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First I want to start with you, tease your book that you it's open for preorder. Why don't you give us a little tease so that we can have a rift listeners preorder it. Yeah, absolutely. I'm delighted to announce that the book I co authored with device Uber is actually available now. You can read about it. Well, not everywhere books are sold right now, but you can definitely preorder it on stripe dot press slash boom that's stripe dot press slash boom.
And yeah, the court, these are the book is that financial bubbles are very underrated. They are better than we think. And in particular, they they have these interesting traits in common with government funded mega projects, which are also, you know, of a kind of ambiguous dubious popularity, but have made a big difference in the past.
And what they have in common, like you can look at it to levels, you can look at the operating details of like, what do these phenomena, how do you how do you know that you're involved in one of these and not something else.
And you can also look at it from the outside of, okay, what actually gets accomplished and why. And I think that there's there's a lot to explore on both of those. So like one of the things that we like to talk about is that when there is a financial bubble, one of the things that it does is it brings together a bunch of people who have very different motivations and this can host true for the mega projects thesis.
You have people who really believe in this core technology, you have people who are just like thrill seeking, risk seeking people, you have complete mercenaries who have found something very lucrative to promote. And then when it's no longer lucrative, they'll be onto the next thing.
And you know, you know, I have both spent enough time in crypto to have encountered all of these people and have like, you know, a sense that it's, you don't actually, like, you don't want to have just one kind of person involved in something like this.
You actually want a bunch of different people who have pretty different interests in order to build something great. So with crypto, for example, I think one of the things that held crypto back like one of the things that propelled crypto in the very early days.
And started holding it back was that Bitcoin was this very ideological project. It was very much born out of skepticism about central banks about centralized authority about the idea that the government should, you know, would have this increasing hold on what you spent, how you spent it would know what kind of things. You had purchased, etc. And it was just, it was a rebellion against all of that in addition to being just a very technically impressive project.
And so you had a lot of people who were just motivated by a lot more than money. And that was good because very early on Bitcoin wasn't worth anything. And so it was just a really financially poor decision to spend much time obsessing over it. But if you liked the concept of it and you liked those kinds of ideological goals. If you were worried that you'd be seeing more headlines about the chancellor being on the brink of a third or fourth or tenth bailout for banks, etc.
Then you were into Bitcoin. And at some point crypto got big enough that it did to keep growing. It had to interact with fiat rails like we, I think a lot of people recognized. There was not going to be an all crypto economy, like even the drug business still mostly run on fiat crypto has not been able to gain much share there, even though it has been, you know, it has some impressive use cases.
So, so people in crypto started to recognize that, you know, at some point we have to find someone who is not an anarcho capitalist who is like willing to interact with the IRS and something other than, you know, a, a blaze of glory standoff.
And so it got more corporate and that did like that had to be really disappointing to a lot of the pure, a lot of the tributes and it is like a lot of people in crypto like they, they hate coinbase more than they hate the SEC and IRS because that coinbase knew what it was doing.
And the IRS and SEC like you could just say they don't get it, but obviously the coinbase people they've been doing this, you know, they, they realize crypto is a big deal early on. And then they decided it would be connected to the rest of the financial system.
I think you can make this sort of like you can make this case of okay, once you connect them crypto is obviously better and so over time assets and transactions start to migrate to the crypto space and like statistically that's true, but you've got to be very, very patient have a long term outlook or have to believe in, you know, this like radical acceleration in that to to be really optimistic as a crypto true believer.
But it is the case that a lot of the more mercenary people just made crypto more widely deployed like they wanted to cut deals with big companies to start putting things on crypto rails or to make crypto, up payment option or, you know, to support having traditional exchanges trade crypto derivatives or list crypto ETFs like all of that work makes crypto more accessible.
And, you know, I think there's a I don't want to do the whole like I'm even more purest than the purest thing, but there is, you know, to an extent if you do believe that that crypto in general or the Bitcoin in particular is this way to transcend government control over the monetary system and payments etc, which like I'm I don't I think that that is, you know, to the extent that that happens a lot of other things have to happen to, but like to the extent that that is true.
It's hard to get to annoyed that crypto is interacting with the fiat system because you, if you believe in it, you just want to bet that crypto wins and you want to bet that crypto wins faster if it has like these head head and kind of with the enemy.
So all it is like a long aggression to say that one of the interesting things about bubbles is you bring together a bunch of people who have very different reasons for working together, but they do it does get them to work towards a common project to share a common goal and because they are so different they can each make different kinds of contributions.
So that's one piece of it, another really big piece is the idea of bubbles parallelizing innovation, so there are just a lot of projects where there is there is a sequence of risks like you need 10 different things to happen. And they all have to be done by they all have to be done at the same time in order for this project to get accomplished or like they all have to be done for the project accomplished, but if you do any one of them it's kind of a waste because the other ones are not yet done.
And when you have a bubble when you have like wild enthusiasm about the end goal about the creation deployment of some new technology, for example, what you can have is that people realize like all the other parts are actually getting built and so I can figure out which part of this I need to build and go ahead and build it.
So you look at something like the early days of Amazon Jeff Bezos was essentially like implicitly saying browsers will get much better. ISPs are going to get a lot more people online they will eventually have more bandwidth. It will eventually be a lot more convenient to to transact online people learn to trust online transactions.
We won't just get eaten alive by fraud like you had to believe a bunch of things these things would happen and it was just a lot easier to believe post post net scape IPO basically when you could actually say like yes, this is actually happening people are all building all the components you need to make Amazon a more viable business.
And meanwhile the existence of Amazon actually makes all of those things more viable to like it is better to have it's better it's a better business decision to be an ISP and expand your footprint if you know that one of the things people can do online is shop for books and that if you're not looking for best sellers it's the best book shopping experience you can really get like if you know you're looking for and it's not a best seller best shopping experience you can get for best sellers.
Yeah Barnes and Noble was a better way to buy books in you know mid 90s but Amazon just subsidized a lot of the best sellers as much as they could so it ended up being Amazon still ended up being a really good way to buy those books too. So that that is another piece like parallelizing innovation making it all happen at once because that's the only way it can happen at all and this is very much a feature of mega projects.
I think the Manhattan project is one of the best example of this because the US put just immense resources into getting the right isotopes and isolating them we were really unsure which method would work and actually like which bond design would work so we just did a bunch of them at once and enough of them worked that we actually had multiple functioning degree weapons which is great.
And the research for actually turning that phasomaterial into a bomb that goes boom was happening in parallel with the actual refinement so you had a lot of things happening at once actually the like designing the bomb was this very computationally demanding project it was it was a case where people had to do like early versions of distributed computing where the computers were actually people and those people were following a set of simple rules and kind of rolling up their answers their calculations to the next layer which is you know a lot of what you're doing with distributed systems today is like.
You figure out how you can break this big monstrous calculation into a bunch of small calculations that can be run on individual machines or individual course so you can do a bunch of calculations parallel so you're not just waiting and waiting and waiting for the math to get done.
So that is another piece another framing for bubbles is that you actually you want to have a more precise text on them and just saying it's a bubble or it's not a bubble there is actually a meaningful difference between something like the housing bubble and something like the calm bubble.
And the way that we frame this in the book is that there are bubbles that are all about extrapolating some kind of inflection and then there are bubbles that are all about mean reversion and getting really really good at predicting mean reversion and the housing bubble which was not just a housing bubble but the housing bubble was very much about saying we have a lot more historical data than before so we can more precisely estimate defaults and so we can take a bunch of mortgages we know roughly how they will behave statistically as a large group and so we can slice them up and we can see that the number of people that are in the middle of the building is not a big deal.
So we can slice them up into different tranches that have very predictable credit behaviors we can sell each of those two ever once the most risks so you can turn a bunch of safe assets like you can you can synthesize an unsafe fun high risk asset out of those safe assets and you can do the opposite take a bunch of really unsafe assets and say OK, you you know you would not want to lend money to this particular person to buy this house they are almost certainly not going to be able to pay it unless things go really well for them.
On the other hand if you make enough of these loans you can be pretty confident that some of them will get paid like you know with enough trials you will get lucky and so. There is some slice of the overall returns of this pool of a bunch of fairly dodgy loans that will actually get paid off one of the problems with that kind of mean reversion thinking is that the financial markets are part of a feedback loop with the rest of the economy and so.
If you say we have just a better sense of how to predict the aggregate performance of sub prime consumer credit and therefore we are willing to make more of these loans well the next bar where is the bar who was being rejected under previous lending standards and is now being accepted so you have a different cohort of people and meanwhile all those really nice back tests they were back tests of a mortgage market that just hadn't been securitized as aggressively that wasn't as sub prime heavy.
A lot of the like a lot of asset back securities used to be a bunch of other stuff that used to be like car loans and credit card loans and then very quickly became much more skewed to specifically mortgages and so you had this this weird dynamic where one of the drivers of default rates for a while was just housing price appreciation where housing prices go up then even if you can't afford to pay your mortgage you can refinance and you can borrow more money and then you can afford to pay your mortgage again.
And if that's the case then default rates on those loans end up being lower than the otherwise would be and that means more of those loans get made that means real estate prices go up and meanwhile it does help the economy expand a bit you know the three financing was not just servicing debts it was also spending money I think at the peak like two or three percent of was like two or three percent of consumer spend or the total value of cash out refi was about two or three percent of consumer spending in the US this is like in I think 2005 or so.
So you know a lot of economic activity was being driven by these assumptions about how predictable default rates are and of course all of that economic activity means that you are sampling from a different distribution where default rates are higher and what's even worse for the lenders who are doing these really nice structure products which like they they were really elegant well designed it was a really clever idea.
The problem was that the new loans were being made were just a lot more correlated to one another and the whole math that drives this stuff is that more is defaults were fairly independent one another like yes there will be more of them during a recession but local economies are so lumpy that having a nationwide drop in housing prices or a nationwide massive correlated spike in defaults was not really part of the model and then as soon as that's part of the model suddenly your your highly rated slice is no longer highly rated because either.
Defaults will be really low or defaults will be really high so there are plenty there's plenty of books plenty of media attention towards for that bubble in general a lot of focuses on the more the people who called the directional bet right like they bet that defaults would happen there's another trade that I think was actually a more elegant trade which was you do that but you also buy the highest risk piece of the same securities or similar securities and the bet there was if the correlation within a given structured product that's back by these.
The subprime mortgages if the correlation of defaults within each product is higher than people think then actually not only is the low risk piece overpriced because the risk is actually higher but the highest risk piece is under price because there is actually some chance that almost nobody defaults and that that highest risk piece paid a really nice yield and so that trade not only did it work just fine but it was a positive carry trade like you were buying a really high yield thing betting against a really low yield.
And so you could make a pretty massive bet and still have a trade where in any given month you were making more money than you were losing you're making more money on being long the high risk piece than you were losing being short the lowest piece.
So that was like it was so my main point of this is like that was a trade that was very much saying okay we have all the state on the past and we can be confident that the future is like the past it's just now our range of outcomes gets smaller and smaller and so we can afford to labor up more and more.
The dot com bubble was not at all about that the dot com bubble was definitely not people saying the future is just like the past only more so it was not people saying like there could be twice as many wall markets as there are right now is people saying no wall market go out of business in a couple years because everyone will go online.
And that was wrong but it was an interesting way to be wrong and it was a very like generatively to be wrong because people were asking all kinds of questions about what kinds of things could be moved online and a lot of the the early stuff it was just like this one to one mapping of okay this thing worked offline.
And you know things like ordering from catalog works offline works better online if you can search the page of inventory numbers are updated dynamically you can track demand you can predict a little bit better so maybe you can do faster shipping etc and then we started to ask okay what are the things that actually makes sense online that just couldn't have existed before or couldn't have existed in nearly the same level of relevance so.
People have been looking at things like what is the graph of citations of academic research and you know do we can wait a citation from say no Trump scheme or highly the citation from someone you know a grad student who published one paper and then dropped out and so we can we can do these nice recursive loops and figure out what are the central notes and network what is awaiting etc but once there is a network of link text documents that is about everything and not just about academic topics then suddenly the idea of a search engine and particularly.
Search engine that uses the link graph as its main signal becomes a lot more viable so those kinds of bubbles the there is some extrapolation there and there were definitely people who were talking you know maybe over enthusiastically you know there be people in the 90s i'm sure we can track down the quotes on this saying things like this is you know somewhere between the invention of writing in the invention of fire in terms of significance for the human race and you know maybe I think in in GDP terms yeah you can say that Amazon does more for for GDP than.
The discovery of fire 30,000 years ago did or you know the control of fire 30,000 years ago did but yeah and people people got ahead of their they got over the skis but they in doing that they threw a lot of money and a lot of dumb ideas a lot of money at some smart
ideas and now we have some amazing companies that wouldn't exist and wouldn't have made nearly as much progress had there not been some kind of insane bubble to go through and actually one of the functions of that bubble is you get to go through this phase of being completely
diluted and like the crazier you are the more money people throw at you and then you if you survive that you decide you will never be like that again and this is like the you know one of the more I'm sure more unpleasant parts of say the Amazon story to go through was when they realize like you know this was
great and we we made exactly the right choice of grow as fast as humanly possible as long as capital as abundant capital is no longer abundant people are going to get fired and a lot of them are going to get fired and growth is going to slow down and the hope for Amazon was we can actually get to the point where we can at least demonstrate the ability to potentially make money before the whole thing just falls apart.
There was a point where Amazon's growth I think it went either flat or very slightly negative in like 2002 or so like economy was not doing great they shut down some of their fulfillment network and they've worked marketing nearly as heavily they weren't discounting as aggressively but when they got past that there was actually a viable business under all of this and what they could see which a lot of their investors couldn't see because they didn't really disclose it in the
they disclosed it in a narrative way but not in a very quantifiable way was that once people started ordering on Amazon they kept on ordering they would order more every year and so Amazon was getting more and more data and was figuring out what else these people wanted and so that's I think that's really when the idea clicked was like after all the wild ideas got funded and after most of them didn't pan out.
The ideas that actually survived that were the really good ones they were the ones where you know it should have existed but this is why it came into existence at the scale that it did so yeah that's that's the ball thesis we talk about a bunch of different ones so we talk about these earlier mega projects Manhattan project Apollo program.
When we talk about fracking we talk about corporate R&D labs in the mid-20th century which are like that was kind of I guess that one is kind of the turning point where it was partly to heavily driven by government policy but it happened in the private sector didn't lead to as much wild over extrapolation of short term growth trends but it did actually lead to just a huge amount of wealth creation for a lot of people and it was also a case where you had you know you know people at Lockheed Martin who really wanted to make sure that they could have a lot of work.
So, you know you could have a lot of work that was really good and you could have a lot of work that you could have done to make sure that they could raise a dividend again next year you had people who just really wanted to build the you know like attaches many superlates as possible to everything they built like it's the fastest it's the explodius it's the stealthiest etc you know people you just really really really wanted to destroy all the communist they could and Lockheed Martin was just like the most cost effective way to turn time you spend on that task into potentially destroyed you know potentially destroyed communist and they they all found a way to work together within these
institutions and build stuff that was actually enormous valuable and just really really cool. It's a great overview and teaser of the book. Hey everybody, Eric here with a word from our sponsors. Our sponsor for today's episode is Card Up. The end-to-end accounting platform that's purpose-built to power the strategic impact of the fund CFO.
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Come see the new standard in private fund management at CARDA.com slash investors. That's CARDA.com forward slash investors. Let's say we're talking in 10 years from now almost 2035 and I ask you, hey I've been in a coma for the last 10 years. Tell me what's what's happened in crypto? What is the whole industry produced or what's kind of the main significance of what they've achieved?
Yeah, so I think the interesting possibility here is that crypto grows as like it grows as like this invisible infrastructure. That is, you know, I think it's like it's probably not a great scenario for crypto. If it is a US dollar alternative for people who can't use the US dollar because the US government does not want them to. But if it is like US dollar alternative in the sense of you can build cooler stuff. You have more direct access to more of the monetary primitives that you want.
You can build pretty interesting smart contracts and they actually work and work exactly as expected. They're more straightforward to audit. You can chain them together, etc. I think that's an interesting future for crypto is that your interaction with crypto is that you were doing some kind of cross-border commerce or you were on vacation or something. And it's just slightly cheaper and slightly faster to spend money on goods and services that you want to spend money on.
And you could see the large payment companies just opportunistically choosing whether they run a particular transaction on Fiat or crypto rails depending on the specific costs and latency needs of that exact transaction. And so that to be really interesting is like if we still you still sort of have a Fiat universe that people interact with and it still matters a whole lot. But under the hood it runs a bit more smoothly because a lot of the underlying infrastructure is crypto native.
And that people who want to use crypto want to be end users of smart contracts or just want to use an anonymized currency like they actually have that option. Even though the average person just does not want to think that much about money.
Even people who nerd out about money, there are plenty of people who spend all their time thinking and talking about monetary policy and history of money, etc. All their monies and index funds, they use credit and debit cards just like the rest of us, they use Apple Pay, etc.
Like they might think more deeply about it, but it's not like they're actually going to go on to some alternative currency thing. It's an interesting intellectual abstraction, but since the network effects of currency are so powerful, it's extremely inconvenient to use any currency other than the one everybody around you wants to use. And there's almost always just one. Yeah, that makes sense.
I want to segue into some of the other things that we wrote about this past week. So first, you talked about this idea of venture scale, which is a reason why many investors like us don't invest in something is because we don't think it's venture scale. Now, some people equate this idea of not raising money with, oh, I can't build a big business, it has to be venture scale.
So there's a little bit of confusion there. So maybe you can outline the concept because one thing I'll just sort of hint at is I see, you know, I didn't raise any money from turpentine and I've seen a lot of founders who also raised, you know, tens or hundreds of millions of dollars for the next startup say, hey, I don't want to raise money for this because raising money sort of distorts the incentives, but I also don't want to give this indication that I'm not going really big.
And, you know, venture has been this asset class that just anytime someone's doing a startup is like, oh, raise venture, but in reality, but you know, things that should raise venture have high, you know, up front costs, not everything, you know, if you're just building a piece of software that doesn't require you to hire a big team, you know, why do you even need venture?
Anyways, it's interesting coverage. Why you talk about? Yeah, so when I was thinking about it, what I, the conclusion I eventually reached is that venture scale is just a thing that makes sense from the perspective of venture capitalists who have a particular fun structure, particular mandate and a particular way of thinking about portfolio construction that basically forces them to say, like, we will not invest in your sole proprietorship walking dogs, we will invest in the platform that builds the app that you use to find people who want, you know, who want to use your
dog walking business, like, that is that is venture scale because it's economics look completely different as it grows. But if you're actually running the underlying operating business, in that case, your margins look pretty similar, whether you have one part time dog walker or like 10,000 dog walkers across every, every major city in the US, like, either way, you get pretty similar profit margins and they, they move based on roughly the same forces that affected your end of one business.
You may, you probably, you have a higher quality business at larger scale because you do get some geographic diversification, you get some employee diversification, etc. So like, it is, it is a business that benefits from scale, but not the kind of business that gets Sequoia just desperately excited to write a big check.
And like, one of the, you know, one of the working definitions of venture scale is just is the person who's analyzing this business, can they, can they imagine a scenario where making an investment in this business returns their entire fund. So, you know, they, they are managing $200 million fund, they're thinking, putting $10 million into your business, is there a world where your business is worth 20x after delusion.
And if there is, if there isn't such a world, then it's hard for them to get really excited. They're just, they're not in the business of, you know, putting some money in and, you know, making 50% in a couple of years, you know, maybe the BTS and P, but not a huge margin. Like, the goal is find the handful of companies that do extraordinarily well.
And to do that, one of the things that you're looking at is this combination of unit economics and addressable market analysis, which I think is like, it's, it's hard to just put, put dates on this, but it feels like that is one of the big changes in just how investors think about businesses generally is that there are a lot more aware that if your unit economics look good.
So, if you can acquire a customer for some amount of money that is less than the amount that you'll make from that customer and there are a lot of people who could be your customers, like, it makes sense to put a lot of money into that business to grow as fast as possible. And to figure out what other things you can cross sell or what other efficiencies you can drive, et cetera. And I think this is something where if you read early Buffett stuff, he does talk about this a lot.
And he thinks about it a lot. There's this example, I cite all the time because it was just a very, very endearing one where he was, I think, meeting with MBA students in the 90s and they asked him some question about could something like could Costco introduce their own competing version of Coca-Cola and does he worry about Coca-Cola's disintermediation risk from that? I don't think they use that term because they were, it was the 90s, but it's with what they were asking.
And his answer was just he rattled off all these costs. He's like, okay, here's so much of cost to put the corn syrup in the can. Here's how much the aluminum costs and the aluminum is up a little bit from last year. So now it's a cent and a half and not a cent, et cetera. And you know, get to this final number where yeah, you could probably sell Costco Cola at 10 or 20% off.
And maybe you could sell it for a little less than that as a loss leader, but you're not actually going to build a great business competing with Coca-Cola. It's a product where the end margins are very good for very good based on like the corporate average, but there's just not a lot of room to have a discount that's big enough to really shift consumer perceptions and still a business with positive margins.
And he, I think that kind of thinking ended up being pretty infectious and once people applied it to software companies where you do have structurally very high gross margins, or at least you did before inference costs became part of your margin structure.
You could find a lot of cases where this company is small, but based on how well the first 10, they've done with the first 10 cost where they landed, we can imagine 10,000 people using this and then we multiply that by average contract value and suddenly we can extrapolate to a pretty big company.
So that's that is something where the venture scale math starts to make sense, but that does restrict the universe of companies that you can look at pretty significantly because there will be a lot of companies where they're in a business, the business already exists. So even if that particular location, that particular instance does really well, you can't extrapolate because probably what you're looking at is that the person who started it is just very good at their job.
So if you look at like realtors, I'm sure there's just massive variation in how much money realtors make in a year and someone who's really, really good at selling houses who makes three X or five X or 10 X, what the average real turn in their area makes. They do have good unit economics on their own, but you can't extrapolate this unit economics because for them to scale eventually they have to hire someone else that person is not them.
If that person were them, that person would probably be a realtor already and would do making that money on their own would not need to go through an outside employer or you know would not need to work under a different realtor in the same way.
So yeah, there are a lot of businesses where what you you can have a high quality business, but it is because there's high quality labor from the founder going into it and that labor makes the business more valuable, but you know caffeine is a wonderful drug, but there's there's a limit to how much additional labor input you can get. You can put into a business if it's one person's labor that makes a huge difference.
There are there are ways to work around that so terms and media company. I also have a media company. There is a model of media companies where you have a bunch of different people and you bond with them all together and maybe all of your customers have slightly different preferences and for everyone there's like a different creator who's the main selling point and then a different set of sub creators where it's like I'm glad to have them them and you know I might not pay as much, but I would pay.
To pay to read or listen to or watch this person and then a large set where they just don't care and that kind of bundling can get you from the business that is just markup on labor because the labor is really good into something more scalable, but then bundles get really tricky because the natural instinct with the bundle is keep adding cool stuff and keep raising the price.
So you just reach these limits of human creativity or your own analytical ability where it's like I have no idea if this incremental addition to the bundle is actually worth it and also at some point my customers are just saying like the price is too high. I know it's a good product, but you are definitely charging as if it's a really, really good product and so you know we've had enough we're out.
When I was writing about this like I wrote about it is I realize like I sort of I know what venture scale means in the sense of I can look at an idea and say okay this is probably something someone will use venture scales is probably something wouldn't, but I don't know I didn't really know what the working definition was and I eventually concluded that yeah it is probably just how VC it is just a drive from how VC structure their portfolios and really from from what they want when they're deploying when people are deploying money into that asset class.
And one of the fun pieces of evidence for this is that really early stage valuations are not sensitive to any of the economic variables you think they were sensitive to. There is a there was a great piece on this which was linked in my piece so it is by non D was a VC and has done some other cool stuff. It's a really good essay how they recommend reading it and the one variable you can use to actually predict seed really early stage valuations is how well the big tech companies are paying.
And so in that sense like seed stage investing is basically a hiring business like you are hiring someone you're trying to make an offer that is competitive with the offer they're getting from Google met a Microsoft whoever and tell them please go work on this instead will also pay lots of equity that equity yes it's yours but you know the business exists in part because someone is willing to put some money into it.
And make it a real thing and once once it grows from that sort of you're paying someone to work on a prototype to and you know you're paying them mostly in the equity of the business they started to this is it actually this is like a business it has unit economics you can do quarterly financial projections even though they'll be wrong et cetera.
Then it is like a qualitatively different thing and at that point it's either scaling or people are trying to figure out exactly how it does so yeah venture scale it is this this totally arbitrary thing but you do have to use that you have to have the concept in your head all the time because yeah people will ask you should I raise venture money and it's good to have a good answer.
I think one of the other answers to that is like do you do you want to build this into a really big company or do you like the things that you do right now because whatever you do right now like if you raise venture money to grow your business you will almost certainly spend much less of your time doing those things so like if you really really really like writing code.
Then and you have a business that involves you spending almost all of your time writing code and it's a profitable business and it makes enough money for you to pay for the things that you want and you're putting some money way in your savings like there's a very good chance that raising venture money is not the thing you should do.
That actually you should enjoy the thing that you have and if you scale it and suddenly you are making more money but you're also working longer hours and most of your work is meetings and dealing with croc crises that were just not that fun to deal with then you kind of you made a pretty bad quality.
And then the off set thing is okay if you raise money in order to scale business in order to get it big enough to take it public sell it or whatever in order to go do something else that you actually want to do and never think about money again.
Then it can be a really really great deal but you have to know what deal you're making and there's there's like this meta efficiency thing where this the global economy is very, very allergic to infinite free money tricks and so if you think you found one there's probably some pretty big downside to it if you can articulate what that down.
It doesn't apply to you like you spend all day coding and you're like I really wish that I had a really angry customer who was threatening to sue me for really stupid reasons or like I really wish that my CTO had a massive fight with the COO and now neither of them are speaking and they're only speaking through me and they're you know texting each other.
Like texting me incredibly rude things about the other person and I get to meet this like if you want more of that in your life or just like you like the idea of building something huge and you recognize that you're not going to build it entirely on your own.
Then yeah, we see money becomes a really really good deal. So yeah, I guess I need to be in the unique position of saying we should all be more polarized as a country where just we're too neutral were too to moderate and centrist we need to be just on way opposite ends of every possible distribution and will all be better off.
It is interesting there are some people who've said like in DVC and calm capital who tried to make the following thesis which is hey a lot of businesses aren't you know set up to raise venture capital there should be another type of capital that is a better fit for them.
That will you know produce good returns for for LPs not now the problem is that well first venture asset class of course you know on a whole doesn't do super well it's it's power law where the best firms you consistently or the best firms do very well everyone else doesn't do super well.
But you know something like you know Uber and Airbnb when they did their first round of financing I think it was something like three million valuation or four million valuation respectively and and those were you know between 50 billion a hundred billion dollar companies at their peak.
And so some people say okay well some not every company doesn't have the potential to to to be worth that much they're not venture scale but you know maybe they can be 50 million dollar outcomes etc so what if we just you know instead of raising at five million valuation maybe raise it five hundred K valuation and maybe
you can get the same sort of risk reward but you know if you're raising it for your valuation and you raise 200 K which is not a lot of money you give up 50% of your company and you know it's like every
B we say a hundred billion like it's unlike that company has to be worth ten billion for it to have the same risk reward and if it ten billion is venture scale so 50 million is like orders of magnitude off and that's why for LP perspective it doesn't seem to to make sense because you're just not going to get the same upside in the winners and
you're sure as a game winners. So I think there's there's room to and they're interesting things happening actually with SMB financing where I think there is this older model of you have one owner operator and they run the business until they retire and then they either sell it or just wind it down and you know the business has some assets but the main asset is the input of that manager and then you know the the kind of like collective knowledge of all
the people who've been working there for a long time the branding etc and I think we don't have it's not strictly necessary that every one of those companies be owned just by one person so you can definitely think of different financing vehicles where people can participate in the equity or different lending
vehicles where you can you can lever these up a little bit pull some cash out of the business because it's a stable business and you know you want to put the cash elsewhere you want to diversify et cetera and I think I think there's going to be more movement in that direction over time
and I think the people participating in that like they recognize that if you buy the low you know you buy a piece of the local HVAC contractor like you're not aiming for this to perform like the first check into Google
what you're aiming for this to reform like is small scale private equity like you found a business you can predict it pretty well you have a pretty good sense of the range of outcomes and therefore you have a pretty good sense of how much leverage to put in and you can maybe achieve similar average returns or better average returns
if there's a supply demand imbalance in terms of who wants to own these versus wants to buy them but you you would have fewer outliers so I think it's a question of like do you do you want to be in the cohort of people who make the
Midas list and the 400 list for the first time in the same year because you have one amazing exit or do you want to be in the cohort that gets similar and perhaps better risk adjusted returns with you know fewer emotional ups and downs like they get they get a better expected return but much
more lower odds of that extreme outliers success and that again is like a very personality in person driven question so I think one of the things that you know doesn't it doesn't define something is venture scale but definitely helps is if the person building this company and the team building this company believe that they're solving an important problem that will not get solved unless they personally decide to solve it and this seems to be just a motivating factor of a fair number of
companies where they realize like there there is this problem everyone just treats it as a thing that you just have to deal with like Elon and internal combustion engines he was like it's crazy we all act as if this is just something you have to deal with but look these people at Tesla are actually solving this
problem I should get involved very early and then you know retroactively become a co-founder but he did enough enough early work he's definitely not the only person who joined the company after it was founded and then became a co-founder a couple years after that it happens it's it's part of how we do things it's okay but I think that is a case where you just you have a very different level of optimism about solving that problem within the company rather than outside of it it's
again a very polarizing thing like a lot of people thought Tesla was a stupid idea for a very long time it's it's hard to say that now like you can say it's an overrated idea but very hard to call it dumb so so that that does that does correlate with those venture scale outcomes like if it's a problem that you're trying to solve it nobody else is solving one possibility is no one's trying to solve this problem because it's a really minor problem and no one thinks of it as a problem so maybe your
tam is zero maybe your tam is like this you know this town really needs a really good burger joint no one is doing burgers right I'm going to start a burger joint and we're going to make really good burgers so yeah you have solved a problem you can't feel a lot of pride in that but it's not like a massive problem I think part of what makes part there's like this this sort of leverage going
after really big problems where if the reason nobody's going after it is that it just looks like it's too hard to solve like we're going to organize all the world's information it's you don't even know where to start with that like what do you what do you do read through the encyclopedia and then you know start like look between entries to see what were should be defined it's really hard to know where to start with a big project like that but that gives you a tagline and then if you have the
tagline that looks wildly implausible and then you tell people here is what we are doing concretely that actually makes this a more soluble problem here's a dimension on which this is actually a more solve than not problem because of our efforts then for some people like that is like the most motivating conversation they've had in their life and they're going to devote a lot of time to this company and they're going to get that
equity comp and it may turn out to be a really really good call on the purely financial dimension as well. It's interesting related to this topic is this idea of creator financing so my friends at slow ventures who maybe you should you're right about or interviewer which I'm going to show they are trying to do this model where they go to
the youtubers who have or doing well and they say hey do you want two million dollars if so we'll put it in a holding company for you for all of your future endeavors including you know your content business that you currently have plus any businesses that you may start on top of it you can do whatever you want with the money it's like a record contract and in exchange you will pay us some percentage of your income over the next you know
a couple of decades or something and I think it's like 5% of the I don't know different terms for different creators but it's kind of like somewhat de-risk model because the content will produce something but they may also create the next you know whatever Mr. Be's prime energy drink you know business so it seems to maybe have a chance with like you know a safer risk profile but I suspect that if it's in fact operating in the way that I outlined which may not be true but I think
that the market will become efficient over time and there will be better options for youtubers that don't involve there will be like more revenue based financing as opposed to you know giving up a percentage over the next couple of decades I suspect there's well that we grant on the L.P. side that might be a lot more capital you know coming into the ecosystem but I suspect that creators are not going to people don't
like these kinds of arrangements people that said people don't like record contracts they still take them and yeah yeah so I I generally like the concept I think I think it is it is a financial option that should exist because there there is that cohort of people who you can kind of tell that they have the potential and that with maybe just enough money to do this kind of creation full time for
months they'd be able to make a good living at it and do it indefinitely if I were doing that I would be very very keen to structure this as a high interest loan and treated as just a novel like specialty credit kind of business among many others and the reason for that the reason that I would be very reluctant to own equity in a specific creator is that at some point they will say I signed a contract when I was 16 years old I did not know what was going on like they told me I should
have a lawyer look at it but I didn't know which lawyer to talk to they put me in touch with the lawyer but I'm sure they whispered something in that lawyer's ear etc you know I signed this really abusive one-sided contract and now I'm 26 and one of the most famous people in the world and this guy you've never heard of the first time you hear of him is one of the most famous people in the world says he screwed me over and you know I don't want to be the guy
or that's the first time everyone's heard of me but it does happen to people you know there is a reason that there are tracks that are called the Taylor's version and you know when the when Hollywood was going through the writer's strike like the people saying we want to use AI to make movies more efficiently and the people saying we want you guys to go back to work and we'll give you a little bit more money but not as much as you're asking for etc we're just a lot less attractive
and a lot less charismatic than the people on the picket lines and also they weren't nearly as good at writing so you just never want to be a case where there you never never want to find yourself in a situation where you've put some money into an investment and the other
side of that investment they hold all the cards if there's a lot of money like in the maximum upside case they hold all the cards it's it's basically like investing a lot of money into a frontier market where you know if you if you actually do back this oil and gas exploration project in some very cool prone country and they do actually discover oil and it does become half of that country GDP what are the odds that you actually collect that money you know you'll probably get something out
of it but you'll get a lot of headaches there will be a lot of people who hate you personally who you've never heard of they hate you for reasons that don't make any sense you'll you'll be able to make this kind of nerdy argument that you were risking money and that you help
make this happen etc but nobody listens to the nerds in that situation so I think yeah you at least when you're investing in a tech company even if they feel that way you're probably at a similar charisma tier I guess you know not always like sometimes people just go through a charisma glow up like
suck but you know you probably don't you don't completely lose that PR battle by default so that would be my answer I think that is why when people do deals with creators it is a deal like it is you will market my thing or or the creator actually controls the
branding and they own the IP and yeah somebody else is actually mixing the high fruit is corn syrup with the very high dose of caffeine or they're actually making the beast burgers etc and even then you've got some rest like the beast burger thing Mr. Beast was very vocal about how he was
disappointed in the quality of the beast burger and I don't know the name of the the company that he worked with to commercialize this but Mr. Beast has a lot of fans and so a lot of those fans do know the name of this company it's just a business where you have you have serious
reputational downside risks that are just really really hard to mitigate and like everyone everyone at the beginning does feel like they're making a good deal they're doing a good deed like you're you're backing this promising creator who's going to do amazing things
and you know this is this is the the meeting that changed their life or put them on a new trajectory etc but eventually it is its business they their interests change they're not the same person who signed that contract and so even if it's legally binding you probably won't
won't collect as much as you thought maybe maybe there are cases where it actually works out just great but I think if it works out really great it's probably because your deal was more like I will be your agent I'm going to spend all of my
time thinking about how to make you more money and like every day you will get new evidence that it is valuable for us to continue this working relationship like that that probably works and that arrangement has worked a lot longer like the Beatles had a manager
they did not as far as I know did not like sell equity to some third party company that didn't do the work but did put in the capital and then another reason is like creators like they they can require some capital but it's a pretty asset light business like Mr.
just you know he spent a little bit longer filming videos in in his bedroom then he he would have if this kind of market had existed but not that much longer so yeah I think that's that's my general view on creator financing which I do again think is a really cool idea but I think there are I think like the the best case scenarios rapidly turn to the worst case scenarios and so it's it's not the kind of power law I like to bet on yet is fascinating one just sign notice I
don't friend who worked at a music startup that tried to make record label deals more fair I you less upfront money but way more equity so people can you know retain more of their masters and stuff like that but the musicians didn't quite appreciate their own
equity they're like no no just give me the I'm having to give up 90% of opportunities give me a million dollars like I want to be a million there right now and so that was very interesting the Taylor Swift Scooter Braun thing was fascinating because my understanding
Scooter Braun was in the right like it deals deal like you signed the deal but Taylor had so much leverage that she was able to like get her fans to be against Scooter Braun and you know threaten I guess to like not listen to those you know take like you just
re-release them or tell not listen and such that I think they had to renegotiate but it is interesting because the same you know thing happens in tech a little bit where someone like YC invests at such good terms they do work for three months and then
you know they're focused on their next batch they're not really with the company for the whole life second now they have great brand they great community at some value but it would be interesting if a Brian Chesky type figure you know said hey we're worth 85 billion or whatever whatever they were from the went public you know YC owns you know 7% a little bit diluted for three months of work now the opposite he actually credit them for being very helpful but you can imagine a world
where someone's like hey this venture capitalist is dead weight they haven't added enough value and I'm just going to pressure them to own less and we don't see that happening a ton but if we continue if we have you know if Taylor Swift was running a company and here she raised money for her you know like music career or something you can see a similar thing play out anyways it's interesting to think about some some parallel potential parallels yeah I so I guess one way to look at that
is like YC has funded a lot of companies and you're right there there haven't been that I've heard of any big successes where they said I can't believe we gave so much of our equity to YC so I think they might they might consider that as a possibility and as a risk to mitigate but I think in practice the way that they operate does most mitigate that risk because you go through you have your three months right you you're getting lots of advice you're
meeting lots of other founders you get a lot of really really valuable introductions and then one of the last rounds of really valuable introductions is you've got demo day now you have someone else who's put in more money they probably do have more of your equity so if you're going to be mad at someone for not pulling their weight maybe it is whoever invested in you at demo day and YC they also you know they have they have the care of they do continue to advise
companies after they're no longer in the network and you know they're they remain helpful and they remain they're they know they're playing a very iterated game like as soon as YC is the second best thing for really ambitious people to do that's that's an existential risk for them so they want to remain the best best option they want to remain the best option by a pretty wide margin and they've been able to do that and then they do have the stick of yeah people get
blacklisted and it is from what I've heard not pleasant and so I think that's something that people recognize like I don't I don't know there would be the end of the world like if if Dropbox got a little bit salty about YC and they you know Dropbox jobs were no longer listed on the YC portal or something like that or YC told founders you should use a different storage solution just put it all in one drive I don't think that would be
an absolutely existential risk but I also it does seem like people are generally happy enough with YC that that that doesn't matter that much and there was so there was this Paul Graham essay I forget exactly what it was called I think it might be something literally like the venture equation or something like that where what he basically said was if YC makes your company makes the the remaining like the deluded value of your company greater than the pre-delusion
value before you sold your equity to YC it's a good deal there might be better deals for you but if you used own 100% of a company that was worth a million dollars and now you own 93% of a company that's worth 10 million dollars like you are very well ahead even if you feel like they could have worked harder and you know they could have been more engaged during your your chats your partner chats or partner office hours so yeah I I think
there's this this meta thing where I feel like YC like a lot of other successful organizations is more internally panicked about losing relevance than it appears to be externally and that's one reason not too much about them losing relevance is that they they care about this stuff they really don't want to be the thing people used to do yeah I think YC has really invested in this in the stick I mean they've actually carried
as well but the network is so strong they're repete like you know Paul Graham Sam moment you know no longer Sam but these are kind of like you don't want to cross these people you know you know YC is not afraid to excommunicate people who who crossed the line or compete with them or and so you know
this news shaman Scooter Braun for not investing in you know controlling the you know or potentially the industry in such a way that people wouldn't want to would want to cross it yeah I feel like that you know you can you can view that in a negative light like you you can say that they you know created this sort of founder or mayor to thing but I just I don't see a lot of external indicators of that you know if if that's the case they must have a lot of really good black
military on a whole lot of people because there just be a lot more people criticizing them in that scenario. And you know, I, when you're saying like, yeah, you don't want to cross Paul Graham, I was thinking like, I already did not want to cross Paul Graham. Like, I, it was not, it's not because I'm worried that he's just going to be out for vengeance forever. He just seems
like a pretty standout guy who wrote really good essays. And yeah, so I think that like, that is probably just one of the one of the nice things about modern capitalism is that you can't have this niche of being positive some and doing doing the right thing a lot a lot, a lot a lot of dimensions. It's a whole lot easier to do the right thing every time when you made so much money early on that you don't have to worry about that, that, you know, temporary cost.
But it's really good that they're that that we have a system that can create institutions like that. And yeah, they do need to have some way to protect their interests, but it really doesn't seem like they have used it. Like I, you know, I'm sure at some point there will be some kind of story that,
that reads like that, that, you know, YC actually strong arm someone into doing something. And I'm sure there are plenty of VCs who at least feel like they have been strong arm by YC into doing something that they felt was not, not called for not in their interests and was very much like extracting value from them, giving it to somebody YC like more. So like that kind of thing, you know, it can happen, but it's also the kind of thing where you'd expect a lot of anecdotes like that
to exist in any kind of like, you know, it's like the general theory of conflict. Like you don't have a lot of conflict if one side realizes they will definitely win and the other side realizes they'll definitely lose. Like you have conflicts when you have two sides that each feel like they're in the right or at least each side feels like they can get away with something. And you know, one of them will turn out to be wrong, but the only way they turn out to be wrong is if they try to get
away with it and they don't. And you know, who, who was the person trying to get away with something unfair and who was their victim is very much in the eye of the beholder in a situation like that, because it is like that situation can only arise if there's some uncertainty about relative, relative power. Then, you know, if you don't like what I say, you can't always just not apply. I've been doing that for years. It's great. I think they've captured more value than anyone
the ecosystem. And sometimes people think it's a little bit too much, but I think they've created more value than anyone in the ecosystem. And they've certainly created way more than they've captured. And that's what institutions who create that much value have the, you know, ability to do. So I definitely agree there. I want to segue to one more topic, which is prediction markets. So here's my question. Why do prediction markets, especially for the election, give us meaningful
signal on what's actually going to happen given that we don't know who's betting. And yes, it just, and we don't believe in the efficient market hypothesis. If, you know, we, you know, we make investments in the first place. So why should we, you know, take meaningful signal on
who's going to win based on the odds and probably market? So my, I guess my general view on EMA, just like you should assume markets are pretty efficient in any market that you're not actively participating in any market where you don't feel like there's a plausible way you'd have an edge. And it can often be a really, really good exercise to look at some market that appears to be mispriced and try to actually reverse engineer why are people betting the way they're
betting? And you will sometimes find that actually, no, there's a really good reason for this. And that reason is not necessarily fundamentals. It could just be some kind of structural reason. So I linked in the weekend long reads post to a piece by Quantian who's like a finance Twitter
Quant personality has a really, really good sub stack. Very, very, very, very thoughtful. And it was a piece on, it was like a simplified model of a prediction market where just based on the structure of the market, the, the odds overestimated, the odds were overestimated for the underdog proposition, even though everyone is behaving perfectly rationally. They're all doing exactly what a perfectly rational better with those beliefs would do. And what it basically came down to was that
you don't make a lot of money betting against long shots. But if a long shot wins, you do make a lot of money. And you don't get paid interest on the money you tie up in a prediction market. And if there's a case where there's that kind of asymmetry and you don't get paid interest, it's whatever position requires the least capital that gets generally overpriced. What was a little weird to me about this piece was that it was kind of in response to a lot of the questions swirling around
polymarket and is it being manipulated? And I could go either way. I do get annoyed with people who say it's definitely being manipulated. And I'm not going to pick up some cheap expected value from betting against it. Because I mean, there could be like this narrow slice of caring where you care enough about elections to have this view into the market structure of prediction markets,
etc. But not so much that you take the next step of actually making the trade. And okay, maybe you do, maybe the fact that you can figure this out means that you have other opportunities that are higher expected value. And maybe you want to do something that's a little bit more repeatable and not just make money in these one-off trades. But I don't know, it seems kind of wimpy because I've just encountered enough people in that world who are just very, very excited to turn
disagreements into bets and who want to make lots of random prop bets. I think it's, you know, there's like if you have that instinct of I want to figure out the exact way that we disagree so that we can bet on it and that, you know, I want to be right, then you can, it's a very, very healthy instinct to have as an investor or as a trader. So, you know, markets like they respond to supply and demand. That is what you're seeing a market price is where the supply and demand
curves meet. It's not a direct reflection of fundamentals. But then those supply and demand curves are reflection of fundamentals. And in this case, the question is like, why is Trump, why was Trump recently 6040 when he's closer to tied in a lot of other models and in a lot of other prediction markets? And yeah, I don't have a strong view on exactly why one market would be, would be off that much. Like it is possible that there are large whales who are deliberately trying
to move the market. On the other hand, it's also possible that there are large traders who view this as a fairly liquid way to express their view. I think there are other ways. Like you can definitely express that view in particular equities if you care about it, whether it's like the the GSEs or it's Geo Group, the private prison company. Like there are a lot of ways to make pretty much a directional bet on the election outcome using the stock market without messing around
with this stuff. But you know, you, I wouldn't want to discount the possibility. Like with market prices, like you want to start with the, start by asking why did someone, why did a reasonable person make this trade? Because they have enough money that they've presumably done something reasonable in the past that made them wealthy enough to make a big trade that actually moved prices
on this market. And I think one of the, one of the interesting ways to view it is that there is this little kink and how you think about prices where if you're pay off probability, if you're probability of getting your money back is partly conditional on the outcome that you're betting on, prices get kind of weird. So the classic example of that is if you get an alert on your phone that China has, or Russia has, or North Korea has launched a nuclear missile right at your hometown,
or right at where you are right now, there's not enough time for you to flee. There is enough time for you to wish your love, you know, say, say goodbye to your loved ones, etc. There's probably also enough time to buy S&P futures. And you want to buy S&P futures rather than sell because if you do get hit by a nuclear weapon, you're already dead. And being dead and broke is just the same as being dead with a positive net worth. At least that's my understanding of the relevant theology.
But if it turns out that the notification was wrong, as has happened in the past, then probably stocks dip when the news comes out, stocks come back up when the news turns out to be wrong. So you actually made money. And so if you are an American investor, you actually have a different payoff function for exactly the same for the same contract than someone who is not in the path that this
nuclear hypothetical possible nuclear warhead. So you in that case, the prices would actually like the S&P 500 will probably under react to the end of the world because Americans will be buying if they're reasonable. So yeah, you do want to keep that in mind. So maybe there is this meta bit of if Harris wins, maybe I will never get my money out of Pauli Market. Maybe she doesn't like it if Americans are gambling on a market that says it's not for Americans. And maybe Trump is a little
bit okay with people doing various white collar law violations. After all, he has he's been a white collar worker for a very long time and has had his assorted run-ins with the authorities. Yes, that's a good note. A good way to describe what he's done and perhaps that's a good way to to wrap this has been great. Wide-wanging discussion, Bernie. As always, until next time. Till next time, all right.
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