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When researching cryptocurrency investment ideas, do you follow the tech or find the problem?

When researching cryptocurrency investment ideas, do you follow the tech or find the problem?

BIG IN JAPAN

It’s a sea of green, as Bitcoin, breaking out above $9,000, hitting the 38.2 Fibonacci retracement level, a level watched by technical analysts is trending up. Are the top-alt coins poised, holding just at their recent highs, to follow Bitcoin higher, and if you want to take a position, with everything going up, how do you make a choice?

The majority, the 95%, don’t bother doing any research. They just follow the latest and greatest guru, and hope for the best. If one word could be used to describe their behaviour, Geronimo would be a good fit.

Some speculators and investors use a purely technical approach, ignoring everything outside of a chart. Over short term time frames, this approach can work, but only when used a sound understanding of risk management.

If, however, you want to invest not over the next hour, day, week, or month, enjoying the benefits of a short-term pop in price, history suggests those who understand the drivers of long term trends, detecting societal shifts whose effect will last not a month or two but years hold an advantage.

In the Heatseeker series of articles, podcasts, and videos, we talked about embracing simplicity and searching for the zeitgeist. It was buying Yahoo in 1996, or Microsoft in 1986, understanding the drivers behind the trend. Using popular culture to make a point, let’s go back in time.

FADE IN:

EXT. 1863 Brooklyn. On the bank of the East River looking at the smoking ruins of Manhattan.

My father told me we were all born of blood and tribulation. And so then too, was our great city. But for those of us who lived and died in those furious days, it was like everything we knew was mightily swept away.

And no matter what they did to build this city up again, for the rest of time, it will be like no one even knew we were ever here.— Gangs of New York.

As time passes in super fast motion, where seconds are years, we see smoking shacks on what would become the world’s leading financial center in lower Manhattan; then, Brooklyn bridge and the faint outlines of steel structured high rise buildings superimpose themselves over the old world. Next, the icons, in the distance the Empire State building takes shape, surrounded by many others, and all the while, the buildings higher and higher, eventually reveal the skyline of modern-day New York.

Dead Rabbits

The violent days of the Five Points, where control of the points was fought over between the Natives and the Dead Rabbits ended on what was to become known as Draft Week. An uprising in response to a bill passed by Congress in 1863 to conscript men to fight for the North in the on-going Civil War.

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The film, Gangs of New York, is about the lives of the people who built America. The camera looks on as the characters fade out into obscurity, their problems, beliefs, their very existence to be forgotten forever.

Contrast this with the structure of the Brooklyn Bridge, fading in, replacing the old, symbolising order, structure, the foundation of what’s coming next.

But the Brooklyn Bridge didn’t just happen. As Amsterdam and Bill the ‘Butcher’ were fighting to control the Five Points, plans were already being drawn up to make them irrelevant. The idea for the bridge was conceived eleven years before the Gangs of New York fade out.

Gangs of New York, fade in, fade out, what has all this got to do with cryptocurrencies?

The metaphoric construct is this: There are thousands of cryptocurrencies, each, if you read their white papers or sales material, have a reason for existing, but if history is any guide, most coins and tokens are, shifting into a simile, like Bill and Amsterdam, fighting to control the Five Points.

The Dead Rabbits and the Natives in the Gangs of New York are fighting for local control, failing to put the pieces together and unable to figure out the future, their fate is sealed before we join their story. They operated in the old world but were replaced by the new.

Someone had bigger ideas.

Urban Science

The population of New York City was approximately 814,000, in 1863. Seventeen years later it was 1.2 million, and twenty years after that 3.4 million. According to the 2016 census, the current population of New York City is 8.5 million people.

One factor, not considered by many, is how do cities scale? How do they grow, as the population increases? Is the infrastructure haphazard, planned, or a combination of both?

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In 2006, for the first time, more than 50% of the world’s population was living in cities, compared to just fifteen percent one hundred years ago. By 2050 it’s estimated that the percentage of the world’s population living in cities will rise to over 75%, and this means that over 1.5 million people per week will move into cities from non-urban environments over the next thirty years.

With such numbers moving into urbanised areas, any mistakes with the infrastructure will have disastrous consequences, especially so since the 2008 financial crisis where the amount of debt created has ballooned to such large numbers most people have no reference point to judge the amount. For example, twenty-three trillion dollars doesn’t sound much, because twenty-three is familiar, well within the bounds of common understanding. It’s the trillion part that causes the trouble.

Major cities like New York and London seem to be able to absorb the growth rate of people moving into them, but why is this man-made phenomenon different to nature?

Most organisms, like us, are born and grow rapidly, but the growth rate is not constant. The growth slows, decay sets in, and we die. It’s the same with companies. Businesses start and most die within ten years, with only a small number surviving over more extended periods. A tiny handful of companies have lasted longer than a human lifetime, and one exception to company longevity is Lorillard, an American tobacco company, which started in business in 1760. But, like most biological organisms, even Lorillard eventually died as it was bought out by R.J. Reynolds in June 2015.

Why does biological life and man-made structures, like companies, move through a cycle of creation, growth, decay, and death, while another man-made structure, a city, does not?

Why do cities survive for centuries, or even millennia, while companies and living organisms don’t?

It’s all about scale.


Thermodynamics

Unfortunately, because of the Second Law of Thermodynamics, which states that when energy is transformed into something useful, a by-product is produced, the consequences are inevitable.

Edvard Munch’s The Scream depicts a human being realising the inescapable, traveling along a walkway, a metaphor for life, towards the fire, symbolising the end.

You eat. You transform the food into energy, and what you don’t use you expel. This transformation from food to energy and waste is called entropy. And it’s killing you.

So, why doesn’t entropy affect cities?

It’s because of the scaling effect. It turns out, how an organism, you, a company, or a city scales is vitally important.

Does an animal half the physical size of another, require half as much food? The answer is no.

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An animal, twice the size of another, having twice the number the cells, only needs to ingest 75% more food, and not 100% more. This means the metabolic rate required to keep an animal alive is not linear, it’s sublinear.

The metabolic rate of mammals, birds, fish, crustacea, and even plants obey Kleiber’s law, which states metabolic rate scales as a power law of 3/4.

Scaling at a ratio of 3/4 using the power law means that an animal with 10^4 times the number of cells as another animal, or 10,000 times larger, only needs 10^3 times or 1,000 times the energy to survive.

All mammals are scaled to each other using the .75 or 3/4 scale factor. A whale is a scaled up elephant, an elephant a scaled up cat, a cat is a scaled up mouse.

Man-made structures like cities follow the same scaling laws too. Is Tokyo a scaled up Kyoto, and is Kyoto a scaled up version of Matsumoto? They are. It turns out that cities scale the same way organism’s do, scaling at .85 instead of an organism’s .75 or 3/4 scale factor.

This means as a city scales, the savings on infrastructure is 15%. That’s 15% less electrical cables, copper pipes, length of roads, and even gas stations.

What motivates people to move into cities? There are many socioeconomic advantages, like access to better healthcare, education, and higher wages, but cities have a kicker that, like the scale factor of .85, gives 15% savings on the infrastructure needed to support larger populations, boosting the socioeconomic benefits of moving to a city.

As a city grows, the socioeconomic benefit scales not sublinearly at .85, but superlinearly with a scale factor greater than 1, around 1.15.

And this is why cities are so successful. As a city’s population increases, the cost of building the supporting infrastructure decreases by 15%, yet the social advantages of people living in the city increase by 15% every time the city doubles in size.

The Power of Three

Most information on cryptocurrencies is either rehashed press release comment and quote articles or technical deep dives, and in our time-starved world, it’s easy to get overwhelmed.

The Thinking in Threes series of articles, podcasts, and videos, focused on the power of having at least three behavioural conditions present before taking action. The power of three can be applied not just to behavioural patterns, but also simplified heuristics.

Instead of getting lost, attempting to understand the trade-offs in blockchain security between Proof of Work and Proof of Stake algorithms, instead of figuring out the pros and cons of on-chain versus off-chain transactions, and instead of falling down a technical black hole when reading about the loss of Byzantine fault tolerance when sharding a protocol and moving from single to parallel threading, allowing the protocol to run in parallel, start with three high-level questions.

  1. What real-world problem does this cryptocurrency or blockchain technology solve?

  2. Is the technology scalable?

  3. Who are the developers?

Red Pill

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Charles Hoskinson, CEO of IOHK, the company behind Cardano, when meeting with world leaders and senior politicians, has said he is rarely asked about the in-depth mechanism under the hood. Instead, the questions are about finding solutions to real-world problems.

Hoskinson said, when he travels to Ethiopia, they don’t ask him about building a fast finality, instant settlement, byzantine resistant protocol, instead they explain it takes two to three hours to pay power and water bills in Addis Ababa, and they want to know if this can be achieved using a system that takes less than fifteen seconds. It’s a real-world problem, and they need a solution.

To solve problems using cryptocurrencies, find out the way the real world works. This can be achieved without diving into the technical jargon and without a technical background.

One way to do this is to use your own experience. Has part of your life become more difficult? Has something you do every day changed, not immediately, but gradually, forcing you to spend hours on something that used to take minutes.

One thing you are probably familiar with is the increased regulations and restrictions on your access to financial products.

For example, in the UK, financial planners often have little idea of how the financial markets actually work; Instead, they are experts in the abstract rules they have to comply with to give you advice. Yes, they know how the products they sell work at the top level of abstraction like returns, fees, and charges, but ask them about derivatives, or the impact of option trading on exchange-traded funds and the volume of trade being placed through ETFs and how that affects markets through stationarity and cointegration, and you can expect blank faces, with very few knowing the implications.

Investing and, in 2019, banking has been abstracted away from what it actually is to a checkbox system designed to protect you — not only from others but from yourself.

Financial planners today have to know everything about their customers. They have to fill out detailed KYC — Know Your Customer forms and subject their prospective client to AML — Anti-Money Laundering checks.

And, if they find anything that does not fit into their checkbox system, they have to file a suspicious activity report, and this means they have to tell the authorities or the government about their customers.

The checkbox system has created a real-world problem.

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If banks can’t get enough information about someone to satisfy their checkbox driven system, they do not get an account. The computer says no, and in 2019, over three billion people have no access to basic financial services. They are the unbanked.

It’s a real-world problem.

Most have no idea they exist, preferring to take the blue pill, unaware of how the world they live in really works.

To find ideas for cryptocurrency investments, take the red pill, and get ready for a surprise.

Gas Stations

The scaling laws, as applied to cities, have a surprising quality. The socioeconomic benefits of living in a city scale at approximately 1.15 or a 15% increase every time the population doubles, while the cost of providing the infrastructure decreases around 15%.

Wages earned, the number of restaurants, and innovation, as measured by patents filed, all scale with an exponent value of around .85, or 85% when comparing cities in the same country.

It’s the same with companies, where the number of employees scales with the growth of the business.

Even the number of gas stations in a city follows the sublinear infrastructure scale of around .85 or 85%.

By comparing two similar companies in the same country, or by comparing two cryptocurrencies, you could, by comparing the growth rate in the number of people employed by the supporting organisation or company, develop a non-technical system for finding cryptocurrency investment ideas.

While the majority of cryptocurrency investors, the 95%, approach finding cryptocurrency trading ideas like Amsterdam and Bill in Gangs of New York, fighting over territory long in the shadow of a world that has already replaced them, by using metrics that scale, like the number of employees, the 5%, the most consistent speculators and investors, develop their own ideas, finding benchmarks that highlight the leading cryptocurrencies, not MACDs or RSIs or other technical indicators, but real-world indicators of pent up demand.

The 5% free themselves from the opinions of others, allowing them to concentrate only on the things that matter, like the direction and duration of the trend.

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