Deep Dive - The Most Profitable Company By Employee in the World (You might have never heard of them) which I consider now 'too big to fail' due the risks to the US debt system it poses

Welcome back to another week of Market Movers, where I summarise the top headlines that attracted my attention this week to keep you up to speed with the markets and give you some light reading for the weekend.

As usual, lets start with a look at the general markets, followed by the digital asset space and finally some top headlines.

This week I want to dive into a remarkable company, which many of my readers won't have even heard of!

Don't forget to check out the Risk On Investor resources page for access to the growing selection of calculators, tools and video guides to help you become a better investor. There is also more content posted frequently on the YouTube channel to keep you informed and entertained - you can also read back on previous newsletters if you're a new joiner to the investor club

View the Investor Resources Page (Constantly Updated)

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Have a great weekend

Chaz (RiskOnInvestor.com)

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£1m Portfolio Update

Digital assets have bounced back after a small (for crypto assets!) correction earlier in the month and continues to drive a large portion of my total portfolio. I have been actively looking for additional ways to reduce the concentration risk for the shares I own as a proxy for the crypto markets with one candidate looking very strong, but I still have more number crunching to do before making any moves.

The final tot-up for this month will happen next week for me, but barring a collapse over the weekend March is likely to have been the best ever month for my portfolio in monetary terms (lagging a bit on percentage terms)

This has been another hugely encouraging month for me on the journey. I picked the investments I hold because I had researched and had conviction, but they have generally run harder and faster than I imagined and I'm going to be left with the difficult decision soon about when to exit as they're fast approaching some of my target prices.

The only hiccup this month was a report released by Kerrisdale Capital (read here) which covers all the same things I have been concerned about with Microstrategy as a proxy play for Bitcoin. The public announcement that they were shorting Microstrategy and hedging by being long Bitcoin caused the Microstrategy share price to drop ~15% very quickly which was certainly painful for the portfolio right at the end of the month.

I also realised this week that I hadn't actually explained where the £1m target comes from - so I made a short video which you can watch here discussing it! The £1m target is loose, because unfortunately I don't know what my situation will be in 10-15 years so the target could move. But for now, setting off in the right direction is better than not moving at all.

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Major Market Indices

I noted in a previous issue of Market Movers that Apple was facing some headwinds with it's unclear AI strategy and multiple court cases, well this is leading to an interesting situation.

Apple, as one of the largest companies on the planet by market capitalisation and can have a big impact on the wider market returns because of that (Apple makes up 7.4% of the NASDAQ 100 and 5.7% of the S&P 500)

Since the end of 2021, the S&P500 has rallied ~11%, Apple in that time is flat, and down YTD (cherry picked numbers but you get the point)

Nvidia is about 20% shy of Apple's market cap, so will we see Apple also get flipped by Nvidia (was flipped by Microsoft recently)?

Historically Apple has also been highly correlated to the markets in price direction due to it's high allocation in the indexes but offering a higher beta - below I have highlighted the growing gulf in performance in an event we haven't seen for many years.

Of the 'Magnificent 7' Apple is joining Tesla in my 'suspicious' category with it's heavy reliance on the iPhone product (>50% of revenue) - a product that it feels like innovation has stalled with (anecdotal as someone without an iPhone).

Tesla has the benefit of a number of 'moonshot' projects which are well publicised (Full self driving, Energy, AI, Supercomputing, Robotics - and throw in anything else Elon Musk seems to take a passing interest in) which in my opinion is keeping optimism around the company despite it's core business being squeezed by competitors and poor share price performance this year as a result.

It feels to me that investors may already be looking for a new narrative in Tech after the 'FAANG' narrative seems to have faded (Remember when Netflix dropped as hard as bitcoin with a 71% drop in 2022?!)

The most profitable company in the world per employee

Imagine making $6.2bn net profit in 2023 with only ~50 employees - crazy right?

I hope those employees are being paid handsomely, because on average they are generating $124m per head for this company with very limited overheads as they run a software business.

Any clues yet?

I'll give you one more clue - I wasn't sure if I should put this section in the traditional finance section of this newsletter or the crypto asset section.

The company in question is called 'Tether'

The business model

One of crypto's main use cases is as a payment network. The benefits are cheaper payments (in some instances) and when hosted on a decentralised ledger, no third party trust requirements. As with many crypto projects, prior to launch, to try and obtain funding Tether released a whitepaper outlining the core principles of the company which can be read here​

Whilst many of the technical details have changed since this paper, the core concept hasn't.

Currently there is no practical way to represent currencies outside of the crypto ecosystem 'on-chain'

This is a problem because crypto markets are active 24/7/365 which most traditional infrastructure isn't.

This means that if there was a need on a bank holiday or weekend to settle a large transaction it wouldn't actually happen until the next 'working' day.

Many countries have a proxy which hides this system.

For example, the UK has a system known as 'faster payments' which was launched in 2008 and allows UK banking customers to instantly transfer between almost any UK bank accounts (the full details can be found here). But this isn't actually what happens under the hood

Whilst the system works 24/7, the money is only actually settled a few times per day on working days but this is all hidden in the background from retail clients.

In the world of crypto this is an issue because imagine trying to sell out of a large position at the weekend - your exchange wouldn't be able to settle the transaction, and by the time it can (next working day) the price movement might have cost you a significant amount of money, or if the exchange honours the transaction at the desired time, the exchange is now opened up to that price volatility risk.

Tether solved this by becoming the bridge between the traditional system and crypto issuing USDT (USD Tether) which is a token used to represent $1 held off-chain, basically a big IOU.

This allows exchanges to be able to accept a transaction of someone selling out of crypto into US dollars at the weekend, because if the exchange forces the user to sell into USDT and then allows a withdrawal, the exchange can wait until the next working day and redeem USDT for the dollars they represent - and so long as the price of USDT remains equal to $1 this system works by shielding the exchange from price volatility risk.

Here is where tether makes it's money.

To mint USDT, you can approach Tether and give them some money, say $100m USD (Tether doesn't deal with retail clients direct). In return, Tether will mint on chain to a wallet of your choice $100m USDT which represents the money Tether now holds on your behalf.

Tether then invests that money into very low risk assets, mostly US treasuries and captures a yield on those assets.

Let's say Tether makes 5% per annum on deposits and you come back 1 year later to redeem your USDT for US dollars. Tether now holds $105m (5% interest from T-bills and other investments) of which it gives you back $100m and destroys $100m USDT, pocketing the $5m difference.

Simple but effective.

Size matters

As you can see, this business model directly scales with 2 factors:

1. The return Tether can generate on the assets it holds
2. The number of USDT that get minted (size of the holdings)

With higher interest rates on short term debt Tether has been able to earn more money on deposits than previous years, and Tether has also now crossed over $100b (billion with a b!) USDT issued

Accusations of manipulation

Tether has come under some scrutiny in the past. There is an obvious conflict of interest here:

1. Tether claimed that every USDT was backed by cash or cash equivalents but this can be difficult to verify.
2. It is in Tether's interest to get the best return on their holdings to maximise profitability

So the incentive for Tether is to not back the USDT token $1 = 1USDT, then so long as there isn't a bank run situation and everyone believes that the token is backed 1-1 they will be able to honour withdrawal and deposits.

This is akin to a bank lending out money deposited to it to generate a return (fractional reserve) and Tether doesn't have a banking license which would make this operation illegal.

To combat this, Tether has started publishing financial attestations which can be viewed here to try and back up the claims of 1USDT = 1USD and it has been remarkably successful at restoring confidence and ensuring that USDT retains it's 'peg' of 1USDT = 1USD in the crypto world - which due to the assets being held off-chain, is entirely maintained by trust and people looking to arbitrage the price changes.

What's next for Tether - is it too big to fail?

Tether has had to fight off competition in recent years - jealous finance companies have looked at the Tether business model and tried to replicate it

A notable example is USDC (Circle's USD token) which Coinbase has an active stake in.

Unfortunately for Circle, USDC was embroiled in the US regional banking crisis after holding ~10% of it's reserves with Silicon Valley Bank which had to be bailed out. This lead to USDC's price falling to $0.87 at the height of the panic. Confidence appears to have never truly been restored since that event which Tether was able to brush off by never confirming if it had any reserves held at the troubled banks.

Until recently, major economies around the world have largely been able to ignore the world of crypto, but this has changed over the last couple of years.

Tether is now one of the largest holders of US treasuries in the world, eclipsing Australia, Spain, Italy and many other countries, rapidly closing in on the third largest economy, Germany in total holdings.

So a run on Tether in the crypto markets could have wider implications for the global financial system if suddenly billions of dollars of US debt in the form of treasuries floods the market and starts pushing prices down.

So what does the US do?

At the moment nothing

China has been selling off it's US debt holdings at an alarming rate and for now Tether is helping hoover this debt up so the US is happy with the status quo because it continues to allow the US to issue more debt to fund it's deficit spending without driving up interest rates too high. But at some point, the US is going to need to pay a much closer eye on Tether and bring in regulations to try and prevent a panic sell off.

In my opinion this means that Tether is rapidly entering the world of too big to fail, not primarily due to it's size (JP Morgan still holds 50% more treasuries than Tether - but the gap is closing fast), but due to the volatile nature of the crypto economy which has experienced huge explosions in price, followed by huge drawdowns and panic selling.

In the meantime, Tether is finding great adoption in countries suffering from high inflation.

If you live in Argentina, your inflation rate is currently running at an annualise 254% - so it doesn't make sense to hold your money in pesos. Instead, many citizens are holding USDT to combat inflation. The chart below shows what would have been one of the worst investments ever, in 20 years, 1 peso has lost 99.7% of it's value against the US dollar.

There aren't really any conclusions that I want to pull out and highlight to you other than 'stablecoins' such as USDT have so far been crypto's killer use case and it doesn't seem to be slowing down, but how long before regulators step in to slow the party down and protect the wider financial system?

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Digital Assets

It's been a good week for crypto assets almost across the board with a bounceback from the 15-20% correction Bitcoin suffered in mid March despite poor results from the spot ETF inflows last week.

That suggests to me that we have very strong demand still and looking at the Binance (largest exchange) order book, we have a lot of orders in a very tight area, but breaking through ~$73k could see a big price squeeze as a lot of shorts get liquidated.

My gut instinct is that we might have a period of settled price action (famous last words) for Bitcoin as a calm before the storm of the halving event which is fast approaching. I think that would likely be healthy for the market as a whole as we've seen some impressive price action over the last few months since the approval of the spot ETFs

Airdrops

This week I claimed my EtherFI airdrop, which wasn't a big one, around $600 - and this is great because it's not even the airdrop I'm trying to farm, just another free chunk of cash coming in!

My usual strategy for airdrops is to sell straight away because most of the airdrops I'm farming, I'm only doing for the free money, not necessarily because of any belief in the token/project.

I was probably mistaken to do that for the EtherFI airdrop as it's since doubled in value since I sold out (ouch!) - but that is my strategy generally and has served me well in the past so will likely be my continued approach.

I brought some extra ETH with the proceeds of the airdrop, although it's one more piece of taxable income (income and capital gain/loss) I need to note down for my tax returns - which are looking very messy this year!

The airdrop I'm looking to primarily farm is EigenLayer. For the un-initiated, EigenLayer will allow the economic security of the Ethereum network to be exported to other projects to allow small projects to have rock solid economic security.

Don't worry if that meant nothing to you, I'll be doing a deep dive into economic security in the future.

But just to put into context the scale of demand here, Solana is one of the largest blockchains in the crypto ecosystem with a fully diluted market capitalisation of ~$110b at the time of writing.

The Solana ecosystem currently hosts around $4b of other tokens and economic activity.

EigenLayer alone has $12b of value locked up on the Ethereum network in it before it's even launched.

I fully expect when EigenLayer launches that it will distribute $billions to users and I want a slice of that pie.

Now unfortunately, just with the way I'm currently set up I cannot deploy much capital into EigenLayer without incurring some hefty capital gains taxes at the moment so I've been limited and only been able to deploy ~5% of my crypto into farming EigenLayer but I still expect that to return a generous airdrop when the time comes.

[DISCLOSURE - Chaz holds $MSTR in an ISA and SIPP, $wStETH and $GALA in unsheltered positions]

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Notable News Events

• Apple has agreed to use Baidu's AI in it's Chinese smartphones while using it's own models elsewhere (South China Morning Post)
• Canada's maple syrup reserve hits 16 year low (BBC)
• Boeing CEO to step down at the end of the year as the aerospace giant battles to maintain trust (FT)
• Anthropic, the AI start up has said that Saudi Arabia is blocked from investing in shares being sold, worth ~$1billion (CNBC)
• xAI is to open source it's model, Grok, in an attempt to undermine OpenAI (Reuters)
• Shell plans to increase it's electric forecourt charging spaces from around 54,000 currently to over 200,000 by the end of the decade (Bloomberg)

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Latest from the YouTube Channel

I realised that I had never actually explained where my £1m target came from! So I thought it was about time to have a brief discussion around the topic. You can see my thoughts here​

Thank you to the reader who sent me a question last week - I decided to make a video on the topic! I'm not against dividends as a form of shareholder compensation, but I do think investing purely for the benefit of dividends isn't a good approach for the reasons I lay out in the video - You can find out my reasoning in the video​

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Have a great weekend!

Chaz

P.S - Want to work with me? Reach out by replying to this email and lets chat