In 2014, Michael Novogratz, then an executive at Fortress Investment Group, partnered with Ribbit Capital and Benchmark to raise a round of funding for Pantera Capital, a San Francisco based hedge fund. Pantera was run by a former classmate of Novogratz's from Princeton, Dan Morehead. Morehead was a Goldman Sachs alumnus and the former CFO and Head of Macro Trading at Tiger Global. Normally, an allocation like this wouldn't raise eyebrows. However, the focus of the new fund was on a then little known cryptocurrency called Bitcoin.
Bitcoin had recently been in the news because ~$450M worth had recently been stolen from a cryptocurrency exchange called Mt. Gox (abbreviated Magic: The Gathering online eXchange). At the time, Bitcoin was little known outside of its status as the de facto currency for illicit online transactions. Online marketplaces like The Silk Road were its only demonstrated use case, and the theft of almost half a billion dollars of the cryptocurrency from an "exchange" named after a fantasy-based card game did little for Bitcoin's credibility.
In this environment, Pantera raised $150 million to launch a Bitcoin focused fund that would serve as a buy and hold vehicle for several institutional investors like Fortress interested in the space.
Three years later, Pantera's Bitcoin Fund has returned in excess of 25,000% to its early investors. For context, the best performing traditional hedge funds that SumZero tracks outperform the market by percentage points, not orders of magnitude.
Mike Novogratz, now a billionaire on the Forbes 400 list, is reported as holding 20% of his personal net worth in Bitcoin and Ethereum. He has said that "[Bitcoin] is going to be the largest bubble of our lifetimes... you can make a whole lot of money on the way up, and we plan on it".
Kevin Harris from SumZero sat down with Paul Veradittakit, a Partner at Pantera, to hear his thoughts on the state of the crypto market, Bitcoin, and the active management of crypto assets.
Kevin Harris, SumZero: Would you please briefly run us through Pantera’s history? What was the catalyst for the fund’s pivot from a global macro strategy to the current exclusive focus on crypto?
Paul Veradittakit, Pantera Capital: Dan Morehead started the firm in 2003 as a global macro hedge fund. Pantera eventually grew to manage over $1B under this strategy. Prior to starting the fund, Dan was CFO and Head of Global Macro Strategy at Tiger Management, one of the world’s largest hedge funds in the 1990s and run by the legendary investor Julian Robertson. When the markets crashed in 2009, Pantera shut down its global macro hedge fund and sought to reposition itself.
Dan came across the Bitcoin whitepaper in 2011 through his brother, who was mining Bitcoin at the time. Dan decided to buy a large amount of Bitcoin as a speculative investment, and brought on partners to do so. He worked with with Pete Briger and Mike Novogratz of Fortress Investment Group, Benchmark Capital, and Ribbit Capital and launched the first institutional hedge fund focused exclusively on Bitcoin. Dan went to Princeton with Pete and Mike, and they both have been investors and supporters in Pantera Capital.
The fund initiated as a buy and hold vehicle exclusively for Bitcoin and was/is called the ‘Pantera Bitcoin Fund’. The fund formally launched in 2013 and bought into Bitcoin at $72. Currently, the fund has returned in excess of 25,000%. This was the first of 6 different funds within Pantera, all exclusively focused on cryptocurrencies and blockchain technologies.
Harris: What personally brought you into Pantera / crypto investing? What is your role at the fund?
Veradittakit: I personally heard about Bitcoin in 2013 from my friends at Lightspeed Venture Partners, who were making some early stage investments in Bitcoin/blockchain startups. Prior to that, I had been a venture investor focused on investing in mobile apps and mobile infrastructure. I had sourced and executed on my previous firm’s investment into App Annie, which later received funding from Sequoia Capital and became one of the leading data providers for mobile apps. After reading the Bitcoin whitepaper and researching all I could about the currency and technology, I was inspired by the transformative power of the technology. . I then came across the opportunity to join the venture team at Pantera, and realized that there was no better time, team, and fit to join the crypto world. I was very fortunate to be early in two of the most disruptive spaces of the last decade, mobile and blockchain/cryptocurrency.
I am now a Partner on the investment team at Pantera and have spearheaded the Venture Capital Fund since 2014, and helped to launch both of our early stage cryptocurrency funds recently. I split my time between our venture capital fund and ICO fund, doing sourcing, diligence, and portfolio management.
Harris: Many emergent funds in the space were founded by teams with nontraditional finance backgrounds. How has the more traditional hedge fund background of your founder and early partners impacted the fund?
Veradittakit: The hedge fund experience of Dan Morehead and other members of the team has provided Pantera a clear edge in managing our cryptocurrency funds. Our team has institutional hedge fund experience and that translated to expertise in starting up, executing strategy, and managing the fund. Institutional investors appreciate Pantera approach to the space. Our management track record also acts as a source of credibility and trust for institutional investors who might otherwise be spooked at investing in such a volatile asset class
The Pantera team is extremely complementary, and also makes our fund stand out from others. Our team has hedge fund, venture capital, operational, and technical expertise. The firm has 20 full-time professionals focused on the space, and is unrivaled in crypto active management.
Harris: What have been the biggest challenges to managing a fund focused on crypto-based assets? What advice do you have for other funds looking into entering the space?
Veradittakit: The biggest challenges we face relate to security and regulation. With security/custodian solutions still being developed by third party companies, and large banks not yet providing custodial services, Pantera has had to create and manage its own solution. Safeguarding our own assets is a very unique part of running a crypto hedge fund. As to regulation, Pantera is partnered up with top law firms and regulatory experts to ensure that we stay abreast of new regulation and have an eye to the horizon for future decisions by the SEC.
The advice I would have for other funds looking into entering would be to take your time in making sure that the right fund processes/operations are in place, particularly with regard to custody of your crypto assets.
Harris: Your fund is split between Bitcoin, ICOs, and Quant strategies. Could you briefly walk us through the philosophy behind each strategy?
Veradittakit: There’s in excess of $500M USD across Pantera’s different strategies, which are detailed below:
Bitcoin – In Pantera’s first fund, we wanted to give investors exposure to cryptocurrencies. At at the time, Bitcoin was the only cryptocurrency that mattered. We considered making it more of an active fund instead of buy-hold, but our investors wanted to buy and hold across a multiple year time horizon. This obviously played out very well for them.
Venture Capital – We knew that killer use-cases of blockchain / distributed ledger technology would be a future driver of value in the cryptocurrency space. Over the past few years, we came across many strong entrepreneurs entering the space, and it made sense to invest into companies helping to facilitate the adoption and use-cases of cryptocurrencies and blockchain technology. A list of these can be found on our website. To date, we have invested into companies helping people access/speculate on cryptocurrencies, cross-border payment companies, enterprise blockchain companies, new infrastructure blockchains, and token infrastructure companies.
ICO – With our access and ability to evaluate projects at the earliest stage (team, whitepaper, tech), we implemented a fund investing into pre-ICO (presales) and helping projects through the ICO and beyond.
Digital Asset Fund – Our tech team had strong backgrounds in machine learning / quantitative trading. We decided to explore several quant strategies, and to date they have performed remarkably well. We feel that this fund will provide institutions the best way to get exposure to the entire space and the highest risk-adjusted returns.
Harris: Very few crypto funds are currently running quantitative strategies. Could you explain some of the opportunities that exist in the space?
Veradittakit: The opportunities on the quant side are very appealing, especially if you have a team that is strong on both crypto, quantitative trading, and machine learning. You can do arbitrage, long/short, etc.
Our Digital Asset Fund is a well-weighted portfolio of high quality liquid assets we want exposure to, a set of good strategies we can generalize across markets, and a good execution system to drive both of those. Execution in this market is extremely important because the market is so nascent, and you can’t simply pass your order off to a bank to execute like in the regular equities markets.
We start with the algorithmic weighting of high quality crypto-assets, removing projects we believe are dubious or are based fraudulent technology, and getting us exposure to many market anomalies/factors such as size, betting against beta, low volatility, and momentum. Generally speaking, these are assets we would be happy to be holding long term. With the Digital Asset Fund we’re aiming for consistent, reproducible, and rigorous quantitative strategies.
Harris: Would you walk us through your view on the current state of the crypto market and the exuberant retail sentiment towards crypto?
Veradittakit: The crypto market became frothy on the retail side during the summer, with up to $1B going into ICOs a month. Now over $5B has been invested into ICOs this year. After Segwit 2x, there has been a shift into Bitcoin, drawing in retail investors because of the resulting price hike. Positive news has also buoyed retail sentiment - ranging from brand name companies like Square integrating Bitcoin, and the launch of Bitcoin futures. These trends have also appealed to institutional investors, who now have more avenues to invest in the space. In general, more money has been flowing from altcoins into Bitcoin, Ethereum, and Litecoin over the past few months. This has slowed the retail interest into ICOs relative to the summer, but we expect a rebalancing to more focus on ICOs.
Harris: Based on your years of experience in the space, what crypto investing advice do you have for the general public? What advice do you have for funds?
Veradittakit: I would advise the public to only risk what they can lose. Do as much research as possible into the teams behind projects before making an investment decision. There have been many high profile ICO failures to date. That being said, take advantage of being able to invest into these early stage projects as an unaccredited investor and back projects that you’re passionate about. Prior to ICO’s, unaccredited investors were unable to invest in these VC style early stage projects, and the democratization of their financing, while risky represents a lot of potential for retail investors.
I would advise fund managers to be patient with building up operations and to constantly be evaluating the fund thesis as the space changes rapidly. We have significant operational experience, but still stay very nimble.
Harris: What are your thoughts on the recent exponential price growth of crypto assets? Have current prices exceeded your expectations?
Veradittakit: I think it’s great that the space is becoming more mainstream, but we’re still early in terms of realizing the potential impact of this technology on the world. Even though prices have greatly exceeded my expectations, it’s important to recognize that we’re still very much still in the first inning. It’s important for people to stay hungry, build products, and execute, so that this ecosystem and prices can continue to rise in value the way that they have.
Harris: Would you walk us through one of your early stage ICO investments? Prior to participating in the ICO/presale, how did you assign a valuation to the coin? Generally, how reliable are your predictions as to performance?
Veradittakit: I can talk about our investment process in general but not specific investments. Generally, we focus on teams in what's close to a VC framework. The team is by far the most important factor in judging a potential investment. We also look at the problems that are being solved, the product and its undergirding technology, and the strategies to scale the business. In addition, we also look at the uses of the token and the token economics of the project.
A good example of this is the presale of Omisego (OMG), a Bangkok based venture backed company that prior to their ICO had raised $26M of funding. They had proof of concept for an open payment platform, and were working with 8,000 merchants, including major brands like McDonalds. Thailand’s Ministry of Finance had endorsed them, and they launched a ~$25M sale of tokens. We were one of the bigger investors in the sale, and one of the only American investors. We expected there to be a pop in the price of the tokens given the ICO price, but had no expectation of the ensuing 30-40x price growth over a short period.
In terms of valuation, since we have exclusively focused on this space for years, we have a book comparable transactions that we look at. We also can compare any project we’re looking at to comparable projects that are publicly valued on an exchange. So far, these tools have led to a very good track record of predictions.
Harris: Which crypto assets’ performance have been the most surprising to you?
Veradittakit: More generally, the performance of crypto assets has been more linked to community support and marketing more than I had expected. Geographical support and marketing has been very important in this space, and as a result it’s good strategy to globally market crypto assets. Omisego’s performance surprised me.
Harris: What do you think the most interesting ICO’s on the horizon are? What emerging coins do you think have the highest upside?
Veradittakit: Pantera has historically been most interested in projects where there’s a clear sense for decentralization and a strong call for the use of a token. Several large token based ICOs don’t have a strong call for the use of a token, and opportunistically are taking advantage of the frothiness of the market to fundraise.
ICO’s that we look at have tended to be on the infrastructure side (with a focus on scalability), two sided marketplaces where intermediaries can be disrupted, and spaces where decentralization can expand the market through regulations or payments.
Some of our recent investments fit this thesis:
0x and Kyber – decentralized exchanges
Origin – decentralized sharing economy
Funfair – decentralized casino games
Stream – decentralized content monetization
Bloom – decentralized peer-to-peer credit-scoring and lending
Harris: What are the biggest problems you think are solvable through tokenization or creative uses of blockchain technology?
Veradittakit: The biggest problems being solved revolve around the disintermediation of rent-seeking middlemen, in a variety of industries. . By providing the ability to perform trustless transactions, blockchain technology removes the need for those rent-seeking intermediaries and other service providers. Peer to peer transactions, facilitated through, and relying on blockchain technology is the future for any information based industry relying on middlemen.
Harris: Could you walk us through Pantera’s valuation process for a cryptocurrency? What commonalities are there between this and traditional equity valuation? What specific metrics have you found to be most predictive of future performance?
Veradittakit: I walked through our VC style valuation process above, but the actual valuation process is more similar to a traditional equity valuation than you might expect. The biggest difference is that you are not just valuing the early stage company that you are implicitly investing in, but are also placing a value on the entire network of the token project at a very early stage. This adds an extra layer of complexity to the VC model. I believe that ICO funding structures will mature into a system based on multiple rounds of funding, bringing the valuation process close to traditional VC equity investments.
The metrics to be predictive of future performance remain to be seen. I believe that it will be a combination of metrics that speak to the performance and usage of a product in combination with the strength of the community.
Harris: If you were building a blind trust of crypto assets, what coins would you put in it? How would you expect it to have performed come 2022?
Veradittakit: I think that the space is too volatile to create any sort of blind trust. I would invest into something like the Pantera Digital Asset Fund, where we have a quant-focused strategy that limits the volatility intrinsic to the space. It would be investing into an equivalent of a smart index. I think that will have performed very well come 2022.
Harris: Where do you see the crypto sector in five to ten years? What role will Pantera ideally play in its development?
Veradittakit: I believe the crypto sector will continue to grow significantly over the next 5-10 years. rices will be much higher, many more traditional top entrepreneurs will start companies in the space, and projects/products will go mainstream. I believe that the future will be a world with a multitude of cryptocurrencies.
Pantera will be the ultimate place to go for thought leadership, investment exposure to any desired strategy in the space, and a vibrant community of innovators creating this decentralized world.