FTX: It takes a village to fail this big…

You’ve probably been following the news that FTX, one of the largest cryptocurrency exchanges in the world, is in hot water. And frankly that characterization is an insult to hot water.

FTX has already filed for bankruptcy. Potentially $10 billion or more of customer money is at risk. The new CEO states that the company’s internal controls were “a complete failure”.

And the company’s founder, Sam Bankman-Fried, has proven himself to be, at a minimum, an irresponsible, reckless child, if not a full-blown fraudster.

It’s easy to lay the blame exclusively on him. And he clearly deserves a lot of it.

But a failure (if not fraud) of this size cannot be perpetrated by a single individual. Even Bernie Madoff had accomplices. Or people who should have noticed but were totally negligent at their jobs.

In fact the Madoff scandal is a great example. Madoff’s firm had to undergo routine regulatory examinations. And yet, year after year, the Securities and Exchange Commission completely failed to notice the rampant fraud.

In the aftermath of the Madoff scandal, a US Department of Justice investigation concluded that in the SIXTEEN YEAR period between 1992 and 2008, the SEC had “more than ample information” and that they “could have uncovered the Ponzi scheme well before Madoff confessed.”

The report further blames the regulatory agency’s failure on “systematic breakdowns in which the SEC conducted its examinations and investigation.”

Talk about being asleep at the wheel…

In the case of FTX, there were also a lot of people who failed to notice what was happening.

Most notably, Sam Bankman-Fried became the #6 biggest political donor in the United States; 99.6% of his contributions went to progressive candidates.

Did any of those politicians really scrutinize where the money came from? Did any of them ask for audited financial statements to make sure the money was clean… or to make sure that the guy wasn’t spending his customers’ money?

Apparently not. Politicians happily cashed the checks and didn’t ask any questions.

This is an outrageous failure. Politicians constantly pass rules and regulations making financial compliance far more onerous for everyone else.

(If you don’t believe me, try going down to your local bank and withdrawing $25,000 in cash… and see how quickly they treat you like a criminal suspect. You’ll be there all day filling out forms and justifying your actions.)

But do they apply those same rules to themselves? Absolutely not. They just take the donations. It’s a despicable double standard.

Also culpable in this massive failure are the prominent venture capital firms who enabled this overgrown man-child to go rogue.

Sam Bankman-Fried raised at least $1 billion from investors, including firms like Softbank and Sequoia Capital.

Softbank, of course, is infamous for its enormous investment in WeWork, effectively encouraging CEO Adam Neumann to recklessly spend other people’s money.

It seems that Softbank didn’t learn its lesson, because they once again dumped a mountain of cash on a guy who is even worse than Neumann.

More importantly, however, Sequoia and Softbank are hard core, sophisticated investors. They have huge teams of lawyers, bankers, and analysts. And, even though FTX is a private company, as investors they would have had access to the company’s financial statements.

In other words, they should have seen the impropriety. They should have seen it, and they should have done something about it.

But they didn’t. They stood by once again in silence, enabling Bankman-Fried’s irresponsibility.

Despite this colossal failure of a major player in the crypto sector, however, it’s important to separate FTX (the company) from crypto (the idea, and the asset class).

In my view, FTX isn’t even a crypto business. It’s a financial institution, little different than Bank of America.

Whenever you make a deposit at Bank of America, that money becomes BOA’s asset. In other words, legally it’s no longer your money. It’s Bank of America’s money. You become an unsecured creditor of the bank.

And, subject to certain regulatory limitations, Bank of America can go and gamble away your money on crazy loans and investment fads.

We’ve seen plenty of examples of banks recklessly speculating with their depositors’ funds in the past. The entire 2008 financial crisis, in fact, was because banks gambled with their customers’ money. And it almost brought down the banking system.

This is basically FTX’s business model. They took in customer deposits, including cash and crypto. Those deposits became FTX’s assets, and customers became unsecured creditors of FTX.

This is the way any financial institution works. And FTX was essentially a financial institution– highly centralized with a distinct lack of transparency… with the added risk that a single moron had total control over everything.

Frankly this is the opposite of what crypto represents. Crypto is all about decentralization and transparency, and that no single person or group has control.

So FTX in no way represents crypto; it’s just another conventional financial institution that acted irresponsibly with other people’s money.

It’s not the first. It certainly won’t be the last. And its failure underscores even more how important a decentralized financial system is.

This is the topic of our podcast today.

I walk you through the history of several other industries, starting with railroads, that underwent spectacular financial bubbles rampant with fraud.

But even after the bubbles burst, the good ideas still remained.

Railroads were a great idea that fundamentally improved our civilization. And even after the railroad bubble burst in the 1840s, great companies and great technology remained.

The same goes for the Internet– it’s a great idea that has fundamentally improved our civilization. And even after the dot-com bubble burst in 2000, great companies and great technology remained.

Crypto is still a fantastic idea. It has the power to move the needle on human civilization.

(When you think about it, it seems almost bizarre that in 2022, highly centralized and bureaucratic financial institutions still exist and operate largely in the same way they did in 1822.)

And despite some of the recent failures in the crypto sector, some fantastic assets and great technology still remain.

You can listen in here.


Today, we’re going to go back in time to October 6, 1829, to the tiny village of rain hill in the northwest of England, where a 25 year old British inventor by the name of Robert Stevenson was about to do something profound. Stevenson had entered the competition of his life, and the stakes were so high, he knew they would either ruin his family’s reputation, everything his family and especially his father had worked for for so long, or he was going to fundamentally change human civilization forever. It was only one of those two outcomes, and he knew it. Robert Stevenson’s father was George Stevenson. George Stevenson was a very prominent, very famous inventor during the British industrial revolution, whose most closely associated with advances in railroad technology.



In fact, George Stevenson is actually known as the father of railways. Now, that didn’t mean that he invented railroads or railroad technology. In fact, archeologists have uncovered a tremendous amount of evidence going back to even the neolithic era, thousands and thousands of years ago. The oldest really rail there’s a timber causeway that dates back to more than 3800 BC. In southern England, about 50 miles from where stonehenge is sort of near the welsh border.



It’s so old, actually, it even predates stonehenge. It was built by a civilization that’s so old that archeologists and historians don’t even actually have a name for it. So this is really, really old technology. The babylonians had some very crude sort of rail and track technology going back to 2200 BC. The ancient greeks had actually quite impressive five mile track that connected the peloponnesian peninsula to mainland Greece, dating back to around 600 BC.



So this is very, very old technology, but at the time in the ancient world, it was basically stone or wood or timber, where you could basically put a little wheeled cart that was being pulled by horses along a track. And they would use this either to take raw materials from, say, open pit, mines, maybe fields, or they would chop down trees from forest and put the timber inside of a cart that was being pulled along a track by horses. And maybe it would even go across a short waterway over very, very short distances. This is primarily what it was for, but the cost was very high. As you can imagine, it was all human and animal muscle at the time.



So it was a lot of effort for human beings to actually lay track. They didn’t have machines, they didn’t have really any equipment. And a lot of these civilizations, this was, even if we go back to the one in England, this was pre bronze age, they were really still using stone tools. So it took a lot of effort to lay track. They hadn’t really perfected iron working.



So the tracks were basically made of timber, and because of it was made of timber, can break more easily, and they couldn’t put very much weight in the cart it was being pulled by people and horses. So the cost benefit wasn’t really worth it. And because the cost benefit wasn’t really there, the technology developed very, very slowly. But eventually, and I’m talking over very long periods of time, there were advancements, metallurgical developments that made iron working a lot easier. And once iron became cheaper, easier, better, and this took literally thousands of years, then iron rails were eventually introduced where people realized, oh, we don’t have to use wooden track anymore.



We can actually use iron rails instead of wood or stone. But the rail itself, the carts were still being pulled by horses. Everything was still powered by horses. But then came the real revolution in 1776. And of course, 1776 is very famous for the American revolution, but that’s not the revolution I’m talking about.



1776 was also the year that James watt finished his design, perfected his design for the steam engine. We actually did an entire podcast about this, about how important that was to human civilization. 1776 was also the same year that adam smith wrote and published the wealth of nations, essentially giving birth to capitalism. So three really important things happened in 1776 the birth of the United States, the birth of capitalism, and the development of the steam engine. All three of which also fundamentally changed human civilization forever.



Now, inventors and engineers after 1776, and they saw the steam engine, they thought, oh, my god, this is amazing. Now, all of a sudden, instead of having to use horses and people and so forth to do manual labor, now we have this inanimate fuel source. We can take wood and eventually coal, and we can burn it. And using that heat energy, we can heat up water, which is going to create vapor and steam, and use that steam to actually power and drive pistons and turn wheels and crankshafts and so forth. And from this, they actually began to apply that steam technology to rail.



Now, it took about 30 years, three decades, but the first real steam powered locomotive engine came in 18 four. And so they used steam technology to create something that could actually pull a car. This was a locomotive engine built on steam technology, but it was way too heavy. The engine was so heavy, it crushed all the tracks. They put this big engine on the tracks, and all the tracks just crumbled.



But at least it worked. That was in 18 four. Now, eight years later, in 1812, amidst all the gotta think about what’s going on in 1812. In Britain, they’re fighting the US. In the war of 1812, they’re fighting against Napoleon, who’s running all over europe.



All these things were happening in 1812. And yet, despite all of that, there was still a lot of advancements in technology. In 1812, the first sort of actually commercially, economically viable locomotive engine was introduced. It was another steam engine, and they were able to make it a lot smaller, a lot more power efficient. So it wasn’t so heavy that it just crushed everything below it.



It crushed the tracks and so forth. And it was in 1812 that’s when George Stevenson looked at the technology and said, okay, I think there’s something here. I’m going to get involved in this. Now, george Stephenson was a remarkable guy, really remarkable guy. Talk about a kind of rags to riches story guy that just pulled himself up from his own bootstraps.



He was born in 1781 in northern England, near the Scottish border. So if you’ve ever been to England and you’re familiar with regional accents in England, he had a very heavy northern English accent that was actually a bit of a chip on his shoulder, on top of which, he grew up in an extremely poor family. He wasn’t educated at all. He had very limited formal education. And George Stevenson was actually even illiterate until the age of 18.



He came from a very, very low class working family, limited education, but was completely self taught, had an intellectual curiosity, was a voracious reader, learned everything that he could, was constantly doing experiments, and self taught in science and technology and engineering, really, through trial and error. One of his early inventions, when he was in his mid 30s, he made an improvement on something called a safety lamp. Safety lamp was a really important invention at the time, because, again, if you think about the 1800s, they had invented after James Watt had perfected the steam engine, and there were more and more advancements in that. And they realized, wow, we need a heat source, something that we can burn to produce heat, to heat up that water, to make the vapor and the steam. And so instead of burning wood, they realized that they could burn coal.



Why coal? Well, because coal is a much more efficient fuel source than wood. If you think about the amount of BTUs or joules or calories, whatever unit of energy you want to use per kilogram of wood versus coal, coal is a much more dense energy source. You get a lot more BT use of heat out of a kilogram of coal versus a kilogram of wood. They realize we need to use coal because it’s a much more efficient fuel source.



So they had coal mines all over the place, people mining for coal. Now, most people probably never been in a coal mine. They’re really dangerous places, and you’ve got all sorts of dangerous chemicals in the air and so forth. And obviously, they’re also very dark. And so back then, they had lanterns and lamps everywhere.



And you’re talking about actually putting flame in an environment where you’ve got dangerous chemicals in the air. And a lot of times, a lot of coal mines actually just literally explode from the combination of the heat, the flame in the lanterns, and all the toxicity in the air. And they would just exploded the air itself would combust. They were really dangerous. And so they created these things called safety lamps to try and cut down on the explosions in coal mines.



George Stephenson created one, a version of a safety lamp to actually reduce and eliminate explosions in the combustible air that existed in coal mines. And he created a really nice version of a safety lamp, something that was actually better and safer than existing versions of safety lamps that existed. Now, George Stephenson had a lot of records of his invention, all the experiments that he had done. He had witnesses of people that saw him conducting experiments and so forth. And yet when he came out with his final version of, he said, OK, here’s my safety lamp, he was actually accused of stealing the idea because they said, no, no, no, you’re an uneducated poor person from northern England.



You couldn’t have possibly invented that. And there was actually almost a mini trial of sorts where panels of experts convened and determined whether or not somebody with his lack of formal education, his lack of fancy titles, his lack of a noble upbringing, etc, could have possibly invented something so good. Now, George Steven was eventually exonerated from that, but for the rest of his life, he maintained a very healthy distrust for experts and scientific committees and so forth. And he actually went out of his way to make sure that his son Robert was formally educated. He went to private school, took elocution lessons to actually speak with a nonregional English accent and so forth.



He really had this chip on his shoulder for the rest of his life. And he hated experts. Oh, did he hate experts. But he ended up having a great deal of success. And eventually, again, after this sort of first commercial viability of railroad and steam engine technology, he realized, this is the future, rail is the future, and I’m going to get in on this.



And he became very, very successful in applying his brain towards developing locomotion engines that were based on this steam engine technology. Now, the first engine that he completed was in 1814, and it was a pretty remarkable feat at the time. It could haul 30 tons. 30 tons. It had a 30 ton towing capacity.



It could actually tow up a hill at about 4 miles an hour. That was a remarkable feat at the time. 4 miles an hour, obviously, is nothing today that’s about as fast as a relatively casual stroll on foot. But to be able to tow 30 tons up a hill at 4 miles an hour was an incredible feat in 1814. And that really catapulted George Stevenson into prominence in the rail industry.



Now, that brings us back to the beginning. That brings us back to October of 1829. The Industrial Revolution was really heating up. The British economy was booming. There were factory owners everywhere, and lots of factories, by the way, in northern England, and they were looking for a cheap way to transport raw material to their factories.



There was a group of entrepreneurs that had launched a new railway, and the railway was actually called the Liverpool and Manchester railway, obviously, because it was a railway between two northern cities in England, liverpool and Manchester, two trading cities, commercial cities, manufacturing hubs. And originally, the directors of the company had planned on using they knew that steam technology was where it was at, but there are a couple of different ways to do it. And one of the things that they had originally envisioned was they said, well, let’s just use stationary steam engines. So the idea is that we would have sort of an engine office at one end of the track, literally dozens of miles away. And we’d have this stationary engine room.



And the engine room would just sit inside of this room and it would use cables. And the steam engine would power the cables and basically pull the track. So you have an engine room on one end of the track, you’ve got the trains on the other end, and the trains are attached to cables. And the engines that just sit in this room essentially power the pulling of the train cars all the way to the other end. And George Simpson said, no, no, that’s crazy.



Don’t lock the engines in a room. Put the engines on a car and let the car let that steam engine tow the rest of the train behind it. So you’ve got the engines actually on the track instead of sitting in a room that’s pulling everything with really big heavy duty cables. Now, the directors of this Liverpool and Manchester railway were a little bit skeptical at the time, so they decided, let’s hold a contest and let’s see if George Stevenson was right, because they knew what they could do with the stationary steam engine. They knew that they could pull their train cars at this point.



Now, again, this is 1829. They knew. They said, well, look, we think we can get to about 10 miles an hour here, and that’s a pretty big deal. So if you think you can do better than that, then we’ll adopt your technology. And so they announced a big competition.



And the competition, because it took place in this little tiny village of rainhill, the northwest of England. It was known as the rainhill trials. And today, we would almost kind of call this a hackathon, right, where some big companies says, all right, let’s all get together. Let’s have a competition. Whoever has the best software code wins.



They did this in 1829, and the rules were, they said, look, if you think you’ve got a steam engine that you can or some kind of train that you can mount that can pull all these cars, we want you to enter our competition. And the rules are pretty simple. The entrance you had to run the train. The train had to do ten round trips on a 175 miles length of track. So basically it was going 35 miles.



Ten round trips times one point. So it’s basically 20 times 1.75, so 35 total miles. And they said you have to have an average speed of 10 miles an hour. There are some weight limits and things like that to make sure that they didn’t completely cause the iron rails to buckle. But the rules are fairly simple.



And you had ten people that came in and said, okay, I’m going to compete in this ten entrants. Now, of the ten, only five actually showed up. The other five couldn’t even finish their designs in time. Of the five, four failed to actually complete the trials. So the only one that actually completed was George Stephenson’s engine, which he nicknamed the rocket.



That was actually kind of funny. The other couple of engines, for example, there’s one called Cycloped. Cycloped was the name of this engine. It wasn’t even actually a steam engine. It was almost hilarious at the time.



These people went backwards in time. Instead of force, instead of using the steam engine, they used a horse. And their engine was basically a horse walking on a drive belt. If you think about almost like a horse walking on a treadmill, that would power somehow this engine that was pulling all these other cars. But during the competition, the horse actually fell through the floor of their engine room, and so they were disqualified from the competition.



One of the other major entrance that was actually sort of the favorite at the time among the media and everybody. It was sort of the if you’re a fan of the rocky series, if you think about rocky four, it was called novelty. This was the Ivan drago of the competition. It was lean, it was tough, it was fast, and coincidentally also built by a Swedish guy. Dolph luncher is also a Swedish guy, although he was playing a Russian in the movie.



But a Swedish guy named Johann Erickson. Johan Erickson was a very famous inventor. This is a guy he ended up actually moving to the United States and designed the very first iron warship for the union navy called the USS monitor, fought a very famous naval battle during the US. Civil war. But the novelty, which was Johann Erickson’s version of the steam engine, which was the favorite, it was tough, it was fast, it was a really, really good machine, but it was really temperamental.



And it was so, so many moving parts, so many complexities to it, that it actually didn’t last the trial. And it collapsed and broke down so many times that I had to actually withdraw from the competition. Stevenson’s, George Stevenson’s version of it was called the rocket. It was the only engine to complete the trials. He kept the design simple so it wouldn’t constantly break down and so forth.



And because, again, stevenson had a lot of mistrust for judges and panels of experts and so forth. He actually put his son Robert in the competition and let Robert run the exercise, let Robert actually conduct the train, and so forth, because Robert, again, he was educated in private school, he spoke with that nonregional accent. So George Stevenson felt that people would take his son Robert more seriously. So here we are in 1829, October, we’re in the rain. He’ll trials, Robert Stevenson, he’s got the rocket, he’s up against novelty, he’s up against this ridiculous Cycloped, the horse on the treadmill that fell through the floor, and Robert Stevenson won.



With his father’s design, george Stevenson’s rocket engine was the only one to complete the trials. And after that, the directors of this railroad, the Liverpool Manchester railway, said, that’s what we want, that’s exactly what we want. And that really did fundamentally change everything. The implications were enormous. George Stevenson proved that his locomotion technology was superior to everything else, including and especially this idea of having stationary engines mounted in an engine room 30, 40 miles away, pulling cars.



Because Steven said, look, if you do that, there’s going to be a limitation to how far these cables are going to go. And then what happens if the cable breaks, whatever. He envisioned national railways and rails going hundreds and even thousands of miles and so forth, and he said, you just can’t do that if you’ve got a stationary engine room with cables pulling the railroad cars. You gotta put the engine on the track pulling the vehicles. And that really fundamentally changed everything.



It changed everything in transportation, it changed everything in terms of economic and trade and growth, and it really kicked off a major boom in railroads. So the Liverpool and Manchester railway opened literally months later. And to much fanfare, everybody made a big deal. They said, this is the future, it’s coming, and it’s actually here today, thanks to George Stephenson. And they actually had a big ceremony where the Prime Minister was in attendance, a lot of politicians were in attendance.



And at one point, it was a horrific accident where George Stevenson’s rocket engine was being put on demonstration. There was a local member of parliament that apparently was on the track and got fatally, mortally wounded by the steam engine that was being demonstrated at the time, literally right in front of the Prime Minister. Now, fortunately, as unfortunate as that was for the MP that ended up getting killed by that accident, it didn’t dampen anybody’s enthusiasm for railroads and railroad technology. And the more people saw what this could do, the more the technology improved, the more people got interested in this. And of course, like any great technology, it didn’t take very long for the bankers to get involved.



The Liverpool and Manchester ended up going public. The stock price soared. A lot of railroad companies at the time were public companies. Their stock prices soared, and it didn’t take very long again for the bankers and the stockbrokers to go, hey, we could make money off of this. So next thing you know, you’ve got stockbrokers promoting every railroad company they could find, going around to investors saying, you’ve got to get in on this technology, this is going to be huge, this is going to be enormous.



And the stock prices soared. And then not shortly after that, not long after that, you’ve got new companies now that are going IPOing into the marketplace. You’ve got the stockbrokers that are taking all these railroad companies public. In fact, this really starts seeming up. By the mid 1830s, between 1836 and 1830, 70 had 59 new railways popped up on the market.



That was actually a really big number at the time. And rail stocks in general absolutely boomed, really, really boomed through the mid 1830s. And then all of a sudden they turned and fell by about 50% by the end of 1837. Now that was basically a sort of entire boom and bust cycle. It took about eight years from 1829 when George Stevenson’s rocket technology was first commercialized, and then grew gradually, then boomed, and then busted by the end of 1837.



So between 1829 and 1837, the whole boom and bust in railroads took about eight years. That was the first cycle in railroad technology. But then the cycle began anew and there was actually several years from about 1838 to 1843 which the industry was in a low. And during this period of time, there were a lot of railroad projects that were entirely abandoned. The total miles of railroad track in England declined, the number of railroad companies declined.



And people thought, oh, there’s not really any money in this, and so I’m not even going to pay attention to it. But eventually enthusiasm started to rise again in about 1844, and there are a lot of reasons for that. There was even some legislation that was passed. Parliament got together and started passing bills and laws advancing railroad technology once again. And then investors started looking at saying, hey, if the government’s in on this, then there’s probably something to it.



So I’m going to get back into railroad stocks and next thing you know, it’s 1840, 418, 45, and people start buying railroad stocks again at a really, really feverish pace. And in 1844 alone, railroad stocks increased by about 40%. And again, it brought out the irrational exuberance. Local media, including names that still exist today, like the Times and the very vulnerable economists had entire sections of their papers devoted to railways. What was going on with rail stocks and who were the hot rail stocks of the day and so forth.



And a lot of it, honestly, there’s even a lot of allegations that many of newspaper reporters are being paid off by stock promoters in the railroad industry just to write puff pieces and get investor enthusiasm to. Soar there were a lot of fraudsters that began inventing stories even people went out and they would start fake railroad companies just to raise capital from unsuspecting investors. And anybody who was even in a hint who would just go out to the marketplace and say, hey, I’m starting a railroad business. That was enough to get investors to throw money at you. There are even celebrities that got into it.



Charles Darwin, charlotte bronte, who wrote Jane aer, if anybody went to high school in the United States, probably had to read Jane Eyre at some point, that was Charlotte Bronte. Got in on rail stocks. A lot of politicians got in on rail stocks. A lot of former politicians ended up joining the boards of railroad companies. All these noblemen who were sitting in the house of lords ended up on the boards of railroad companies.



A lot of people that were on the boards of railroad companies ended up being elected to parliament. There was a revolving door in parliament between the government and the railroad industry. And it got to the point where railroad stocks were so prominent that rail stocks made up more than 70% of the entire British stock market value, and nearly half of all the listed companies in the stock market. Right? That’s crazy when you think about it.



Half of the listed companies in the stock market were railroad companies. That’s totally insane. Especially a couple of years before, there were hardly any railroad companies, and then a few years later, nearly half of all listed companies are railroad companies. Many of them were unprofitable. There was one famous rail line called the York and North Midland rail line, for example, that before this kind of boom in the 1840s, they were profitable.



They had a return on equity of about 10%, which is a decent return on equity before the boom. And then all of a sudden, during the boom, they took in all this investor capital. They started throwing it away at stupid projects, things that actually lost the money, and their return on equity fell from plus 10% to minus zero 3%. So basically they went from being profitable, being unprofitable, simply because capital was so cheap, it was so easy to get. It led to a lot of really stupid decisions and misallocations.



So this is now we’re in the mid eighteenforty s, and England’s economy began to suffer. You might be aware of something called the very famous Irish potato famine. Well, this actually starts taking place in the mid eighteenforty. There’s a bad harvest in England, a fullblown famine in Ireland, 1840, 518, 46. This creates a political crisis in parliament.



The bank of England has to raise rates. They have an outflow of gold out of England, they start losing money. Money supply actually falls and it turns into a fullblown by 1847, a fullblown financial crisis. This lasts for years, and obviously during a fullblown financial crisis like this, all asset prices fell, including and especially rail stocks. Rail stocks had blown up so much and gotten so high, so frothy, that when the financial crisis kicked in, they were the ones that plummeted the most.



And they finally bottomed out years later, in 1850, to the point that rail stocks, the sort of the london stock exchange railroad index was 25% below the previous low in 1843. So it was a pretty cataclysmic decline in these railroad stock prices. But there is something you could argue. Some good that came out of this, and the good that came out of this is that even though there was a big stock bubble in railroad companies, and a lot of I mean, there was fraud and there was deceit, and there was all sorts of crazy things that happened, rail technology still fundamentally changed human civilization forever. Even still to this day.



Even to this day. So much of world trade is actually based on rail. In the United States, railroads are still a really, really important part of the transportation systems, what they call the intermodal system. The US. Imports all sorts of junk, basically from china.



And these boats come to the port of los angeles, or port of long beach, where they’re loaded onto rail and they move across the united states on rail. To this day, railroad technology is still so critical to global trade and transportation. It really did fundamentally change things forever. So yes, there was a bubble, and yes, there were a lot of crazy things that happened, but it left behind a fundamentally good, strong technology. It’s also important to point out that even after the bubble burst and the market bottomed out in 1850, there are a lot of really, really good railroad companies left in existence that made a lot of money for investors.



Because they were still fundamentally good, well managed businesses that continued to make lots and lots of money for their investors over a very long period of time. Now, this story is familiar, and it’s not just rail. In fact, something I’ve already written about before, there was another period in british financial history called bicycle mania. bicycled mania was in the 1890s, where bicycles are still a relatively new technology. You’ve probably seen those old photos of bicycles where you have one giant enormous wheel and one teeny tiny little wheel in the back.



Those are called the penny farthing model, and they were really dangerous, as you can imagine. The cool thing about those bikes is that they can get really, really high rates of speed. You see people zooming across the streets of london. The other problem, the big problem though, is that they were very unstable. Those penny farthing bikes were so unstable that if you hit just a little bump or a little pothole or something like that, of which there were many numerous potholes on london streets at the time, you would really just flip over the handlebars.



They called it taking a header. And it was incredibly dangerous. People had all sorts of. Injuries from this. And so they developed better technology that made bicycles safer and faster and cheaper and all these things.



And this is the big thing that happened in the 1890s. By the mid 1890s, we saw that this bicycle, you know, the index of bicycle stock source 258% just in the first six months of 1896. So we’re talking about nearly tripling of the index just in six months and 1896. That’s pretty frothy. On top of that, you had 238 new bicycle companies that were floated in the first half of 1896.



Most of these were just empty shell companies. They had nothing to offer but fancy promotion, made a lot of sort of high promises, but they had absolutely nothing, they had no intention of ever manufacturing a single bicycle. It was just a bunch of unscrupulous stock promoters that were trying to make a bunch of money off of a bubble. And yet similarly that bubble burst and yet the underlying technology remained. Bicycles were really good ideas, still are a really, really good idea.



I would say probably not as important as railroads. Although, I don’t know, I guess if you’re in Denmark or the Netherlands or one of these places, it’s a really big bicycle culture. Maybe it is for you, but this is still bicycles were really, really good idea. And the idea remained even after the bubble burst. And there’s still plenty of companies that actually were responsible.



Professional businesses that still made money with bicycles continued to develop bicycle technology for decades and decades to come. We saw this with.com bubble. There were lots of idiots, lots of speculation in the late 1990s, the bubble, the dotcom bubble was outrageous, but the internet was still a good idea. And after the dotcom bubble burst, the internet still remained. It was a great idea.



And there were still plenty of companies, including from the dotcom bubble, that survived, that did well, that continued to exist and even to this day are highly profitable. We can already see this in other industries. We can see this in the electric vehicle industry, for example, when Tesla was really one of the first major players in the market. Now you’ve got all these electric vehicle companies coming out, it’s becoming this really hot industry to be in where some guy comes out and says, I’m going to start an electric vehicle company and investors are throwing money at them. And you get the saga of this company, Nicola, where the CEO, I believe Trevor Milton is his name, who has actually been indicted and convicted.



It’s just making stuff up. I mean he went to investors, said, look at my vehicle and how it’s moving and completely powered by electricity. And it turns out that the engineers just put the car in neutral and had it rolled down a hill. I mean the whole thing was a complete and total scam. It was a total fraud.



This guy’s already been convicted. So we can already see that exact same thing. You got a lot of knuckleheads doing dishonest things, but it doesn’t change the fact that there’s still some good technology there. Now, not all bubbles are created equal. And again, if we go back into history, we can see there are some bubbles that are completely stupid and totally pointless.



Like tulip mania. Tulip mania was so stupid because you’re talking about something that’s literally you’re talking about a flower that’s literally going to die and people are paying outrageous sums of money and bidding up the price of that stuff. Something that’s literally going to die, that has no real utility or value in the marketplace or anything that actually is going to move the needle for human civilization. But a lot of bubbles that we see financial bubbles are actually based on really sound ideas, including obviously railroads and bicycles and the dotcom bubble and so forth. There are a lot of examples of this.



There was also in England, actually, there was an emerging market bubble in the 1820s, 1830s. This is a time, a period of time where there were lots of independence movements. In Latin America in particular, you had places, Chile and Argentina and Brazil and so forth, all these places in the early 18 hundreds that started winning their independence from Spain. Now you have these brand new countries in places where there’s a lot of natural resources in the 18 hundreds, natural resources, really big deal. Remember, this is a time where everything we’re mining coal and so forth.



And so you’ve got now places that have really rich deposits of natural resources and investors in Europe are saying, hey, that sounds great, we should invest in these countries. And these brand new countries are thinking like, well, we have investor appetite in Europe. We should probably go and borrow money. We can issue sovereign bonds. Bankers from London get on boats and go out to Brazil and go to Argentina.



And they sit with the government, they say, hey, we can bring you a lot of money and you can issue these bonds and so forth. And there became actually this big kind of emerging market bond investment fad. And there were some people that took a lot of advantage of this. There was one guy, very famous fraudster with the most spectacular Scottish name, Gregor McGregor. Gregor McGregor created literally just made up a country, it was called Poyes.



And he just invented this country and said, oh, there’s this country called Polyass. And he made it sound like it was the city of El Dorado. The streets are paved in gold and they’re sitting on huge natural resources and they’re borrowing money right now. And so he raised all this money for a bond, a sovereign bond for a country that didn’t even exist. And so obviously that was an incredible fraud and people lost money.



But it doesn’t take away from the fact that sometimes actually loaning money to sensible governments and resource rich places is actually a good idea. Investing in emerging markets can be a good idea. The internet was a good idea. Railroads were a good idea. Bicycles were a good idea.



And obviously all of this leads us to crypto. Crypto, the original technology bitcoin, the genesis block. This goes back to the white paper in 2008. The genesis block for bitcoin was mined on January 3, 2009, and the growth since then has been ridiculous. It was in a stealth phase for a really long time.



It went to a major mania phase in 2017. A lot of you guys probably remember that, where quite famously, thanksgiving 2017. So it would be five years ago, right around now. We’re coming up on thanksgiving week here. So thanksgiving 2017, bitcoin was like the talk of the thanksgiving dinner table.



And, and, and, you know, coinbase opened up millions of accounts in the next couple of weeks, and there’s all this crazy mania with people coming in buying bitcoin, and the price went up to a record high and then had a pretty significant crash after that. And that was really similar to the first railroad bubble. The first railroad bubble, again was nine years from 1829 to 1837. And with bitcoin, it was 2009 to 2017. So actually a similar nine year period in that first cycle where the technology was sort of invented and perfected to the time that you had this huge bubble.



Then bitcoin had a cooling off period, basically all of 2018 and 2019, and then with the pandemic, but probably by summertime in 2020, crypto got really, really hot again. And what do you know, the government was printing all this money and paying people to stay home and all these sorts of things. A lot of people sat at home and they bought crypto. They started trading NFTs and so forth, and it got really, really hot. And of course, they rolled out all the celebrities.



They had matt damon and tom brady and all these people. Basically, matt damon was daring people to invest in crypto. You’re a coward if, you know, fortune favors the bold and all these sorts of just silly expressions. And it’s quite hilarious if you’ve ever watched south park, they got panned on south park for this. And again, the super bowl commercials and all these things, just like we saw in the railroad period right in the 1840s, where we had the celebrities and the politicians and so forth.



And it was the same sorts of things. We’ve seen so many shenanigans with crypto, all sorts of ridiculous ways that promoters invented to just take money from people. The ICO craze that went back to the last cycle. All these new constantly with new tokens and people saying, oh, I’m you know, anybody that just went out with a white paper was able to go out and raise a bunch of money and sell their ICOs and pretending that they’re creating new blockchain technology. There’s an entire industry of people who did nothing but write white papers specialized in promoting specific tokens, paying celebrities to do all these things, bringing politicians into it, bringing even central bankers are very highranking.



Central bankers that got pulled into the crypto sector. And that leads us to 2022, where this year we’ve seen several highprofile failures. We saw terra, celsius network, and now most recently, just over the last few weeks, this spectacular collapse of FTX. FTX is the most recent one, probably the biggest one, where you’ve got, I mean, honestly, the story of FTX, it just doesn’t make sense. In less than three years, they came from literally nothing.



They started to being this huge company, this guy’s, this multibillionaire, throwing cash around. You’ve got a CEO who in one respect seems to be a very intelligent person, but in another respect a complete and total moron. They had horrendous internal controls. I don’t need to tell you all this, you probably have been following it. You can read the stories for yourself if you’re listening to this far off into the future.



This is a pretty big deal in the crypto industry. And you’ve got a company that’s holding on to an enormous amount of other people’s money, other people’s assets. They had horrendous internal controls where the CEO is basically using other people’s money as his own personal slush fund. And honestly, to say that this behavior was completely unethical doesn’t even scratch the surface of how much rampant fraud and corruption there was in all this. And because of this, it’s interesting is that most asset prices have been taking a nosedive lately because the economy is turning down, interest rates been going up and so forth, and crypto has been falling as well.



But this particular issue with FTX has caused cryptocurrency to fall even further simply because of this FTX debacle. And what’s important to understand is that just like the bursting of the railroad bubble didn’t actually invalidate rail, and neither did the bicycle, and the dotcom bursting didn’t invalidate the internet. I was talking with some friends over the weekend and one guy said, you know, it’s not like when pets.com went bust in the 1990s. That meant that the internet was a bad idea. Of course the internet was a great idea.



Regardless of what happened with pets.com and some of these really spectacular dotcom failures, what’s happening with FTX fundamentally has nothing to do with crypto. When the enron scandal in the early 2000s, bernie madoff, one of the biggest stock scams of all time, it did not invalidate stocks as an asset class. It meant that Bernie Madoff was a bad guy. It meant that obviously investors need to do more due diligence on their counterparty, there needs to be more internal controls in the industry, but it didn’t invalidate owning stocks as an asset class, and the dotcom bursting didn’t invalidate owning technology stocks. The fact that FTX was a total fraud and that frankly, the guy that runs the show and owns the company seems to be a total criminal here.



It doesn’t say anything about crypto as an asset class or an idea, or the value of cryptocurrency as an idea. It’s important, actually, to point out that FTX, in my view, is not even actually even a crypto company. FTX is a financial institution in the same way that bank of America is a financial institution. What does bank of America do? They take other people’s money.



Other people’s money? Depositors money sits on bank of America’s balance sheet. Once you make a deposit in bank of America, it’s no longer your money legally. It’s bank of America’s money. You’re now a creditor.



You are an unsecured creditor on bank of America’s balance sheet, right? So that’s the same thing as FTX. You go and you deposit your crypto. FTX is holding on to your money, and it’s actually not even crypto. People go and deposit fiat money, dollars and euros and pounds and so forth, and FTX is holding on to that money.



Well, guess what? That’s not your money anymore. That’s FTX’s money. It’s the exact same thing as bank of America. It’s a highly centralized institution, just like bank of America.



There’s very little transparency, frankly, even worse than bank of America. Bank of America, at least, has to issue quarterly audited, financial statements. They have to have management discussion. They have regulatory disclosures they have to make. Even with all that, the transparency sucks, right?



Because bank of America has all these assets on their books, and there’s very, very little detail about those assets. Do we actually know what’s the quality of the loan portfolio? Do we know the quality asset portfolio? Are they buying all sorts of toxic assets and crazy derivatives and using other people’s money to do it? Well, we don’t really know.



They just have huge line items where they say, we have $800 billion in loans, and we go, okay, we don’t actually know anything about the loans. We don’t know. Are the loans good? Are they safe? Are they made to credit worthy counterparts?



We really have no idea. We just have to trust the bank of America knows what they’re doing. With FTX, it’s even worse because FTX doesn’t even publish financial statements. So essentially, what FTX has done is the same stupid stuff that banks did in 2008, where banks were taking their customers money and they were making crazy gambles on wild financial speculation and silly investment products and so forth, buying toxic securities and all these sorts of things that became very famous back in 2008. FTX was kind of doing the same thing.



FTX is taking other people’s money. They were funneling it into a related party company that was then gambling it away and doing all sorts of crazy stuff. And a lot of those investments lost. And because those investments lost, all of a sudden you’ve got people that have deposited cash with FTX, they’re now going to lose a lot of money. You got the CEO.



This guy, Sam Bankman Freed, who claims that FTX was audited. So either he’s a complete liar and they weren’t actually audited, or you’ve got auditors. Now that it’s yet another major regulatory and accounting failure. Auditors are supposed to look out for the shareholders. If this company had actually been audited, the auditors should have flagged this in a second and said, no, no, no, this stinks.



None of this makes any sense. These guys are gambling with their customers money. When you have customers money that should be sacrosanct, that should be so wholly and sacred, you don’t mess with other people’s money. And so, again, either this guy is a complete liar or the auditors just weren’t doing their jobs. Or both.



It could have been both. Who knows? And again, this is just outright fraud. Just like this guy at Nicola who was saying, oh sure, look at our vehicles moving by themselves, when in fact they were just rolling downhill. Or Bernie Madoff telling everybody, oh sure, look at all these investment returns you’re making.



This seems to be a case of a guy that just made it up, just made up everything that he needed to do and was making an enormous amount of money. What was he doing with that money? Well, it turns out this guy was also one of the biggest donors. He happened to be a donor to the Democratic Party. I don’t know if that really matters in this particular case, but he was doing it seemingly with other people’s money.



So this is another massive political failure where you’ve got a bunch of politicians, they’re taking in huge amounts of money from this guy. Nobody’s asking any questions. What’s interesting is that there are so many industries right now, especially in the financial sector, that are required to conduct all sorts of compliance checks, things. For example, the banking industry called KYC, know your Customer. And I know these things because I own a bank.



And it’s a crazy process where people make deposits and withdrawals and trenches, and bank compliance departments have to go and understand where is this money coming from and where is it going and who’s the person that’s going to and is this person a criminal? All these sorts of things that go on behind the scenes a lot of times without customers even knowing that politicians aren’t doing that at all. Some guy comes in with his crazy hair and his big personality and shows up and says, here, I’m going to write you a huge check. And they go, OK. And there’s no compliance checks.



Nobody is there wondering like, hey, where’s this money coming from? And are these audited financial statements or any of this? Nobody. They just take the money. So this is a huge failure.



They just take the money. Politicians, what a surprise. They don’t hold themselves to the same standards that they expect everybody else to. They just take the money. There’s no compliance checks whatsoever.



And this guy, it turns out, that could have been writing checks with other people’s money to politicians that were just happy to accept the money and never asked any question about where it came from. This is also so on top of an accounting and regulatory failure, failure of the auditors, failure of the politicians to even ask any question go, well, this guy’s writing a lot of checks. Does that even make sense? There was a failure of investors vestors that cheered on this guy’s recklessness. Once again, the usual suspects you got I believe Sequoia was in on this.



SoftBank was in on this. A lot of these big investment funds, I gotta say, it’s a weird culture with venture capital firms who I think have been consistently I mean, there’s been so many moral and ethical failures. These are the same guys who cheered on, for example, Adam Newman, famously, of WeWork who stood by and just scratched their butts while this guy was double dealing, pretending like he owned the word we and just milking the company for millions and millions of dollars and just sat there and did absolutely nothing. And it’s this classic sort of startup investor culture with these VC funds. They love the crazy guy.



It’s like the weirder the founder, the better. It’s just this bizarre culture where investors are attracted to crazy founders that have whatever it is, they got crazy hair and crazy personalities and crazy habits and all these things. And there was one story, quite famously, where this guy, Sam Bankman Freed, was going out during an investor pitch, was playing video games during an investor pitch. He was playing League of Legends during an investor pitch. And investors actually like that.



I mean, people will take a guy like that and write him a check, write him a big check for tens of millions, hundreds of millions of dollars because, oh, look at that, he’s so unorthodox. He plays video games during investment no, he’s a child. He’s a child. He’s an irrational, irresponsible child. And if he’s going to play video games during an investor pitch, what is he going to do with other people’s money?



He has no respect for anybody’s money. He’s not going to respect investors and investor capital. He’s sure as hell not going to respect customers and customer money and internal controls and accounting standards and all these grown up things that businesses actually require. And so to me, this is a major problem. I believe in the startup culture where you’ve got these people, these investors, these venture capitalists that deliberately go out and find irresponsible, crazy people because they think it’s that famous line from the SoftBank Founder that if you saw the movie on Apple TV, you know, he said, who wins in a fight between the I don’t remember exactly what he said.



It was like the smart guy or the crazy guy. And he says the crazy guy always wins. And so they want to bet on the crazy guy. No, don’t bet on the crazy person. Bet on the smart person.



Bet on the person that’s actually honest and talented and hardworking and actually has a real vision that’s an actual sensible investment. Instead, I got to go, like, if you got some crazy thing, you got crazy hair, crazy personality, crazy habits, all that. Investors love that sort of thing. And it’s nuts. It’s completely nuts.



And that kind of culture is responsible for this fraud, where you have these very, very smart big investment funds, venture capital funds, they should have known better. They should have been looking I mean, these big investment funds that invest hundreds of millions of dollars and are supposed to be run by responsible adults, those people should have been looking at this. Where were they? Where were their lawyers? Where are their accountants?



And all this, to me, they have just as much blame as the accountants and all the political failures and so forth. These people that are also investing their investors money, the venture capital fund should have been looking at this and they weren’t. And shame on them. Shame on them. This is a horrible fraud that touches a lot of people, and there are a lot of people at fault here.



But again, FTX is not crypto. Everything that I’ve been talking about here I haven’t even scratched the surface of the fraud or at a minimum, the malfeasance, the impropriety, the lack of responsibility. But the point of all this is that FTX is not crypto anymore than Pets.com was the Internet. I’m not even suggesting go and invest in crypto or anything like that. Leave that to yourself.



My whole point is that you should separate the fraud from the asset class, separate the spectacular failure of an individual business or even multiple businesses and multiple enterprises that have failed from the asset class, and even more specifically, separate the fraud from the idea. And the idea with crypto is very simple. Does the world need a decentralized financial system? Yes, absolutely. In fact, if anything, this whole issue with Ft X and the accountants who failed and the politicians who failed, and the big hotshot suit and tie venture capital funds who failed, proves more than ever, the world absolutely needs a decentralized financial system.



And will there probably be more uses of this? Will there be more use cases? Will there be more use and demand for crypto, for blockchain, for distributed ledger technology, for DFI in the future? Yes, probably. There probably will be in the future.



Regardless of Sam bankman freed and FTX. The thing to keep in mind is that regardless of what happens with individual instruments and securities, good assets survive, good ideas survive. They prosper long into the future. The railroad bubble burst in the 1840s and it wiped out all the fraudsters. But what survived were the real companies.



The real companies survived and they bounced back and they thrived. It was the same after the dotcom bubble that bursts. It will be the same with the electric vehicle bubble that’s already forming. It’ll be the same with crypto. The tulips died, right?



The Tulip mania and the Netherlands, it died. The tulips literally died. But rail got better and the railroad, the bicycles, the dotcom investors, etc. People that got into that invested in solid IP, people that invested in responsible managers, that grew professional businesses, that continued to develop fantastic technology that actually changed the world for the better. Those people still made money.



Those are still valid investments and valid ideas. And that’s absolutely still out there with crypto. Again, I’m not encouraging you to do anything with your money, not suggesting you should buy crypto or crypto related businesses or anything of the sort. My point here is you should absolutely separate a bunch of idiots and fraudsters from the idea and the entire asset class. Those two things are completely unrelated.



And with FTX, by the way, I just gotta say, I mean, this was talk about, this is anticrypto. FTX was highly centralized and complete lack of transparency run by one guy who could do anything he wanted to. That is the opposite of what crypto stands for. Crypto stands for decentralization. It stands for transparency.



It stands for no single individual having control over everybody else. So as far as I’m concerned, FTX wasn’t even a crypto company. It was just another highly centralized, frankly criminal financial institution that steals money from its customers. Just like we’ve seen over and over again so many financial institutions stealing money from their customers. But you know what?



If passed this prologue, sambafi doesn’t have anything to worry about because we never see any of these bankers go to jail. They stole so much money from their customers, never seen any of them go to jail. Occasionally get a slap on the wrist. So if this guy’s lucky, then pass his prologue and he’ll get a slap on the wrist and he’ll be like Adam Newman, he’ll be out in a few years raising money for his next venture. But regardless of all that, again, it has nothing to do with crypto.



It has to do with one guy who set up a business that’s not even a crypto business. It’s a centralized financial institution that has failed. It’s failed in every way. It’s failed financially. It’s filled with its customers, it’s failed in its mission, but it is not crypto.



And you’ve got to separate the fraud from the asset and the idea. Thanks very much for listening. And since we’re coming up on Thanksgiving, we’re going to take next week off, but we’ll talk to you again in early December.


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