Coinbase Global - Q2 2024

Transcript

Operator (participant)

Q2 2024 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question-and-answer session. If you'd like to ask a question during that time, simply press star, followed by the number one on your telephone keypad. If you'd like to withdraw that question, again, press star one. Thank you. Anil Gupta, Vice President, Investor Relations, you may begin your conference.

Anil Gupta (VP Investor Relations)

Good afternoon and welcome to the Coinbase Q2 2024 earnings call. Joining me on today's call are Brian Armstrong, Co-founder and CEO; Emilie Choi, President and COO; Alesia Haas, CFO; and Paul Grewal, Chief Legal Officer. I hope you've all had the opportunity to read our shareholder letter, which was published on our Investor Relations website earlier today. Before we get started, I'd like to remind you that during today's call, we may make forward-looking statements. Actual results may vary materially from today's statements. Information concerning risks, uncertainties, and other factors that could cause these results to differ is included in our SEC filings. Our discussion today will also include references to certain non-GAAP financial measures. Reconciliations to the most directly comparable GAAP financial measures are provided in our shareholder letter on our Investor Relations website.

Non-GAAP financial measures should be considered in addition to, not as a substitute for, GAAP measures. We are once again using the Say Technologies platform to enable our shareholders to ask questions, and in addition, we will take some live questions from our research analysts. With that, I'll turn it over to Brian for opening comments.

Brian Armstrong (CEO)

Thanks, Anil. I'm excited to share an update on our 2024 priorities. Let's start with driving regulatory clarity, given the significant progress here in Q2. First, advancing crypto legislation has emerged as a mainstream issue in Washington, D.C. StandwithCrypto.org has amassed over 1.3 million crypto advocates globally, many in swing states. And these advocates are making their voices heard as an important voting bloc. Politicians on both sides of the aisle have taken notice, and there is growing momentum to pass comprehensive crypto legislation, potentially even this year. Beyond legislation, we saw major wins both in the judicial and executive branches. The Supreme Court overturned the Chevron deference precedent in a case argued by our newest board member, Paul Clement. This case is significant for Coinbase as it removes a longstanding precedent that courts should defer to an agency's interpretation of ambiguous statutes.

We see this case as a sign of supreme court skepticism to agency overreach, which we view as a positive overall for our industry. In the executive branch, the SEC dropped multiple investigations against the industry and also formally approved the Ethereum ETFs, which began trading last week. We are also increasingly optimistic that the next administration, whether Democrat or Republican, will be constructive on crypto. The rhetoric has shifted. To continue to advance progress on crypto policy and capitalize on this momentum, we contributed an additional $25 million to Fairshake in Q2 to help elect pro-crypto candidates. Since we went public, we have reiterated the need for regulatory clarity. Why does it matter? Well, clear rules would be a major unlock for innovation in our financial system, and it would ensure that this industry is built here in America.

Many entrepreneurs and companies that want to build in the crypto space are sitting on the sidelines or going overseas until there is this clarity, given the regulation by enforcement environment. 90% of institutional investors say regulatory clarity would boost their confidence in investing more in crypto. For these reasons, Coinbase will continue to push for clear rules in the courts, in Congress, and in the November elections. While we're heavily invested in driving clarity in the U.S. and abroad, the vast majority of our resources, time, and attention as a company is focused on building great products. So let's talk about how we're driving utility. To bring 1 billion people on-chain, crypto transactions need to be cheap and fast, and it needs to be so easy to use that people don't even know they're using crypto.

We're investing on the frontier to make crypto seamless for both consumers and developers. Most of the building blocks for utility, like payments, are now here. Layer 2s, like Base, enable one-second, one-cent global transactions, and it's here today. Stablecoins, like USDC, enable global transfer and settlement in dollar terms today. Smart wallets offer seamless onboarding, so users no longer need to remember 12-word passphrases. In short, the components are coming together for us to see more and more global transaction flow on crypto rails. I'm excited to report that we're now seeing almost $20 billion per week in USDC transaction volume on Base. We're also seeing startups build on-chain versions of major Web2 apps like Spotify, Instagram, YouTube, and X. Building new versions of these applications on-chain gives creators new ways to monetize and remix content while fully controlling their own data.

This is the vision for the future of the internet, commonly called Web3. Coinbase Developer Platform, or CDP for short, is our developer product similar to what AWS did for the internet, which we believe will help more on-chain apps be created by offering developers best-in-class tools. Last but not least, let's move to how we're driving revenue. Q2 was another strong quarter, and it was our sixth consecutive quarter of a positive adjusted EBITDA. Subscription and services revenue reached an all-time high, with transaction revenue declining versus Q1. Coinbase is now an all-weather company with increasingly diversified revenue streams, and I'm proud of our discipline managing expenses. In closing, Q2 was another great quarter across the board. Whether the market is up or down, we're driving the industry forward, building more predictable revenue streams and creating long-term shareholder value.

Now I'll pass it over to Alesia for a more detailed view of our Q2 financials.

Alesia Haas (CFO)

Thanks, Brian. Our Q2 results reflect our continued revenue diversification and execution on our goal to generate positive Adjusted EBITDA in all market conditions. Total revenue was $1.4 billion. Our expenses were within the outlook ranges we provided last quarter, and Adjusted EBITDA was $596 million. Further, we strengthened our balance sheet to $7.8 billion in USD resources. With that, let's dive into the Q2 details, starting with transaction revenue. Total spot trading volume declined 28% quarter-over-quarter, driven primarily by lower crypto asset volatility. Our total transaction revenue was $781 million, down 27% quarter-over-quarter. I want to note to you that our transaction revenue benefited from growth in derivatives and Coinbase Wallet trading fees, where we do not report trading volume associated with these two revenue streams.

We were happy to turn on fees in Coinbase Wallet in Q2 following the favorable court ruling on Wallet in our motion to dismiss. Our other transaction revenue was down 6% quarter-over-quarter. We were able to significantly reduce base fees in the quarter, which, as Brian mentioned, helped drive 300% quarter-over-quarter growth in the number of transactions on Base. Turning to subscription and services revenue. As I mentioned in my opening, we were pleased to further diversify our revenue in Q2, and subscription and services revenue grew 17% quarter-over-quarter to $599 million. We saw growth across the board, but it was primarily driven by stablecoin revenue and blockchain rewards revenue. We note in our letter that our blockchain rewards revenue benefited from a one-time $8 million validator reward. We're also pleased to see continued growth with Coinbase One. Moving to expenses.

Our total operating expenses were $1.1 billion, which were up $229 million quarter-over-quarter. Three drivers contributed to this growth. First, a $117 million quarter-over-quarter change in our gain/loss on operational crypto. We recorded a gain in Q1 and an expense in Q2 as crypto prices were lower in the Q2 as compared to the first. Second, we saw a $67 million quarter-over-quarter increase in our variable sales and marketing expenses, higher USDC reward payouts driven by higher on-platform balances, and higher performance marketing spend driven by attractive marketing conditions. Beginning in late Q1, we've seen more marketing opportunities that meet our investment criteria. We take a disciplined approach to balancing marketing investments with growth. We have clear guardrails in place that ensure the vast majority of our non-brand marketing spend pays back within one year.

The third driver of the expense increase was a $26 million quarter-over-quarter increase in policy spend in support of driving regulatory clarity. All policy spend is now recorded in general and administrative expenses as we view them ongoing, and we have updated prior periods accordingly. Despite our sequential decline in revenue, our profitability was solid in the Q2. Net income was $36 million and was impacted by a $319 million in pre-tax crypto asset losses associated with our investment portfolio. The vast majority of these were unrealized. These losses represented a $248 million after-tax expense. Our Adjusted EBITDA was $596 million, and our balance sheet remained strong as we ended the Q2 with $7.8 billion in USD resources, up $733 million quarter-over-quarter. Finally, a few callouts on our outlook for the Q3.

First, our subscription and services outlook reflects some modest headwinds as we go into the Q3. This is primarily due to the July Ethereum price declining about 3% as compared to the Q2 average, our expectations of a September interest rate cut, some increases in expenses related to USDC as we work to drive global adoption of USDC as the most compliant stablecoin, and the one-time $8 million blockchain reward benefit I mentioned earlier. We are going to work hard to grow native units to try and offset these headwinds. However, our range has been updated to capture this market environment. Second, we plan to further grow our variable marketing spend in Q3. Variable marketing expenses can fluctuate widely quarter-over-quarter depending on factors like the on-platform USDC balance, the overall market conditions, and the number of available marketing opportunities that meet our customer cost of acquisition targets.

Our outlook range is wider than we provided historically, and it reflects the range of possibilities we see. Last, while we are expanding variable expenses to meet evolving market conditions, we also expect to prudently increase headcount throughout the rest of the year, primarily to support our product and international expansion efforts and to strengthen our product foundations and quality. We remain focused on managing our fixed expenses closely and believe these investments will support continued revenue diversification and product quality. With that, let's go to questions.

Anil Gupta (VP Investor Relations)

Thanks, Alesia. So we'll take the first three questions that were the most voted upon from the Say platform, and then we'll take some live questions from the analysts. The first question is, how does Coinbase view the potential impact of Base's partnerships with companies such as Stripe and Shopify, as well as the impact of the newly launched smart wallet on increasing crypto adoption? Brian?

Brian Armstrong (CEO)

Yeah, so our whole goal here is to try to shift crypto to power more and more utility and not just be an asset class that people buy and trade, hoping it'll go up in value, although that's going to be a big business for us for a long time. But if we're ultimately going to achieve the potential of this, we need to get a billion people or more on-chain who can benefit from this update to the financial system to bring more economic freedom to the world. So to do that, there's some foundational building blocks. We need to make all crypto transactions fast and cheap, ideally under one second and one cent to send a transaction anywhere in the world. And we've now achieved that with Base. We also need to make crypto a lot easier to use to get a billion or more people.

Not everyone in the world knows the technical details, nor should they have to know the technical details of crypto. So we're making a lot of efforts in that direction to make it easier. I mean, one example of this was mentioned in the question, our smart wallet launch. So this is, it solves one of the biggest pain points in crypto. Previously, to get onboarded to a self-custodial wallet required you to have a 12-word passphrase. People had to write this down or save it somewhere. Sometimes they would lose it or not store it securely. With smart wallets, people can now onboard just using what are called passkeys. Typically, it's a biometric, like a thumbprint on a mobile device. And there's nothing they have to remember. It's secure. It's fast. They're onboarded in a few seconds. So it's a great example of getting onboarding solved.

Now, if you take Base, smart wallets, USDC, which is a stablecoin that meets with the MiCA compliance in Europe and is trusted, you start to see some of the building blocks coming together where we can really start to drive that utility. And of course, partnering with some of the biggest companies out there to integrate crypto rails is a huge piece of that as well. So two of them were mentioned in the question. We're going to continue to try to partner with every fintech, every bank, every neobank, even more traditional companies to try to integrate crypto into every part of the global financial system. That's how we're really going to update the financial system. And we'll do more and more partnerships.

Anil Gupta (VP Investor Relations)

All right, second question, which says, first of all, thank you for all the community support for things like Stand With Crypto. What else is being done to support better regulation in the industry, and how can we as shareholders help? Brian?

Brian Armstrong (CEO)

Yeah, well, first, thanks for the shout-out on standwithcrypto.org. If anybody hasn't signed up there, I'd encourage you to do it. Invite your friends. It's an organization that we were proud to donate to that's helping educate voters. And there's 52 million Americans, 400 million-ish people globally that have used crypto now. It's important that in democracies around the world that we help folks get educated on different candidates and give them the tools to help support. So on standwithcrypto.org, and specifically, you can call and email your representatives, see what their position, their voting record is on different crypto bills that have come up. You can donate to pro-crypto candidates. You can also, most importantly, probably just make sure you're registered to vote and get educated on those different candidates.

Now, Stand With Crypto is great, but it's just one pillar, really, of the different efforts going on in the industry. Of course, we're pursuing clarity on the rules in the courts. We have our court case going on there, which we hope will create good case law. There's lots of other pieces to that in terms of getting FOIA requests answered, shining a light on some of the activity that may have been happening there. We have oral arguments going forward in the Third Circuit to press the SEC on doing rulemaking following the Administrative Procedure Act. So there's a variety of things going on in the courts, which we think will help create good case law. In Congress, also, we're seeing bipartisan legislation have a path forward.

There's real energy now in the Senate taking up the strong bipartisan majority that got passed in the House with the FIT21 bill. The Senate is now working on their own version of that. So we're optimistic to see more progress there. Yeah, so these are all, and of course, Fairshake is an organization that we were proud to donate to that's helping elect pro-crypto candidates. So these are all things that can contribute to the cause here. If any of you want to know what you can do more to help, I'd start with standwithcrypto.org and make sure you're signed up there and contact your representatives and register to vote.

Anil Gupta (VP Investor Relations)

All right, and our final question from Say: what level of revenue are you projecting for custody in funds of the crypto ETFs? Can you break that down between ETH and Bitcoin? Additionally, what types of revenue are you projecting for the Base chain, Alesia?

Alesia Haas (CFO)

Thanks for that. ETFs have been great for our industry. They have really generated a flywheel of activity across our product platform and deeper engagement across the ecosystem. It's unlocked new capital. We're benefiting in three ways. We get trading, we get custody, and we get additional financing business in our Prime financing product from our institutional clients with the ETFs. We're not breaking out total ETF financial impact at this time. Our view is that this is just adding to existing products and revenue streams that we have, and we don't speak about specific subproducts or client activity on our platform. But we're really pleased to see the overall interest that the ETFs have brought to the crypto industry and to our product.

Additional types of revenue for the second part of the question that we're projecting for Base, our focus, as I mentioned in my opening remarks, is driving developer activity. We're driving those transaction volumes that we commented on. We're doing this by driving down fees, increasing the scalability, and creating a powerful developer platform that's enabling anybody to build these on-chain products. We believe that this growth will then add users to develop products, will add developers and apps on Base, and that in turn will drive transaction volume and will drive down sequencer fees, and we will then see revenue as a result of those efforts.

Anil Gupta (VP Investor Relations)

Thank you. And so with that, Krista, let's open up the line for our first question, please.

Operator (participant)

Certainly. Before we begin, please limit yourself to one question. Your first question comes from the line of Devin Ryan with Citizens JMP. Please go ahead.

Devin Ryan (Head of Financial Technology Research)

Great. Thank you. Hi, Brian. Hi, Alesia. I just want to ask a question about the derivatives platform. And we're tracking just quarter to date a continuation of building volumes there. And I know you're not breaking it out in revenues separately yet, but it sounded like it was a positive contributor in the Q2. I'd love to just get some perspective around how you think you're taking share in that market. I know it's coming off of a low base. What are you seeing with customers coming on platform? And then over time, are there opportunities to either take up the average spread per trade or drive other incremental revenues with the customers that are trading derivatives? You're trying to think about kind of the bigger picture of where this may be going since it's trending positively. Thank you.

Brian Armstrong (CEO)

Yeah, so I'll start off, and then maybe I'll hand over to you, Alesia, on some of the margin questions. So just zooming out, derivatives is about 75% of all crypto trading activity by volume. And so it is the majority of trading volume. Now, the take rates are lower on it, but it's really a key part of the market overall. And so I'm really glad that we are now in market, both in the U.S. with Coinbase Financial Markets and then internationally with our international exchange as well. So primary goal at this point, building liquidity, adding users, growing share. We had some really good wins in Q2. In the U.S., Coinbase Advanced, we were able to expand to include more contracts there. We were the first platform to offer margin crypto futures for a handful of different assets, for instance.

We've also been adding, actually, for Coinbase Financial Markets, we've been adding some real-world assets as well, like gold and oil commodities futures, which was pretty cool. We were able to operate that all under the same license. For Coinbase International Exchange, we also expanded our asset coverage quite a lot in Q2. We added 25 additional perpetual futures contracts. The volume has been really good today, actually, on Coinbase International Exchange. So you can check that out at international.coinbase.com. So we're just building on this momentum, building the features that our customers want and need. And then there's a MiFID license that we acquired earlier this year when we're expecting that to close in 2024. That will allow us to unlock derivatives in 20 or more EU markets. That's a pretty big deal.

And so you can kind of just see Coinbase following this path of we're not always first to market, but we do it the right way. We do it the compliant way, the secure, trusted way. And so we're the trusted counterparty that many of these folks have been waiting for to enter the market. And I think that's going to pay off as a really good long-term strategy. Alesia, anything you want to add?

Alesia Haas (CFO)

The only thing that I would add, as Brian said, it is early. At this point in time, derivatives, while an important future growth driver, is not a material driver of our financial results. What I wanted to comment on in Q2, though, is because we do report revenue associated with derivatives, but not volume. What you can see is then a beginning disconnect between the revenue and the volume that we report, which is spot. So the growth rates of those two are the change. You need to understand that there's a disconnect between numerator and denominator when you may calculate blended average fees for our platform. So that was the important message that I wanted to communicate in the quarter.

As we grow, as we really close these product gaps and expand to these countries where we can market, as Brian said, we're optimistic that this becomes a bigger component of our revenue in which we would break out more details and give you more transparency on the results in our future financial filings.

Operator (participant)

Your next question comes from the line of Ken Worthington with JPMorgan. Please go ahead.

Ken Worthington (Managing Director and Senior Equity Research Analyst)

Hi, good afternoon. Thanks for taking my question. So Coinbase continues to promote USDC. To what extent is MiCA really a game changer in Europe for USDC? And to what extent would you expect to see a migration now out of, say, Tether into USDC, not just inside Europe, but maybe globally, given the credibility USDC gets from this framework? And then if we think about the use cases for USDC being sort of threefold, building digital asset trading, DeFi, and dollarization, where does Coinbase see the biggest potential to drive USDC adoption, both near-term and over time?

Brian Armstrong (CEO)

Yeah, well, I'll start off, and then I'll pass it to Alesia here. So yeah, the MiCA legislation is a really big deal in Europe. As far as we know, USDC is the first MiCA-compliant stablecoin. And so the exact implications of that and how the regulators will view other stablecoins in Europe, we don't know, but it's the first compliant one, and that's a very important step. So we're bullish on this. I think that having just a trusted stablecoin is a huge deal. It's allowing people to actually use crypto rails for ordinary transactions, earning a living, paying for food, transportation, housing, and engaging in these new kinds of Web3 and DeFi applications. Having something that is not just a store of value, but it's actually a medium of exchange is really powerful. So I think it's a big deal. Alesia, anything you want to add?

Alesia Haas (CFO)

I would just come back to the building blocks that we're putting in place is setting a strong foundation for future growth and adoption. So as Brian said, we're getting the regulatory licenses that will enable us to scale globally. We now have a very transparent stablecoin. We have Base, which is offering fast, cheap transactions. We have smart wallets. And so all of these building blocks together really set a stage where we can grow off of a very important foundation. And we're seeing this impact on our financials already, where USDC has become the fastest-growing stablecoin, faster than other major competitors, with market cap is up 30% year to date. Our average on-platform balances increased 50% quarter-over-quarter. And we're starting to see, as Brian mentioned in his opening comments, over the recent weeks, $20 billion of transaction volume on USDC on Base.

The foundation is set. We're excited where this can go. But MiCA has been a critical unlock because as we think about growing USDC to be a global compliant stablecoin, we have a really strong foundation that we're now able to build from.

Operator (participant)

Your next question comes from the line of Benjamin Budish with Barclays. Please go ahead.

Benjamin Budish (Equity Research Analyst)

Hi, good evening, and thanks for taking the question. I was wondering if you could give us an update on your balance sheet strategy. We noticed the cash build continues to really grow. It seems like with the business generating cash and the spending really kind of ramped down from a few years ago, there may not be as much of a need for it. Any update there? Then kind of along the same lines, you've been generating now a lot of your gross profit from interest income. Just curious if there's any thoughts around the hedging strategy. Should rates start to come down, what's your kind of philosophy there? Thank you.

Alesia Haas (CFO)

Thanks for those questions. Yes, we're really pleased with the balance sheet strength. We are using cash, as we've mentioned, in our prime financing business. A large amount of that cash was used to support the ETF launches in Q1 and Q2 with the Bitcoin ETF and now hopefully the Ethereum ETF, where you can see a lot of day-to-day or week-to-week volatility of those loan balances. We did grow prime financing fees within the quarter. And so you can see while the balance at the end of the quarter was down versus end of Q2, we saw growth intra-quarter for those balances. So using our cash to support our products is a primary use case for us. We also, as we shared when we did the convert raise in Q1, that we would be paying off the 2026 convert.

Some of that cash is already pegged for a future payment of the 2026 convert on the balance sheet, which will bring down the cash balance at that time. We also maintain a strong balance sheet so we can be opportunistic as we look for other investment opportunities, both organic and inorganic across the world. That is something that has been core to our strategy to do tuck-in acquisitions or growth acquisitions when those opportunities present themselves to us. We think of it as just building opportunistic capital for us to enable that we can be ready for all markets and opportunities that present themselves. Secondly, on the comment around interest income, we obviously did benefit from the interest rates with USDC over the past year. We are prepared, as I mentioned in my remarks, for rate declines.

Our goal is to continue to grow native units around USDC and use cases to offset that. We've also explored various hedging. We are not the issuer of USDC and managing the reserves on that balance. So I can't speak to that strategy specifically.

Operator (participant)

Your next question comes from the line of Owen Lau with Oppenheimer. Please go ahead.

Owen Lau (Executive Director and Senior Analyst)

Good afternoon, and thank you for taking my question. Could you please talk about the recent retail engagement, and how does it compare to earlier this year and the last bull run back in 2021? How much of them have come back? And also, Mt. Gox has started the repayments in July. Do you see some of these creditors coming back and re-enter this space? Thanks.

Alesia Haas (CFO)

Oh, and I'll start with that. So our retail engagement is different from the last bull run because in the last bull run, we really only had a trading product platform available to our retail customers. Today, we offer staking for customers. We have USDC rewards. We have more products within Wallet and our smart wallet that we just launched to engage users in a breadth of DeFi applications as well. And so we are seeing our retail engagement now expand in many different ways, where we have different customers behaving in different ways on the platform than we saw in prior cycles. What we see as consistent is that retail traders, specifically, who are coming on the platform to buy or sell crypto, behave very in line with prior volatility. And so volatility patterns mirror this cycle compared to prior cycles.

But the deeper engagement is with the breadth of the portfolio that we now have.

Operator (participant)

Your next question comes from the line of Mike Colonnese with H.C. Wainwright. Please go ahead.

Mike Colonnese (Managing Director)

Hi, good afternoon. Thank you for taking my question. Can you provide an update on your strategy and potential product roadmap for Coinbase Asset Management, and really how you guys are thinking about that in the context of an improving political environment in the upcoming elections, and how that can really influence both the timing and types of products you decide to roll out here? Thank you.

Brian Armstrong (CEO)

Yeah, I can start on that. If anybody wants to jump in, feel free. Currently, Coinbase Asset Management has been a really good offering for our institutional customers who want to have different ways, different strategies, really, to access the crypto markets and package those up into really easy-to-use products. I think your question kind of alluded to the policy environment. We don't know exactly what will happen over the next year on that. I do think we'd ultimately like to see a path where we could start to get index funds, retail products in the crypto space. That was going to require a different policy environment where we can get some of those things approved. Personally, I'd love to see a Coinbase 500, similar to the S&P 500, a market cap-weighted index that retail could participate in.

I think these things could be really beneficial. But it's too early at this moment. I don't see any path to do it in the near term. And so we're going to keep pushing on that one over time with our policy efforts.

Operator (participant)

Your next question comes from the line of Joseph Vafi with Canaccord Genuity. Please go ahead.

Joseph Vafi (Managing Director and Equity Research Analyst)

Hey, everyone. Thanks for taking my question this afternoon. Maybe this one's for Brian. If we do get some crypto legislation, clearly a positive for the industry and might be a green light for big TradFi players to enter the space in a bigger way, how do you see that relative to Coinbase's position? Would you see big TradFi guys as competitors or partners, or maybe it's coopetition? It might be a little early here, but it'd be interesting to get those views. Thanks a lot.

Brian Armstrong (CEO)

Yeah, well, I think you're right that the lack of regulatory clarity is probably the biggest blocker for institutions to put more and more funds into crypto. We have a huge number of them as clients in Coinbase Prime, our institutional product. And when I meet with them, they'll often say, "Oh, we've got 1% or 2% or 3% of their funds in some portfolio they're holding in crypto." And I ask them, "Well, what would it take for it to be 10%, 20%, 30%?" And they all say, "Regulatory clarity." So I think getting these new pools of capital unlocked, it would be certainly a huge step in that direction. And by the way, the ETFs have been a portion of that unlock already, right? The Bitcoin ETFs and Ethereum ETFs did get approved. We saw new pools of capital open up from that.

But the regulatory clarity goes way beyond just new pools of capital coming in. That's great. But perhaps the even more exciting part of it is that today, you have to be pretty resilient to be a crypto entrepreneur. I mean, most of these folks, if you're in your early 20s and got a couple of folks right out of college with a laptop and a dream, and they want to build a crypto company, you have to be pretty intense to go into this market. And you might get a Wells notice in the first few weeks, and you have to call your parents and tell them that you're being sued. So that's not most entrepreneurs' idea of the first company they want to start. Now, many of them are still doing it anyway, or they're just going overseas.

It's really hard to put a dollar figure on this. If we actually have a welcoming environment where the rules are clear and everybody can just follow them, we could see a huge surge of innovation with all kinds of new applications being built. By the way, the biggest partners that we talk to, some of the biggest tech companies in the world, when we talk to them about integrating crypto, they often will say the same thing. They'll say, "Well, let's try to wait for regulatory clarity." So for instance, with the MiCA regulation that passed the comprehensive crypto legislation in Europe, that actually did open up a bunch of conversations in Europe. They're all hoping that it happens in the U.S. as well.

So anyway, you can look backwards and say, "Man, where would we be if this clarity had been there five or six years ago?" But I'm an optimist. I try not to look at the past. I try to look at the future. So where will we be in five or six years if we get something passed in the U.S. as well? And clear rules are good for everyone.

Operator (participant)

Your next question comes from the line of Pete Christiansen with Citigroup. Please go ahead.

Pete Christiansen (Equity Research Analyst)

Good evening. Thanks for the question here. Brian, I'm very intrigued by the comment on the increase in the on-chain initiatives, Fortune 500, so on and so forth. Super interesting. I was just wondering if you can call out some discernible trends here. I know you mentioned Spotify, many-to-many kind of market. That's interesting. What about B2B or B2C? And then with some of these early adopters experimenting with Web3 development, are you seeing these players experimenting at their core level, or is it really at the application level? And finally, what's Coinbase's role simply in the development process of on-chain initiatives? If you could just help us crystallize that, I think it'd be really helpful. Thank you.

Brian Armstrong (CEO)

Yeah, sure. So a lot of the core pieces, I think, are there now with these Layer 2 solutions and smart wallets. Like we talked about, Coinbase Wallet as a self-custodial wallet can be an easy platform for these folks to interface with USDC, etc. So a lot of the core pieces, I think, are now there. ENS is another one, by the way, having the Ethereum Name System. So having sort of these identities online that can accumulate reputation. And these are all kind of core building blocks. So I think a lot of the innovators are now coming in at the application layer. And we're actually hosting a hackathon called Basecamp today in California. And we have hundreds of builders there learning about how to build on-chain, launching new applications. It's a really cool event. I was just dialed in earlier this morning.

These kinds of things are happening more and more frequently now. You can think about a lot of the big applications in Web2. Think about what would Airbnb or Uber or Wikipedia or some of the social apps like X or Instagram or music apps, right, like Spotify look like in a Web3 world? I think the people creating the content, whether you're the biggest artist in the world or you're kind of an average person getting into it, they can actually own their own content, have a direct relationship with their fans, directly monetize their fanbase. People can remix content. There's an attribution chain. As people remix this, whether it's text, audio, video, there's an attribution, a Provenance that's formed on-chain to prove where these things came from and what were they derivatives of, which the monetization can flow through all of that.

And then also, it kind of really rewards the early people who come in to build these networks, right, like an Airbnb or an Uber on-chain. So it's great. We're seeing a lot of innovators come in. And the way Coinbase can contribute to this, I mean, one of the main ways is we're building a developer platform, right, called CDP, Coinbase Developer Platform. It's kind of like our version of AWS. We had a bunch of these tools internally we were using to build our own apps. And we said, "Hey, we might as well expose them to third parties, allow third parties to build on top of them." Some of those are going to be Web3 startups building on-chain. Some of them might be fintech companies or banks or financial service companies that want to integrate crypto into their products.

Some of them might be shopping, like kind of e-commerce checkout solutions that want to have crypto as an easy way to pay globally that has lower fees than paying 200 basis points for credit cards or having high decline rates, high chargeback rates. So we're seeing interest from merchants in those regards. So the answer to your question is we don't really see it as competitive with these other firms. We see it as we want crypto to be integrated into every part of the global economy, every commerce solution, every payroll solution, every bank, every fintech, every neobank in every emerging market around the world, every cash pickup location. We want really crypto to be the rails that power the future of the global economy. And because they're better rails, they're faster, they're cheaper, they're more permissionless.

That's what's going to increase global economic freedom if we can update the global financial system.

Alesia Haas (CFO)

I couldn't have said that any better. But I just want to say, Brian, this is our belief. And what we are now focused on is building the user experience. We are focused on fixing cost, fixing speed, security, and user experience. And that is what you see our building blocks coming together to enable this future that Brian has just painted for us.

Operator (participant)

Your next question comes from the line of Dan Dolev with Mizuho. Please go ahead.

Dan Dolev (Managing Director and Senior Analyst)

Hey, guys. Hey, Brian and Alesia here. Thanks for taking my question. So really good results. Wanted to know something about pricing. So it looks like consumer transaction take rates picked up 13 basis points. Maybe you can talk a little bit about the pricing environment and drivers of the uptick in sustainability of that. Thank you very much.

Alesia Haas (CFO)

Thanks for the question. So as I noted in my opening comments, we have two revenue streams: derivatives and wallet fees. Those are revenues for us that hit consumer transaction revenue. But there's no associated spot trading volume in our reported spot trading volume metric. And so if you take the revenue divided by the trading volume, it's a little bit of apples and oranges. Spot trading is the vast majority of our revenue. But now we have new growing revenue streams that are not yet material but are now starting to influence that blended average fee rate if you do A divided by B. And so that's why we really wanted to call out that difference between the change in revenue versus the change in trading volume this quarter in my opening comments.

We saw the same mix between simple and advanced trading this quarter that we did in Q1. We didn't have any material change in our fees this quarter as well. We continue to experiment. Experimenting with our consumer fees is one of our key strategies to make sure that we continually understand the market and our customer behavior. This quarter, it was really due to growth in new revenue streams that aren't reflected in the trading volume.

Operator (participant)

Your next question comes from the line of John Todaro with Needham. Please go ahead.

John Todaro (VP and Senior Research Analyst)

Hey, guys. Thanks for taking my question. Me and a lot of my peers were down at Bitcoin Nashville last week or so. Trump spoke. He spoke very positively on crypto. Given you guys have been close to kind of the political landscape this year, is there more bipartisan support for crypto behind the scenes than what we're seeing? Or would four more years of a Democrat, would there continue to be kind of similar to the regulatory standstill and some of the difficulty in the crypto environment?

Brian Armstrong (CEO)

Yeah, I can jump in. So the first thing I'd say is crypto is really nonpartisan. There are really strong champions on both sides of the aisle at this point. And a few skeptics, by the way, on both sides of the aisle. But it's predominantly, I'd say, supporters at this point. And as you noted, there's been a big rhetoric shift, really, from both sides. But you mentioned one that certainly got a lot of attention last week. I mean, we just feel like there's been a monumental shift. We feel very lucky that this political constituency is now being taken seriously in D.C. It's a massive voting bloc. I think it was a group of people that felt underserved in the past. And they felt like the industry and they were being attacked. And we've seen a shift from both sides.

Now, every voter has to, of course, make up their own mind. We want to make it easy for people to do that. There's various orgs we've contributed to which try to make that easy, like StandWithCrypto.org. And it's not just about at the top of the ticket, by the way. It's every congressional seat and local election as well. So 1.3 million people have raised their hand and said they want to elect pro-crypto candidates on StandWithCrypto. Almost all of those are many of those are in the U.S. But I think it could be much bigger than that. 52 million have used crypto. And so if 1.3 million of them are active or a little bit less than that, that's great. So I don't know what else to say besides that. I think we're feeling like there's a lot of momentum. Let's just leave it at that.

All right. I think we have one more question in the queue.

Operator (participant)

Your final question comes from the line of Patrick Moley with Piper Sandler. Please go ahead.

Patrick Moley (Director and Senior Research Analyst)

Yeah, good evening. Thanks for taking the question. Brian, in your prepared remarks, you said that you expected a little bit of a headcount increase in the back half of this year. I was hoping you could just elaborate on those comments and maybe help us understand how you're thinking about an appropriate headcount and maybe just comment a little bit more on where you expect that growth to come from. Thanks.

Brian Armstrong (CEO)

Yeah.

Alesia Haas (CFO)

I'll take this one to start. Brian, maybe you could add on. So I did mention in my opening comments that we do plan to increase hiring through the back half of 2024. This growth is going to predominantly go to our consumer and our international platforms, as well as to shoring up our product foundations to enable us to scale with the growth that we anticipate in the long-term business. So we are being prudent in managing these fixed costs. We haven't given a specific number. But we are going to be very thoughtful about investing in key areas of growth that we continue to see and make sure that we can meet the moment of the market.

Brian Armstrong (CEO)

All right. Well, that does it for today. Thank you all for your questions. We look forward to talking to you again next quarter.

Operator (participant)

This concludes today's conference call. Thank you for your participation. You may now disconnect. We're offline.

Alesia Haas (CFO)

Thank you.

Operator (participant)

You're welcome. I'll see you on your next call.

Alesia Haas (CFO)

Okay.

Nikou Asgari (Digital Markets Correspondent)

Thank you for joining us. Thank you for coming to this panel session. I'm Nikou Asgari, digital markets correspondent at the Financial Times. I'm joined this afternoon by a wonderful panel where we will be discussing the role of crypto in portfolios and strategic crypto asset allocation. To discuss all of this, I'm joined by Blue Macellari, Head of Digital Asset Strategy at T. Rowe Price; Matt Halstead, Director of Real Estate Investments and Digital Assets at the Teacher Retirement System of Texas; Matt Hougan, Chief Investment Officer at Bitwise; and Sebastian Pedro Bea, President of Coinbase Asset Management. Thank you all for being here. I guess the first place to start, the first place that I'd like to start, is how you think sort of broadly investors should be thinking about and should be considering investing in crypto if they haven't already.

Or if they are, how they should be considering changing that, obviously, with the developments of the Bitcoin ETF approvals, the potential ETF approvals? What does that landscape look like, Sebastian?

Sebastian Bea (President)

Sure. Well, first of all, welcome to the first institutional cycle for digital assets. I mean, look at this room. Look at who's here. We are there. We have started the first cycle for digital assets. So when we think about investing, we have to think about that regime that we've just now entered. We're in the first institutional cycle. So that means things are happening. It's time to act. But that doesn't change the rules that many institutional allocators follow. You have an IPS. You have capital market assumptions. You have a strategic asset allocation. You're going to follow those rules, those procedures, which underpin how you invest for your constituents. That's not going to change. But what's next? Well, you've already invested $50-some-odd billion in venture capital. That's happened in crypto already. What's next is probably hedge funds. Bitwise have got a multi-strategy fund.

We've just launched our own index. These liquid expressions are coming to institutional portfolios because the cycle has started. We've got new laws. We've got regulations. We have operational excellence with counterparties. So all those risks have receded. Now we're starting to move from illiquid to liquid. I'll leave it to some of the index experts to think about valuation.

Nikou Asgari (Digital Markets Correspondent)

Well, we'll get to valuation. But just firstly, broadly, Matt, what does that landscape look like in terms of investing in crypto? And how has it changed?

Matt Hougan (CIO)

Yeah, I absolutely agree with Sebastian. It's changing from a focus on venture capital into liquid assets. I think institutions broadly overallocated into VC and have very little allocation to liquid. They're now moving in. I would say the biggest change over the last year is the realization that institutional investors are effectively short crypto because they have zero allocation to a $2.5 trillion asset class. Now they have easy buttons and easy ways to do it. So people are reckoning with the fact that that is the case. They didn't have to invest in crypto or consider crypto pre-ETF because there were challenges. There was a great deal of regulatory uncertainty. They no longer can do that. So they're effectively short this asset that's part of the broad capital markets. They're trying to catch up.

Nikou Asgari (Digital Markets Correspondent)

Yeah. And Matt, from your perspective, how are you thinking about crypto investment and crypto asset allocation?

Matt Halstead (Director)

I think the biggest challenge I think we've had, just saying, accessing the institutional investor world, is that referring to the universe of assets represented on-chain as crypto, I think, does us a pretty big disservice. If you think about the variety and the breadth of what you can own with a token or with a digital asset, some of it is venture capital. Some of it's a commodity. Some of it's art. Some of it's pieces of a community, intellectual property. And so I think probably the biggest thing that needs to be done to make progress and kind of penetrate big sources of capital is to clear up what crypto means. It's really just a format. And tokenization, in general, is a formatting exercise that is allowing for standardization of how things move around.

Part of the big breakthrough of blockchains and crypto in general is really the merging of communications networks and financial networks and having that be redesigned in real time. And I think if you frame that to a professional investor, it tends to change the conversation. I don't think it's controversial to anyone to suggest that a portfolio should have exposure to emerging technologies. People have become accustomed to that now for decades in our field. And so I think if people start to understand what specifically you have the ability to own and access via crypto assets or tokens, I think you start to get a lot more curiosity. And so I think all institutions should consider exposure to technology. I don't think that's controversial.

I think that the amount of investments that will be on offer and accessible on-chain is going to grow dramatically to, over time, represent almost anything.

Nikou Asgari (Digital Markets Correspondent)

Blue, Matt mentioned curiosity. Where does your curiosity sit in the crypto world? How do you think people should be looking at this?

Blue Macellari (Head of Digital Asset Strategy)

So I think that one of the things that always surprises me is that when we begin looking at digital assets, most of the time we start with Bitcoin. And in many ways, it's the hardest one to get your mind around from a traditional portfolio management equity model. So we sort of start with the hardest thing first. And I think that we're seeing very much that the ETFs have brought the discourse more into the mainstream. So this idea that if you're not having a conversation about exposure, you are essentially short the market is very real. And I think that the conversation has become, well, OK, so why aren't we doing this? Rather than why should we do this? And that's a much more constructive place to start from.

Nikou Asgari (Digital Markets Correspondent)

I want to come on to valuations, which you mentioned, Matt. But also to remind the audience that we will be taking audience questions. So please scan and send in your questions, which I'll ask the panel nearer the end. But on valuations, Matt, how should people tackle this? How should people tackle this? Let's start with Bitcoin, for example. How do you think about valuations? I mean, there are a lot of models out there, a lot of numbers thrown around. But if an investor is looking at Bitcoin, wanting to get exposure, but looking at the volatility, the potential returns, where do they start from?

Matt Hougan (CIO)

I think the biggest thing to focus on when you talk to institutions about valuation is not whether it should be 68,000 or 72,000. It's whether it's 70,000 or zero. I think most institutions are worried that zero is a possibility. The way I talk to institutions about Bitcoin is, look, it provides a service. The service Bitcoin provides is the ability to store wealth without relying on a government or a bank in a digital format. If you want that service, you can't pay a fee. You can't pay $10 a month or subscribe to it. You have to own the asset. From that perspective, valuation is no different than anything else. If you think about Salesforce, it provides a service. If more people want Salesforce's service, the price of Salesforce stock goes up. If fewer people want it, the price goes down.

If zero people wanted it, the price goes to zero. The same thing is true of Bitcoin. If more people want this service of storing wealth without a government or a bank, the price will go up. If fewer people want it, the price will go down. If no one wants it, the price will go to zero. But I think you can sort of disarm that argument about whether it's worth zero by framing it as just another service. The unique thing about this service is you can't pay a fee. You have to own the asset. And for me, that sort of solves that existential worry for people because evidently there are millions of people and millions more each year who want this service. And so we see prices going up. So I think that's more important than the 72, 68, 65. No one cares.

If it's not zero, they want an allocation. I think you can get them past zero with that kind of argument.

Nikou Asgari (Digital Markets Correspondent)

Sebastian?

Sebastian Bea (President)

You know, I think when we think about valuation, I think it's great to step back and recognize how emerging this ecosystem is. If we're thinking about the valuation of ETH or Solana or Bitcoin or whatever token and network you want to talk about, then I would ask our panel and I'd ask all of you, what are the accounting standards that these protocols have to follow so that we can show that all of these things are comparable? And the answer is there is no standard, right? So let's see. You have still emerging but not final regulation. You have a lack of standards on reporting. How do you compare these assets is not clear. You can't say price to book or price to sales or price to earnings because all these numbers are very different. So what do we have? We have a very inefficient market, right?

This is an early stage market where the fact that you can have an argument with an institution about whether it's worth a zero or 70,000, that's a chasm that doesn't happen except for every now and again on a stock exchange. But that's another topic. It's just a reality that we're very early in this market. So active strategies have a relatively easier bar to get over in terms of a hurdle because of how early the industry is. In 5-10 years, when all of this is clear, regulation, reporting standards, et cetera, then it'll probably be harder to eke out excess returns for LPs. But in the near term, it seems like that's something we should also take away. The fact that we have this sort of debate in valuation just tells us how early we are in this asset class.

Matt Hougan (CIO)

But do you guys think, is it going to zero? The right question. I don't think that's the right question. It's if it happens, how quickly does it happen? And how much liquidity do you have along the way? And so if you were just to take Bitcoin out of it and say, we have this asset. It's a $1 trillion market cap. We have a proxy for where it could be that's 10x that. And we're still not really sure what this asset might do. It actually could evolve and have different sources of earnings. It could do different things over time. And if you were to say, I have this asset that's a $1 trillion today. You can take allocation to it. By the way, it's liquid. It trades. It actually has depth to the volume that it trades.

My downside is I lose $0.25 on the dollar, maybe $0.50 on the dollar if I'm paying attention. I have 10x upside, maybe better. I can bet that in size. I think you talk to the people that are the larger investors in the world, you never see that setup. So often, if you have that asymmetry, you have that liquidity, it's a tiny opportunity. Maybe you could bet a couple million dollars. Maybe you could bet $10 million. You can't put a $1 billion+ position on. I think that's the thing that institutions are going to wake up and look and say, I at least need to understand this better. I need to understand how this fits into my portfolio better. Because if you're right, it's a trade that comes along quite infrequently in your career.

Nikou Asgari (Digital Markets Correspondent)

I mean, we've got an audience question sort of tangentially along those lines, which says, how do LPs look at the percentage of asset allocation in crypto versus other asset classes, for example, venture capital, PE, credit, and so on? What are those conversations like for you, Matt? And Blue?

Blue Macellari (Head of Digital Asset Strategy)

It's actually a philosophical question that we've had internally. This idea that we often refer to in our sector, we often refer to this 1% allocation, which is sort of arbitrary and doesn't make sense, right? I also very much look at it as both an asymmetrical trade and as a binary event. In that sense, does 1% make any sense? Not really. It should be three. It should be greater than one. Or it should be zero. I think that there's a psychological component where people need to test the waters and get comfortable and then sort of move in. I think it's a paradigm shift from the way that we look at a lot of other asset classes. I think that it takes time for people to sort of ease their way into it.

Nikou Asgari (Digital Markets Correspondent)

We were talking outside about investing in crypto as an asset in terms of the token and investing in blockchain, the technology, and companies that are built on that. Do you think it is possible? And have, I guess, the tone of conversations changed in terms of people saying, we will invest in the blockchain companies, but we will not touch crypto itself? Have those sorts of conversations changed? Or is that still the way that people are thinking about it?

Blue Macellari (Head of Digital Asset Strategy)

The conversations that I've encountered plenty of times are not about investing in blockchain companies. It's not the idea, oh, we should do VC versus we should do native on-chain tokens. It's the idea that blockchain is a fantastic operational technology that's going to revolutionize everything we do in financial services. Crypto is a Ponzi scheme and not a good idea. There's some cognitive dissonance there. I think that one of the things that we've seen over the past few years, I feel like we've seen a lot of movement, growth, development in terms of real-world use cases. I'm now able to go in and describe something and say, well, there's a technology. It's going to allow you to execute cross-border payments near instantly, 90% reduction in cost, complete transparency, accountability. It won't get lost in the mail.

Doesn't that sound like something we should all stop and do some analysis on? And everyone says, yes. And I'm like, well, it's a blockchain. And the way that you get exposure to that is by buying the associated crypto asset. And so I think it's sort of a knee-jerk reaction that you get from people. And I found almost everyone I've ever spoken to about it has been willing to sit down. And sort of once you talk it through, it pretty much resolves itself, I think.

Matt Hougan (CIO)

I would just add, who here has not bought a product on Amazon because you're worried about the volatility of the stock or what the PE ratio is? Please raise your hand. If you've not bought those shoes, they showed up the next day? No, of course not, right? So when we think about the network and the asset, we have to back up and recognize we're treating crypto unfairly, right? Amazon could deliver something. And so you used it, right? And guess what? Amazon stock did pretty well. ETH is delivering something now. And people are using it. What do you think is going to happen to the value, right? We think what's ultimately going to happen here, and I don't know if Samara is still here, I want to agree with her that RWA is a terrible term for what we think are really smart assets.

That's what we're in the process of doing. Today, these rails are being cleared. But we know it's Bitcoin. It's ETH. It's Base. It's a variety of things. But what we're going to deliver, much like Amazon did, is smart assets. So assets that actually can do more and be more for your portfolio. So when you say, what's the right percentage? I mean, the answer is 100%. Eventually, we are going to, as Blue said, we're going to upgrade the entire financial stack here with these better rails, right? And so today, you can invest in these rails. And tomorrow, we're going to upgrade these assets. We're going to now have smart assets. And then we're going to look back and say, geez, I wish I could have bought those rails before everything flowed on the rails. So yes, zero is the wrong answer.

1% feels like the wrong answer for the native crypto assets. If we're going to upgrade all of the assets to be smart assets longer term, then I agree with Blue. It has to be more than one or two. I just tossed in a few fun anecdotes from Bitwise. We do 20,000 meetings a year with investment professionals around crypto, financial advisors, institutions, family offices. We have a suite of decks that we can choose from and slides that we can choose from to have those discussions. I will say that I have not used the crypto, not blockchain slides in our deck in four years. Four years ago, they were maybe the most common slides that we used. So I do think that conversation has changed. The other anecdote from our slide consolidation is we used to talk a lot about 1%.

And now, based on what we're seeing in clients, we talk a lot more about 2.5% and 5%. So just some data from Bitwise's unique experience.

Nikou Asgari (Digital Markets Correspondent)

That's in liquid strategies, right?

Matt Hougan (CIO)

Yeah, liquid allocations, yeah.

Nikou Asgari (Digital Markets Correspondent)

I mean, I'm interested in, as well as someone in the audience, about how you think about how investors should think about liquid investment compared to VC investment and compared to equity stakes, for example. I know we've sort of touched on that briefly. I guess, is it more of a challenge to sell the liquid token investment to investment committees?

Blue Macellari (Head of Digital Asset Strategy)

So I think that very much depends on who you're talking to and what their sort of focus and objectives are. So from the T. Rowe perspective, for us to have an asset class perspective on digital assets, it was absolutely critical that we have experience trading end-to-end natively on-chain, right? It's an operational technology. These assets move differently. They settle differently. AML, KYC is different. You're not using the same OMS, PMS, any of these systems. And so for us, it was being natively on-chain trading from start to finish, which I think is very similar to probably what most of our personal experience has been, which is crypto is learning by doing. And so for us, that was very, very important at the institutional level.

I think that there are a lot of circumstances in which the versatility of the ETFs, the format, especially if you have a large established back-end middle office, the ETFs are like plug and play. They work with everything. You don't have to build anything new. You can include them in other financial products. It's the ease of use, I think, has just been astounding. I think that's been one of the drivers of this success.

Matt Halstead (Director)

In my experience, it's been more difficult because tokens are conflated with cryptocurrencies, which is conflated with Bitcoin. And that traditionally has been this macro conversation that people have been uncomfortable with because the branding and just kind of the broad coverage of the industry is just generally really bad from mainstream channels where people are consuming their information. And I think one of the biggest challenges is most large traditional institutions work with buckets that are an artifact of the consulting industry and benchmarks and things that were completely appropriate for asset allocation and portfolio construction, but really haven't adapted or changed or evolved. And I think one of the biggest things that I've realized is that this is disruptive technology to the investment management business itself.

So, like classic innovator's dilemma, folks are trying to treat this like a sustaining technology and plug it into portfolios that make this asset give them the wrong signals. So, an example of it in the liquid market would be our public equity portfolio should have this token exposure because these are tradable assets on a public market. But what is a crypto asset? Like I said at the beginning, it represents all these different things. But most of them tend to skew towards early-stage venture capital risk. And if you benchmark that against the S&P 500, it gives you the wrong signal. And so what that's resulted in is a lot of challenges from early adopters within investment firms advocating for liquid strategies, as they should, because liquidity is a feature, not a bug of investing. And over time, I think these portfolios will change and will adapt.

But the compromise that I've had to make is just let's put it in a traditional venture capital closed-end fund wrapper. People are more comfortable with that. It allows us to weather and survive the volatility in the industry. And I just think that it will take time for the market to gradually evolve. And it will likely result in a lot of the legacy participants going out of business and new firms being built that fully embrace the way that the world is changing. And I think most venture funds will look more like hedge funds and not the other way around over time.

Nikou Asgari (Digital Markets Correspondent)

Yeah, Matt, you want to?

Matt Hougan (CIO)

Yeah, I would just add two things. I mean, obviously, if you had a clear choice, liquid or illiquid, liquidity is a feature, as you said, particularly in a volatile asset where you can volatility harvest. You don't actually need Bitcoin to go up to make it a valuable part of a portfolio. It can go sideways or down if you harvest the volatility and still increase your risk-adjusted returns. I think it is true that many people started with venture basically because of career risk or if you're being more charitable because they didn't know how to do diligence crypto-native exposures. I do think there's a movement to multi-strat funds because people are moving up the chain of comfort on their diligence factor.

But I think it's probably incumbent in what we're going to see is the illiquid side start to deliver different types of returns from the liquid side. I think for the last generation, you've seen illiquid funds delivering liquid-like returns. And that's probably not good enough now. I think multi-strat funds and other funds are going to have to deliver a different pattern of returns. And I think that's what you're going to see for the next few years.

Sebastian Bea (President)

I mean, I think people understand that it takes time to make something bigger in a portfolio. And it really takes time to go from zero to one, right? That's really the problem that most allocators are suffering with. And I think we also have to recognize there was a bit of a stop-start that we had last cycle that people are still kind of licking their wounds from.

They're looking at this current change. We're all saying, well, is it for real? Is it really real this time, right? I think we're all feeling that hesitancy because it was wonderful to hear Brian talk about the Senate working on multiple bills to bring crypto potentially into the regulatory mainstream this year in the United States. I can tell you for sure on our desk a month and a half ago, that was not the expectation. So I think if we, who are doing this every day, are still kind of basically having recency bias or we're stuck saying, is this really happening? It just feels too good to be true. Think about then what it takes for that. We really need to kind of believe it and then see that progress happen.

Because I think people are also gun-shy on the margin from what happened a couple of years ago where every major pension fund had a digital asset working group. They all called them DAWGs, right? We were all geared up to do things. In a few instances, they did do things. It did not go terribly well. So this is our second chance as an industry. We have to do it right. I think it is being done right. But I think it's going to take a little bit more time for the all clear for some institutions, but not much more. I mean, we're really knocking on the door. If you think about end-of-year planning cycles, who is going to go away for the summer, come back and say, OK, we're not going to do something in crypto in 2025? Like 0%, right?

Everybody is going to get off the beach to do something. And in many cases, to borrow a phrase, the hay's in the barn. You did work for two years. And then Luna blew up. And then FTX blew up. You'll come back and say, OK, a lot of that research was quite good. And now what has transpired? It's all gotten better, right? And that's going to make it a lot easier to make this transition from illiquid to liquid. And I think we're going to see it over the next six months.

Nikou Asgari (Digital Markets Correspondent)

Just on your point around the, I guess, blow-ups of recent years, what lessons do you think have been learned around that? Or what harsh lessons, I suppose, have been learned around that?

Sebastian Bea (President)

I mean, I think the harshest lesson everyone learned was that FOMO kills quickly, right? The rush to do anything is always a bad idea, right? It's fantastic to see this sort of event happening. There's a lot of enthusiasm here. The thing that's most bullish is that we are all tempered in our excitement, right? We are still talking about some of the frustrations around kind of moving this forward within our own organizations, not so much at Coinbase, of course, but in general at allocation houses. I think it's just going to take a little bit more time to get through the memory of before. People are going to move, I think, more decisively. They're not going to be moving in big, audacious chunks, right?

$100+ tickets into individual companies, which is what happened last cycle in certain instances, I don't think that's going to happen again, right? I think people are going to rely on their GPs and to be a little bit more risk-averse as they push more consistently forward.

Nikou Asgari (Digital Markets Correspondent)

You mentioned some of the frustrations, not at Coinbase, you say, but otherwise. I'm interested, Blue, in what challenges you face when it comes to pitching crypto investments internally in a sort of "traditional" financial institution, right? What are those conversations like?

Blue Macellari (Head of Digital Asset Strategy)

So I think that we still have a portion of people who will say, well, it's a Ponzi scheme or it's used for illicit activities. I personally think it can't be both of those things. You kind of have to pick one or the other. They're mutually exclusive. And then beyond that, I think we now have people who are looking at it and asking, well, there's no cash flow. How do I put this into my traditional framework of where I sit on the asset class spectrum? And I think that becomes a challenge. And there are issues that arise in a multi-asset viewpoint, issues that arise in an equity viewpoint, primarily around cash flows. If you are a passive holder versus staking, what does participation look like? And how do you model that? And I think it's a lot about education.

It's a lot about sitting down and saying, we shouldn't be taking our existing models and copy-pasting them on top of this. It's not going to work. It's an educational process that you work through. I can say that the morning after we got back from Thanksgiving, I sat in a very large meeting. Right after FTX blew up, three different people in the room said, so this is the end of crypto, right? I was like, well, Soros, did we all sit around and say, is that the end of the pound? Like, no, that's not how this works. I think that we've had a lot of ground to cover. But I actually think it's been a really healthy set of developments for the industry as a whole.

I think people are much more conscious of leverage, much more conscious of the interconnectivity around how we use credit. So I actually think it's helped the industry mature in a way that was really critical to bring us into this cycle.

Nikou Asgari (Digital Markets Correspondent)

Matt, what about you? What sort of conversations and challenges do you perhaps face pitching this internally? Is it the same as Blue?

Matt Halstead (Director)

Oh, man. Trying to help people envision investing in something because it's plausible, not because it's likely, it's very hard to do. And in general, at large traditional institutions, it's much more of an agency mindset than a principal mindset. And that is reflected in risk aversion. And I think early, a lot of what I tried to do was inspire, to say, hey, can you envision the way this world is going to change? And if so, how might we invest in that? And how might that lead to extraordinary returns for our members? And I think in general, that approach is ineffective. And I think when you understand the goals and the motivations of the individual you're speaking to and the organization you're speaking to, it makes more sense. And so I think it's more, if you were to go now, what does the downside look like?

And why can you get the security in your mind that this isn't going to be a bad outcome for you and set you back more broadly? Because you have to understand the goals of these organizations are broad and they're vast. And the trade-offs that might be made, even if the returns are compelling, could be unacceptable because it could be a catastrophic setback elsewhere. And I just think understanding that is the key to everything. And then making something abstract relatable, I think being a student of history is probably the most helpful tactic that I've found to get people to move forward. And making it relatable. And then helping understand throughout human history, even professionals have been really bad at visualizing and projecting what transformative technology might look through.

When you start talking about blockchains and AIs, I believe crypto is being built for its robot market participants and AI agents. This whole idea about people using crypto in general is missing the point. That we are having to rebuild this system from scratch to visualize what a future world might look like that we've never seen in history. That challenge is remarkably difficult. I think a lot of it is just trying to use analogies and really mitigating downside through bet sizing and positioning. Because I don't think there's any way there's no way to force this. I think the general investment management business has largely been built around fees, which is don't get fired is the mindset. That culture permeates the industry.

And so there's a lot of people that said, advance this idea further and I'll pay you 10 times more. And that is the culture of large-scale professional investing today.

Nikou Asgari (Digital Markets Correspondent)

Sebastian, what do you make of that?

Sebastian Bea (President)

I was just going to say, I think what our allocator clients need is more tangible use cases that they can see make a difference in the markets in which they already operate. And what's phenomenal about crypto is we've created some great use cases, store of value, and payments. But a lot of those two things are really helpful for people that are mostly not in this room, right? They're transformational in emerging markets. And there's been discussion of it. What we're starting to see is the evidence that these rails are creating differences in traditional markets. They're actually disrupting real-world activities. So for example, Figure Lending is now the number one non-bank HELOC issuer in the United States. So from issuance to securitization, they're saving about 100 basis points, give or take, versus traditional processes.

I think the number one game in asset management is not to sell the product, it's to sell the outcome. I think we can all get on board with an outcome like that, that they're using, in their case, provenance, but they're using a blockchain to create a better financial outcome for the investor that buys the product and for the borrower who's borrowing the money. Neither side is, to Matt's point, touching crypto, right? To them, it's just working in their existing flows. Figure Lending is owning that in between. That's an example that as it becomes more apparent to people, you're going to see more of those things. Then I think it becomes a much easier conversation to the end of this year because they'll say, oh, yeah, I got my HELOC off of Figure. What blockchain are they using?

And then they'll understand that now something, a smart asset, is occurring. In this case, it's a HELOC, but smart assets are being created. And now these rails are really valuable. We're very close to that point.

Nikou Asgari (Digital Markets Correspondent)

We're running out of time. But the last question is an audience question that I want a snap answer each, please. And I think, Sebastian, you sort of already answered it. The question is, what percentage of institutional portfolio assets will ride crypto rails in five years? And I think you said 100% earlier, wasn't it? Yeah?

Sebastian Bea (President)

At least in certain markets, I think we're going to get to 100%.

Matt Hougan (CIO)

Yeah, I think that's exactly right. I just agree.

Nikou Asgari (Digital Markets Correspondent)

Matt?

Matt Halstead (Director)

Five years?

Nikou Asgari (Digital Markets Correspondent)

Five years.

Matt Halstead (Director)

Oh, five years. Very low. Very, very low amount. I would agree the end state, 100% or close to it. Five years, less than 5%. OK. Yeah, I want to make clear I didn't understand the terms of the question.

Nikou Asgari (Digital Markets Correspondent)

Five years, yeah.

Matt Hougan (CIO)

Yeah, I'm 100% eventually and slightly more than 5% in five years. I do think it's a longer-term story.

Nikou Asgari (Digital Markets Correspondent)

Okay. And Blue, finally?

Blue Macellari (Head of Digital Asset Strategy)

I'm along the same lines, 100% ultimately single digits five years out. But I think there will be jurisdictions that get to 80%+ in five years. I think Brazil gets there. I think Argentina may get there. So I think that there are going to be jurisdictions that make the move wholesale in a way that really shows us what can happen.

Nikou Asgari (Digital Markets Correspondent)

Optimistic note to end it on. So thank you so much. That's the end of our panels. That's the end of our time. So thank you so much to our panelists.