the team being able to figure that out in some way. Whether it’s on Ethereum or whether it’s on another platform, I do think the space will eventually figure that out. Because what you’ve seen over the last year-and-a-half, and really the last like six to eight months, has just been ridiculous growth that isn’t sustainable. That is reflective of a speculative bubble.
Clay Collins: How do you see this speculative bubble playing out?
Ari Nazir: As we start seeing a flight to quality, not just in terms of capital, that’s the first thing anybody thinks of, more importantly, flight to capital of developers. Once you start seeing more talent around platforms you start seeing the winners emerge, whether it’s Ethereum, Stellar, EOS, a number of them combined, the taking of specific market share for specific activities, I think you’ll start seeing more and more developers. But to answer your question I see myself still today in the financial services, venture capital space, but I like to think of myself as a wealth generator and not necessarily a wealth manager.
Clay Collins: Most people would rather have wealth generated for them rather than managed.
Ari Nazir: That’s our pitch.
Clay Collins: There’s actually an interesting transition point here. You talked about being on what sounded like a VC track trajectory but Neural Capital, from my understanding, takes a sentiment or a momentum investing based approach which in a lot of ways sounds antithetical to maybe an alternative way of doing things compared to what VCs do, VCs get on planes, they talk to teams, it’s really about like you know what’s the TAM, SAM, SOM? What’s the market size? And maybe looks a little bit more like value investing than sentiment, but in a lot of ways is about front-running what large groups of people are likely to do in the future based on current indicators. How do you think about he juxtaposition between maybe the track you were on and what you are doing now? Or are they more similar than one might think?
Ari Nazir: You’re directionally correct. This is a really good question and not one I get asked often enough. What I’m doing is venture capital with additional liquidity and the ability to not have to commit to a project for five to seven years at a time. If you talk to the average venture capitalist in Silicon Valley, off the record I’m sure over half of them would tell you, “Yeah I wish I could have sold my chunk in that company two years in when they had that acquisition offer,” or, “I wish I could have sold it when they raised their next round.” A lot of people don’t have an opportunity to do that or they can’t do that for signaling risk to the entrepreneur or for a number of reasons. At the very least most venture capitalists would love to take principal off the table whenever there’s a subsequent route. I do what I do as partially buy-and-hold. I think it’s level set, let’s talk about what our strategy is broadly. Part of our portfolio is buy-and-hold and so that’s in cryptocurrenciesand digital assets that we think over a few year period will appreciate in value.
Then there is a very active sentiment driven model which is about half of the portfolio which says over the next two weeks, over the next month or the next six months this is how we think the space will evolve and these are the assets that we’re more bullish on relative to all the other assets that we could possibly trade or invest in. I dig into that in a bit and the last part is more discretionary and certain timeframes that becomes governance and master-node driven. It really comes down to a more passive strategy to start balancing out the more active strategy just to make sure that in a draw-down or if like we make a couple bad trades in a row we don’t get left with a terrible month or quarter for the rest of the fund. It’s more of a diversity of like our own theses to just hedge our portfolio. Now within that buy-and-hold a small component of that is initial coin offerings. We don’t really do initial coin offerings, we never have. Part of the reason for that actually was given that I have at least a semblance of a regulatory perspective on the space, you know most of these ICOs are illegal money servicing businesses. I know we talked about them being potential securities and or non-securities from day one, I thought the entire utility model was a farce created by lawyers to appease clients.
I’m not trying to assign blame but it’s pretty clear that the utility token model structure isn’t going to stand up to scrutiny, 100% of the time. I think you’ll find out that most of these were illicit securities that raised, I’m not just talking about the obvious scams like Centracoin or Bitconnect, even some of the more sophisticated tokens that can make a pitch for utility tokens but are people buying ultimately or viewing them not as a utility to access the platform but thinking of them as a security? Because they are looking for price appreciation and they view that as defacto equity in the company? For those reasons and obviously the bubble that ended up emerging just like the pre-sell bubble and the reselling downstream to other people, just all of that. There are a couple reasons why we stayed away from ICOs but we’ll do really interesting projects like certain stable coins if the economics make sense or if we see a trend that we’re really interested in and we buy in early enough. Or if it’s an advisor to a fund that heavily recommends a particular project.
To get back to the active trading part, I’m looking at indicators, whether it’s on social media, whether it’s technical analysis of actual charts and then trading on preset timelines. Over the weekend we did one trade that started Thursday morning and I closed part of it on Saturday and then the rest of it this morning. That was less than a week but it was preset levels of, “Hey, this is the price we’re getting in at, this is the price we’re getting out at. Ideally, we see this happening in the next few weeks, if it happens sooner, we’ll act even quicker.” That sort of systematic trading strategy is something that we’re looking to now scale because it’s worked. The rate-limiting factor that really ends up becoming coverage of the market and then number two is liquidity. Because one of the most overrated parts of this entire market is actually volatility. The reason volatility is really overrated is sure, Bitcoin is volatile over a three to six month period of time, but all the other coins that are really driving a lot of the volatility that you see, something that’s up like 50% in a day, two days, you know it’s up 50% in price on a market cap basis but it’s not liquid. I can’t buy, for example, if I wanted to go buy a particular cryptocurrency right now that’s trading on Binance and YoBit or better yet, it’s not even trading on Binance yet. It’s trading on like YoBit and like one or two other lower volume exchanges.
Clay Collins: EtherDelta or something.
Ari Nazir: EtherDelta’s actually pretty liquid relative to some of the other ones. I’m talking Cryptopia, YoBit, some of the other ones. Like I can’t buy two–
Clay Collins: CueCoin.
Ari Nazir: Yeah, CueCoin. I can’t buy two-million-dollars worth of random altcoin that nobody else is looking at without driving up the price 30%. I can’t accumulate that on exchange, if I go to an OTC desk the spread’s ridiculous. The volatility there, like sure if there’s a 50% move, even if I were to catch it I’d be paying a 10% premium and then I’d be selling as soon as it goes up, maybe at 20% from there and then take a 10% discount and that’s like a 20% slippage. Sure I’m making 20% but the guarantee, I literally I have to look for trades that are going above 50% which is still very difficult even in this space.
Clay Collins: One of the things that I’ve looked for since the beginning of this podcast are pure-play hedge funds because they exist in the traditional financial world. There’s pure-quant funds, pure high-frequency trading funds, you know Thaler has a behavioral economic fund. It’s a lot harder to find in the crypto asset investing space and it’s probably because there’s just not enough out there and enough volume and enough liquidity to justify like a pure-play fund. I was kind of expecting you to say that you were kind of a pure-play, 100% sentiment driven fund, but what I heard from you is something that is actually much more common which is that it’s a mixture of different strategies with maybe no thesis in particular but it’s an approach, a constellation of approaches that have worked well historically to generate wealth. What do you think of that?
Ari Nazir: I would say one of the reasons why there have been pure-plays is actually because investors haven’t really demanded it, just yet. Thus far they just wanted exposure to the space. Over the last year if you just bought and held a basket of the top like three or four assets you would have done really, really, really well for yourself. Investors haven’t really demanded it because they’re saying well if the growth on this asset class is 20X in a year I just want you to have the right security model in place and really not lose my capital. Then try to get a solid beta relative to the market. We’ve outperformed the market and the way we’ve done so is using our active trading strategy. Now you can’t, in my opinion, you can’t have 100% active strategy. The way to do that would be just taking positions while having a market neutral approach.
Having a systematic approach that you’re going to only trade when the Ichimoku Clouds are at a certain level or the RSI is overbought or oversold. And that’s the two or three strategies that you’re blending and only trading on that. The problem with that is you would have vastly underperformed the market last year and you would not be taking custody of the assets for a long enough period of time to capture the big movement. I would say a lot the actively traded funds to date have not been trading for alpha, you know they’ve been trading to outperform the market. So the strategy that is buy-and-hold of any particular fund is in part because the fundamental research is super important on the actual asset that you’re holding. For something like Tron, again I’m not trying to get attacked by the Tron army Twitter, there’s no fundamental, long-term buy-and-hold strategy for that.
Clay Collins: The Tron Train.
Ari Nazir: The Tron Train, right. They may or may not be plagiarizing other people’s work, I just don’t see anything beyond a speculative, market-driven, implied valuation for a currency like that. You do need to do the fundamental research that a buy-and-hold fund would do. Now how we’re different than a lot of the other major buy-and-hold funds is we will take some of those more active you know week, two-week long positions and that’s how we end up outperforming a lot of the other funds over a given period of time. Because if there’s a bull market everybody does well but we’re able to take, heavier positions for a shorter period of time, but when there’s a bear market we outperform the market because we’re not taking custody of all the assets at any given time and we’re able to short.
Clay Collins: Let’s delve into Tron a little bit. So you are a, not a wealth manager, a wealth creator, what happens when all signals for you point to the fact that Tron is going to shoot up in value and let’s say you believe it’s going to shoot up in value but you also don’t believe in the fundamentals, but you know you have this obligation to your LPs.
Ari Nazir: To generate capital, right.
Clay Collins: Do you place that bet or not?
Ari Nazir: You place that bet but with a very, very small percentage of a trade, so the average trade that we would make is one to three percent of the portfolio. For Tron, that’s much less. For something like that it’s a short-term, month or two long play, and then you would put in a smaller amount of capital. Now I will be honest and very upfront and say I never bought Tron early on. We bought it relatively late and we still made 40 or 50% on it, it was a very small, very tiny percentage of our portfolio. A better example is actually Ripple. We bought XRP in Q3 and we bought it because it was at 20 cents at the time. There was investor like psychology we were just delving into because we saw of the Coinbase’s growth numbers and we realized that a lot of these investors were just new money, relatively unintelligent money coming into the space and they were buying the cheapest thing because they didn’t know they could buy Bitcoin.
Part of that I actually blame on the traditional financial system that doesn’t let you buy fractions of shares.They didn’t think they could buy a fraction of a Bitcoin. They would look at Bitcoin and say, I can’t afford this, I’ll just buy LightCoin, it seems like Bitcoin. And oh, hey maybe I’ll buy Ethereum. You saw the prices of all these things shoot up so we thought okay, if this holds true and we know what Ripple’s doing from a marketing standpoint, how cheap they are, maybe the same people will buy the Ripple? So we didn’t think XRP would shoot up to a value north of $2.75 and for a brief moment become one of the most valuable private company in the world but we definitely saw a relative outperformance of Bitcoin over the same period of time. That is a trade that even though the fundamentals of XRP being an actual cryptocurrency don’t necessarily hold up, again I’m not trying to get attacked by the XRP mob on Twitter either.
Clay Collins: Hey, this is Clay yet again from the editor’s booth to tell you that yes you should in fact @Ari on Twitter but instead of sending him hate please thank him for coming on the show. Are interviewees do a lot of prep beforehand and spend up to two hours recording. It’s a huge sacrifice, so please if you enjoy this content let Ari know that you’re listening and please thank him for his time.
Ari Nazir: You saw, that was a strategic, intelligent trade to make because it outperformed Bitcoin over a three-month period of time. That was one we went in heavier on, that was like 5 to 10% of our portfolio.
Clay Collins: I have a sense of how you guys are doing so without speaking to specifics I can definitely say that you guys are, like you mentioned, outperforming Bitcoin, but you’re outperforming almost anything I’ve seen. Fundamentally why do you think you’re doing that?
Ari Nazir: I would like to say that this is not solicitation for any type of investment.
Clay Collins: Of course not, I said this, not you.
Ari Nazir: Why are we outperforming? A number of reasons. We are actually actively trading. My Master’s is in Financial Engineering. I actually looked at charts in grad school, that was like literally part of what I did. It just became a good match in that it ended up actually working out for me in this particular space. I never worked at a traditional hedge fund. I actually don’t think I would get in the door at most of these hedge funds because I don’t fit the mold of what they’re really looking for.
But what we do that I think nobody else does is you know you mentioned venture capitalists would get on flights and go meet teams, I’ll go and do the same thing. But I’ll do that by being a fly on the wall as opposed to being somebody that beats their chest and says, “Hey look at me I have this fantastic blog, I’m a thought leader in this way,” or “This is what I’m really, really good at.” You know we’re actually and some of the entrepreneurs we work with will speak to this, we’ll get on planes and be like, okay what do you actually need help with? How do you need liquidity? Not just on your project but how do you need help with hiring? What do you need help with in PR and branding? How do you want to hire a growth marketers for your team? What’s your engineering pipeline looking like? How can we help with that? When you take more active positions like that, we’re taking that venture capital approach, we’re taking advantage of the additional liquidity in the space and then being able to trade more on momentum because of that.
If we see something go up by seven to 10X we will take significant profits at that point. We’ll still be long-term holders but we’ll take significant profits. The teams that we work with know this ahead of time, so it’s not like we’re coming in, making these false promises and then pumping and dumping something. We’ll be very upfront and say, look, we believe that this is relatively undervalued at this point in time. This is what we can do to help you and then this is the kind of return that we personally would look for.
Just know that if this happens we would start in a responsible way exiting some of our position in the market because at the end of the day we do have a responsibility to some of our limited partners. What we actually did with one currency was we, this was actually a major project, I aught not to disclose it just for regulatory or legal reasons, but if anybody actually wants to do research they will be able to find it pretty quickly. This was a project that was worth less than 500 million in early Q4 and we saw it was completely undervalued to the market so we did, it was about four to six weeks of diligence, upwards of two months actually where I met with not just the team but I actually met with outside the core team, people that were planning initial coin offerings on that platform. People that were, developers that were looking to join that foundation full-time. Several other market makers in the space, general view in the market, other fund managers, technical analysts and then obviously crypto Twitter crowd.
Then we had our in-house head of research who was highly technical go and actually build a wallet for the service. That wallet ended up becoming endorsed by the foundation and he won a grant. That gave us more confidence to then enter in a large way and then become market makers. And so that ended up leading to a 15X in about eight weeks. After we did all our research, so you know anybody can really do that. But it was about four months and it was 15X liquid. And we were able to enter and exit with a substantial portion.
That’s the kind of research that we’ll do beyond, you know. I would say our strategy is highly specific in that way. We know what we’re getting into, we know what our preset targets are, both from a technical standpoint and then also from an actual execution standpoint. We know the value that we can provide and that wallet to date is still being used. It’s not like we created this thing, it’s not something that ends up being used, it’s still being used and our Head of Research is very proud of the work he’s done.
That’s sort of how we’re more again an actively traded fund that can outperform because we know what our niche is. It’s more of a, this is a liquid token, the ICO’s already happened, the speculators that wanted to potentially pump-and-dump this are gone, now let’s look at the actual fundamentals behind this and see how we can take a position and maybe help the team out.
Clay Collins: One of the things I’d like to accomplish with this podcast is to provide listeners with a sense of what sentiment based investing looks like when it comes to crypto assets. Do you think you could give us an overview of just sentiment based investing in general, how it relates to behavioral economics and finally did you choose a sentiment based approach for some of your investments because you feel like that’s the best strategy in an opportunistic way in that moment or because that’s kind of your bread-and-butter as an investor regardless of the asset class?
Ari Nazir: I actually chose it relatively opportunistically over the last year. I can get into why, in terms of my broader investment thesis, it is still momentum driven in terms of where the developers are going or where the technical talent’s going. But then after that it obviously becomes value because you can’t just in the traditional equities model and especially in a venture capital model, you can’t just invest in something that you think is going to be good for six or nine months because then if the talent leaves or moves on to the next trend you’re out of luck. How I think of sentiment and momentum investing, I think to explain that would be, it’d be better to look at a certain six to nine-month period, just because cryptocurrency in the digital asset space has evolved so rapidly over the last 18 months that it’s tough to really apply one model to all of it. If you look at Q1 to Q2 of last year you saw the rise of like the Telegram group Slack channel, the popular media would describe them as pump-and-dump, but among that some very interesting and like riveting chats where you’re able to get a number of traders that are, they might be working a full-time job as a Financial manager at a major firm.
Some might be managing you know small businesses but they’ve all either taught themselves or have learned over like 15, 20 years looking at the traditional stock market how to trade. Then some of them are just like actually now active full-time traders and they’re on Twitter as well so you’ll see like the Crypto Yoda’s (@CryptoYoda1338) of the world, that’s a big one, @cryptodemedici, some of these other guys that and I’m sure there are women out there as well, but some of these people that you’ll see just like Tweeting out random things and then it actually having an effect on the market if the market was small enough. Then you saw the rise of the Telegram and the Slack channel group and then gather more than that it was just, “Oh hey this thing is going to go up in price.” You could actually start comparing notes. There’s one particular group that I’ve been a fan of called Technically Crypto, where you’re able to get in and talk with other traders and investors and say hey, what do you think about, if they’re involved with a Bitcoin right now, if you look at the game lines or if you go look at X, Y and Z.The momentum for us at least like came from initially just major accounts signaling one thing or another and when the responses of all the people in there to then diving into the groups and pulling out indicators and then start following people more than actual just price predictions.
Because coin picking is kind of like stock picking, you’re great at it until you’re not. And it’s very much a “Oh, what have you done for me recently” sort of space and same way with venture capital right. Like a certain VC might be really hot for a certain period of time. But just because you did five of the six-X on a portfolio like five years ago doesn’t mean you’re really that great now. It’s really getting at what are they actually looking at in a more detailed manner. So for a lot of like momentum-based trading it actually comes down to EMAs, so exponential moving averages, and then SMAs, simple moving averages. Those are on 50, 200 day basis.
Clay Collins: Hey, it’s Clay, cutting in here to explain EMAs. As Ari said, EMA stands for exponential moving average. It’s similar to a moving average except it gives more weight to the latest data. Another name for this is the exponentially weighted moving average and it’s called this because it reacts faster to price movements. The EMA is based on pricing and exchange data over a specified period of time.
Ari Nazir: You can do them on different days as well but those 50 to 200 have held up relatively well and you’re able to trade using that so instead of me looking at a market and saying, I would rather arbitrarily by looking at fundamental news and letting my cognitive biases get in the way, than saying oh well this is bullish right now because this sort of fits in the narrative that I’m trying to pitch whether it’s a stored value, whether it’s a medium of exchange, whether it’s a this is the right Bitcoin, that’s the wrong Bitcoin.
Instead of that if you just look at the actual technical indicators, like EMA you’re able to get a relatively stable indicator of which way the market is turning. If you look at for example the EMA in Q2 to Q3 of last year it would have told you to invest and invest pretty heavily into most of the major cryptocurrencies. Now if you go look at those same EMAs for the last two months, it’s told you to actually go net short. That’s a trading strategy by the way that it just comes down to execution.
As more institutional players move into the space and start having more sophisticated strategies than a simple buy-and-hold you’re going to start seeing people use those types of strategies. Obviously there’s been a lot of noise made about “Oh well, there’s the Tron CEO, Tweets certain things” or like the Trex and makes a pun of how they’re doing on a Tweet and say something you’re going to see a pump, right and then you see that exchange bump and that’s like great, it went up 30 to 40%.
Typically beforehand you know if you look at charts like we do, I can actually tell you exactly who are the chart-worth insiders but all that goes away as soon as the regulators start taking this more seriously. There’s a problem over the last year, year-and-a-half where people thought, oh this isn’t regulated so I can sort of do whatever I want. Speaking from personal experience having actually worked on that side of the table, that’s not how that works. They’re going to go after people and the first thing they’ll go after is insider trading. From a trading perspective obviously their going after illegal, illicit securities, fraud, deceiving retail investors. But then they’re going to go after insider trading and we saw that with Coinbase, the coin caps thing, I think you’ll start seeing that more and more and who knew what before X, Y and Z happened. And then they’ll start talking to more of the actively traded funds and say okay, so can you talk me through how you would teach somebody to trade.
Trading something and buying something up and I am personally and on behalf of the fund I’m pro-regulation when it comes to that stuff because it ends up cleansing the space of bad actors. Just like I wouldn’t want to as a fund manager, want to work with another fund that has somebody that has a strike against them from the CFTC. I wouldn’t want to work against or work with or even invest in a token backed by somebody who is known in the crypto space for pumping and dumping.
Clay Collins: Let’s talk about the EMA, the exponential moving average. What is the primary source data for the EMAs? Is that using market data or is this just an algorithm that you lay on top of any indicator to try and figure out what’s going on. What are the inputs and outputs of this?
Ari Nazir: You know somebody else wants to grill me a little bit more, happy to get into. Also come at me, Justin Tron, or whatever his name is.
Clay Collins: Hold on, this is Clay looking this up. Yep, his name is Justin Sun. Okay, back to Ari saying brilliant things.
Ari Nazir: If you look at what an algorithm really is it’s really just a process or set of rules, right. People use the word algorithm just to start like pitching themselves as more technical or complicated than needed. Really it’s just a preset, set of rules. If you look at something like the EMA, yeah technically it’s an algorithm, but really anybody can trade on this strategy and really what it comes down to is what’s your data source, how close is it in terms of precision to what the market actually represents and how you differentiating a signal from noise. What I mean by the signal from the noise part is you know there’s been allegations around OKX and a couple other exchanges falsifying volume. Actually trading volume does has an effect on calculating something like the EMA or SMA. Or even I think more pertinently like an RSI, so relative strength index, which goes from zero to 100. There’s a couple ways to measure. The most simple one is zero to 100, if it’s below 30 it’s underbought, if it’s over 70 it’s overbought and that can give you an example of when to buy something and when not to buy something and maybe when to sell and when to go short.
When combined the EMA and SMA actually provides pretty stable and promising systematic trading strategy to start just running passively in the background. Now where this ends up being limited is that the EMA and SMA can be easily manipulated in a relatively small market and so we really only have maybe three to six months of data and really you can only apply this 30 to 45 days looking backwards, just because the market is moving so quickly. If you go look at Q3 to Q4 of last year it was a grind to 100 billion total market cap and then it just exploded. Then you saw it stabilize again at about 300 billion and then it doubled to tripled in about six weeks. When something like that happens it sort of throws off a lot of the indicators but you can still use the indicators to then know when to go short. The SMA and EMA, they’re pretty stable indicators that really just rely on price feeds, so whether you use Coin Market Cap whether you use proprietary data, there’s a couple of other services that now actually collect all this data, clean it up and then resell it to you.
We actually have a team that we have doing this for us so I’ll be able to get cleaner data and then obviously I go to some of the groups that I mentioned early that are higher quality groups and then compare notes with other traders and see okay, well usually the SMA is this, the EMA is this and that, I can’t understate how important that is for us at least because in a world that is driven by technical traders, and whether you know I’ll get crap from a lot of the fundamental people saying well, you know really the technical trading doesn’t make any sense, it’s just random lines drawn on a chart. You know I’d say, okay well before you insult something maybe take a moment to really understand that you maybe don’t understand what’s going on. Being able to admit what you don’t know is super powerful. A lot of technical developers expect that from their audience right, and a lot academics and PhDs in computer science will say this is super technical so you need to respect what I’m saying.
I would just ask for the same thing back which a modicum of respect for sort of the art of technical trading. If you learn this well enough you can actually trade on that and outperform the market. And do it in a way where you might be able to move quicker without having to do technical diligence on the underlying project. One of the rate-limiting steps in this entire ecosystem is there are only so many technical minds that actually understand what a blockchain is. There are even fewer minds that can build. If you are a long-term hedge fund, the average age of a manager is like 26 to 27. These are relatively young people that haven’t actually gone through cycles. You know the most recent cycle that they remember is the great financial recession of 2007 to 2012. You need those more experienced hands and more experienced people playing to help you think through technical, long-term signals. But there’s a massive opportunity if you’re qualified and competent to take it that without knowing the actual underlying technology of the project you can take long/short positions. Just based on the technical indicators.
Clay Collins: Can you describe just in, maybe in a paragraph, I guess verbally what sentiment investing is?
Ari Nazir: I believe sentiment investing and sentiment trading is an amalgamation of signals, taking into account behavioral economics and market psychology over any given period of time to invest in a certain way.
Clay Collins: When you think about decisions you would make as a sentiment driven investor what are the indicators that are most important to you? Can you do sentiment based investing purely with market data or do you also incorporate number of members in a Telegram group? Number of mentions on Twitter? Number of Reddit posts being mentioned on CNCB Fast Money. Et cetera.
Ari Nazir: Number of Telegram groups, I don’t know who to blame for this but I do think somebody needs to be held accountable. The number of Telegram users that you purportedly have is not an indicator of your community strength in any way. Because at the end of the day I can buy those users and fake the volume. You know Ethereum isn’t used for ICOs because Vitalic was able to get 20,000 Telegram users in his Telegram in like a week. That’s not why people use these currencies. Telegram users, we obviously monitor that.
We monitor GitHub commits, but a lot of this still comes down to actual human research. Because you know the GitHub commit example just because I look at GitHub commits doesn’t, that’s actually a pretty sophisticated way of potentially manipulating the price or quality of your token. Because just because I can see that you’re committing a certain period of time, or a certain amount of time over a period of time, that doesn’t necessarily mean that your token or your coin is built on a blockchain that’s actually technically viable.
Examples of that would include like me going on and seeing like there is like 300 stars for a repository on GitHub and then seeing contributions from a number of engineers. But when you go dig into it it’s like, they’re fixing grammatical errors. And then you see those same people go out and say, “Oh well I’m a core contributor to this particular blockchain.” But then being able to call BS on that is super important because yeah, I can use that as sentiment trader, I can do well in a bull market, that is completely irrational.
But as like we mentioned earlier, we see this flight to quality, not just in terms of capital, financial capital but intellectual capital, you know having somebody on the team that can actually go in and review the code and then review the quality of the code and then say, “Okay this is actually pretty good,” or “The average contributor on here is like they’re contributing lines of code.” It’s the type of person that doesn’t understand that the number of lines of code that you have doesn’t actually mean that it’s higher quality or a more sophisticated project. To give you a fast example we actually did a pretty interesting experiment where we automatically shorted anything that CNBC covered. And we did really, really, really well. A good example of this is Monero. Obviously in the long-term use case and technically our head of research is in love with Monero and advocates every single time I talk to him. Even put our portfolio into it, but when I saw the coverage on CNBC and I remember sending you an email about it and I was Tweeting about it too, we called it the Bitcoin Chad trade.
It’s that person that shows up on your Facebook after like four years after the last time you talked to them at college graduation or high school graduation or wherever, a wedding, and says “Oh hey bro, I bought Bitcoin, its up like 80%, you know because I’m a genius.” Everybody’s a genius in that financial bull, rational market but you start seeing covered on CNBC, we did this with Monero, we ended up shorting it. We ended up making about 18% in 24 hours because they covered it. I did the same thing with Stellar, so they put Stellar in, I believe this was earlier, maybe January or February, they were like “Oh, Stellar is the next Ripple.” I’m like well kind of forced my hand Brian Kelley, I guess I have to short this now. And so we ended up shorting that despite the fact that we are bullish on the longer-term prospects of Stellar and we think Jed McCaleb is probably the smartest person and most accomplished person in this space, we call him crypto Bezos. But still like anytime you see something from a popular media outlet as the hysteria is taking off and then the speculative bubble provides massive opportunity if you’re capturing the market psychology and being able to use behavioral economics in any given way.
Clay Collins: Speaking of shorting, I think that’s an interesting discussion we don’t have great prime brokerage infrastructure available to crypto investors. Do you use BitMEX, how do you go about executing a short, mechanically?
Ari Nazir: There’s actually now a growing number of longing and shorting platforms. There’s also places you have prime brokerages, you have independent parties you can go to, you can take collateral, you can short sell just based on just borrowing and selling the asset and I’ll get to the really interesting part of where I think the market’s going based on that latter part, especially the short selling part. But right now if you actually wanted to execute a short, if you’re an institutional investor you can go and talk to Genesis or a number of other similar products, that’s not an endorsement of their service, just an acknowledgment that they exist. You can go and borrow Bitcoin, Ethereum and I think there are possibly more and more cryptocurrencies. You can borrow it, sell it on the market, on OTC Desk or exchange. And then depending on whatever your repayment or re payback schedule looks like, you can then buy it if you’re short selling on a cheaper price. And then take and then buy it and then cover the trade and that’s what you end up making a profit on.
In terms of exchanges, most fund managers are actually reticent to trade on the exchange which makes me more bullish to trade on the exchange if I know it’s over a certain period of time. Especially if I can collateralize the trade with cash. In certain positions actually, you might want to hold the Bitcoin position and then lever up by longing a Ethereum to Bitcoin ratio. I can only talk about past trades for legality reasons and because it’s a competitive advantage. If you look at one of the best trades we actually made in Q4 of last year was longing Ethereum to Bitcoin. And we collateralized that trade in Bitcoin and that was how we hedged because just intuitively if Ethereum is going to be more bullish than Bitcoin over a certain period of time then the most aggressive trade I can take is buy a bunch of Ethereum, collateralize that somewhere like an exchange and then long it relative to another cryptocurrency ratio, like Bitcoin and then pocket the difference, plus the appreciation of Ethereum.
Now if I want to take a more prudent approach because I don’t know what Honey Badger could do at any given time. Or if I don’t know what might happen to the entire space because of any regulatory action then maybe the smarter choice is to collateralize that trade in cash, in U.S. dollars or another fiat currency, depending on what jurisdiction you’re in or in Bitcoin. Then I’m able to take a slightly less risky trade and just make a wager that just look, I think Ethereum’s going to outperform Bitcoin based on these indicators or these fundamental news events and then trade on that and then in the draw down event you still have the appreciation of Bitcoin.
Or if everything goes down you might have relative outperformance and that’s why I advocate in a bear market, you know it makes sense to use cash as collateral. That ends up being a really good trade if you can pull it off and that can be done on a number of exchanges especially now since one of the biggest risks in this space is just counterparty risk on exchange. But as you’re now seeing with Circle and you’ll start seeing this with more and more institutional players, I think there was news today about the New York Stock Exchange Holding Company becoming really interested in cryptocurrency and admitting that this trend is here to stay. You’ll start seeing more groups, institutional incumbents start buying up a lot of these crypto exchanges and another counterparty will set a lot individuals, family offices, and even fund managers express about the quality of the exchange will start going up.
That will reduce the risk of holding capital for like two weeks at a time on an exchange. I don’t see currently like if something were to happen to a number of the top exchanges I think Coinbase has created enough case track record to show that if something happens on an exchange that is backed by a number of high-quality investors they will reimburse you or make the trade whole. So that makes me more bullish on seeing opportunity over a small period of time to then trade on because if I know that Poloniex is now more stable given that it’s been acquired I’m able to allocate more capital on that exchange because I know if anything goes wrong their parent company will be there. I didn’t have that over the last year, but I do now.
Clay Collins: How would you go about, for example, shorting Stellar, but just from a pure execution point of view?
Ari Nazir: I will also echo, I think Kyle Samani from Multicoin was on your podcast.
Clay Collins: Hey this is Clay again, so Kyle was indeed on the podcast. Check out episode two, okay back to the show.
Ari Nazir: I hate the execution part, that’s the worst part of my job because a traditional fund like, you know take the example maybe your listeners watch the show Billions. If accessing the market or seeing the market here they don’t look at the market and go “Oh okay, this is a trade let me go figure out how to buy this.”
Clay Collins: They just pick up the phone and they’re like “Hey, can we borrow your whatever?” Right and they just do it.
Ari Nazir: It’s so simple and then even on the back office side, like they’re not the ones going through and like having to reconcile the trade. That’s never the part that you see on Showtime. For some reason, it’s not sexy enough. I have to deal with that. It becomes kind of a pain in my backside to have to take those positions so it makes me more cautious before I do take those positions because I know what their administrative, back office repercussions of that might be. So let’s say I wanted to short something like Stellar.
And for simplicity sake let’s say I wanted to short relative to U.S. dollars, I would go on an exchange that allows me to do that. Whether it’s BitMEX or a number of others, there’s more and more popping up every day and by the time this podcast actually comes out it might actually be out of date. But you’ll be able to go to any of those exchanges and then look at the order books and then depending on the volume for something like Stellar it’s actually liquid enough that you can start trading and shorting or longing six, seven figures at a time. I would start going and either deploy and algo or the old-school way and start sniping bids. And that would give me some sort of exposure, that I would then monitor on a daily, weekly basis, depending on whatever my stop limits are. Right so on any short, especially if you’re shorting in a relatively bull market, obviously now we’re in a bear market, but last year if you were doing this in a bull market it’s kind of dangerous.
If you’re shorting relative to the dollar it’s even more risky, you need to have tight stops coming in so that if you’re down 15 to 20% on that short you close out no matter what. Interestingly you’re now seeing market makers over the last like two to three weeks you’ll have seen this, time and again on Bitcoin you’ll see market makers pay attention to the net-short and net-long and then just screw the trade. Early, last week you saw shorts at an all-time high on BitMEX and on Bitcoin at 6,600 and then over the weekend you saw it rise to 7,200.
A lot of that was a market maker and other big whales saying okay, you want to be net-short because everybody thinks Bitcoin’s going to 2,000 or 4,000 or 5,000? Great, let’s start providing liquidity and start liquidating some of these people and then you saw a rise from about 6,800 and then you saw a wave of liquidations that you can follow using Twitter bots or just have your own bot running and you can see the liquidations come on and take the short squeeze all the way to 72-7,300. So one of the most interesting things that I actually see happening this year is at some point with all the futures that are trading and most of the futures right now have been net short, if I’m not mistaken and then with the short selling available either using institutional platforms and the growing number of them or on exchange we’re going to get to a point where a bunch of people are going to borrow too much Bitcoin to short. And you’re going to get to a point where there’s only a limited amount of Bitcoin and it becomes more valuable and valuable by day and we’re going to have one of the most epic short squeezes mankind has ever seen on any asset.
Clay Collins: That’s hilarious.
Ari Nazir: And I think that might actually happen in Q3 to Q4 of this year, that would lead us back to it’s all-time high.
Clay Collins: This concludes part one of this interview with Ari. Next week we’ll air part two. In the upcoming second part of this interview, we’ll play a lightning round game of underrated, overrated, and hear about the day-to-day life of a crypto trader. See you then.