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Inflection Point
On the Margin: Convertible Bond Expert Breaks Down Why MicroStrategy Is Soaring | Richard Byworth
00:54:50
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- [00:00]
A
This is something that no one has ever seen before. So you have to think about it in slightly different ways and try to understand what is really happening here. And it is accreting continuous value to the balance sheet, to the asset base. Therefore, in a way it's the type of earnings for the company. And then we should perhaps be thinking about this on a price earnings basis. And maybe this is why Saylor is doing this is as violently as he can. He wants to demonstrate to people the value that he can add in a single year.
- [00:33]
B
Right.
- [00:33]
A
And if you're not thinking about this as earnings, then you're just completely mispricing the stock because he's completely changed the basis of the value of the company in a single year.
- [00:43]
C
Hey, everyone. This episode is sponsored by Ledger. For the past decade, Ledger has been the global leader in digital asset security. Trusted to secure more than 20% of the world's crypto assets. Celebrating 10 years of innovation, Ledger is making digital ownership more secure and accessible with their latest products, Ledger Stacks and Ledger Flex. These wallets feature the world's first secure touchscreens, simplifying your digital transactions while ensuring uncompromising security. Through its Ledger Secure chip and proprietary os. Plus, with the Ledger Security key app, you can say goodbye to traditional passwords and step up your digital protection. Your entire crypto experience got a whole lot easier. Ready to protect your assets? Choose the most trusted name in hardware wallets, Ledger, and take control of your digital security today@ledger.com all right, back to the show. This episode is sponsored by Mantra. The Mantra chain is the purpose built layer one blockchain designed for tokenized real world assets and regulated digital assets offering scalable high performance architecture. Positioned as the blockchain for tokenized RWAs, Mantra is onboarding traditional financial institutions into web 3. Join the ongoing Om Gendrop campaign and be part of the future of regulated digital assets today. All right, welcome back to another episode of on the Margin. And joining me today is Richard Byworth who is the managing partner of Seas Capital and has a long storied career as a convertible bond salesman and trader. Very historic career through a lot of different realms. So I'm really excited to get him on the show today. We're going to be chatting Allring's micro strategy and just really starting to try to unpack some of the more you know, advanced mechanics behind the whole idea. So Richard, it's really great to have you on the show. I listened to your, your episode a few weeks ago and I was just mind blown somebody who could really explain these dynamics. So I just had to get you on the show. So it's great to have you.
- [02:26]
B
Great.
- [02:26]
A
Felix, thanks for having me. Always happy to chat about it. I think micro strategy is, is woefully misunderstood by the majority of of people. So happy to try and articulate as much as possible what is fairly complicated subject.
- [02:43]
C
Love it. Yeah, I think that's a great goal for today. So to, to set the stage before we get into it all, I'd just love to hear a little bit about your history. As I, as I understand it, you worked at Nomura and you've been in the convertible bond industry for what feels like many years and you have a pretty good understanding. So just love to hear a bit more about your background and also just like a quick 101 and what are convertible bonds and how's that different from traditional fixed income instruments?
- [03:06]
A
Sure, yeah. So I started my career in London. I was desperate to get on a trading desk and by luck just sort of landed on the convertible bond desk. I didn't know anything about the product before I landed there and within two weeks I was trading a book when my boss went on holiday and he handed me the market making book for these sort of small cap names In Japan where we had this rather unique, still remaining open outcry market. This was in the early 2000s. Basically everybody would call up all the other banks and if you were the first person to call them, you'd get to ask them a price and if they got you first, then they'd get to ask you a price. And so we called it this, knock for knock, market making. And these bonds were super liquid. Basically the market makers were the only liquidity. And so if you didn't know what was going on in this stock, let's say a meta planet today, if they've suddenly announced a bitcoin buy and you haven't noticed it, then you know you're going to be caught short or long in something you don't want. But anyway, to cut a very long story short, that's where I cut my teeth. So I sort of landed on this desk, started learning about convertible bonds and I was discussing this with someone the other day because a lot of people really struggle with the payoff of a convertible bond and what it looks like everyone's talking about, these convertible bond arbitrage traders are aiming for the conversion price. That's just not true at all.
- [04:41]
B
Right.
- [04:41]
A
You're there for the volatility. You're there to take advantage of the fact that this thing moves in Particular in the case of MicroStrategy, you want to make sure that you're capturing as much of that arbitrage as possible so we can talk about that. But just to come back to my career, so I started as a trader within the convertible bond space in 2002. So two years later, Nomura bought a business from another bank. So prior to 2002, Nomura in London was basically a proprietary trading shop. Like all the traders had hardly any client business. We were just trading our own risk on behalf of the bank. And so in 2002 they started buying businesses from other banks. They bought a derivative business from Merrill lynch, they bought a convertible bond business from ING at that point. I then changed from more a proprietary trader into a market making trader. And as a market maker, this is extremely frustrating because you come from a position of saying, I want that bond, I want that on my book. And then a client comes along, goes give me a price in this bond. You give him a two way price and he buys it off you. And you're like, I need my position back guys, come on, you know, go get, go get it. So it's, it's a slightly bit more frustrating. And so I got to the point of saying, you know what, I just need to join a hedge fund. And so at that point, it was around the time where the new team that had come in were looking to expand the international business into Tokyo. Obviously being Nomura, we were very strong in, in Tokyo in anything that we tried to put our hand to. So it was very obvious that you'd want to put a part of our team in Tokyo. And so I thought to myself, well, that would be a great opportunity as a sales guy to be facing some of these hedge funds and show them how smart I am. And then I join one of those hedge funds and, and go back to putting convertible bonds on my, my book and trading them. Well, it turns out I was a better sales guy than I was a trader. And so I ended up just building a career as a sales guy and that sort of took off. We, we ended up being, being one of the number one houses, or the number one house, I should say, within a matter of months of landing on the ground in Tokyo, unseating Goldman Sachs at the time. And then Lehman happened. So in 2008 I ended up running all of the derivative business as well as the convertible bond distribution business and then futures and Options and Delta One. And so in 2009 I moved to Hong Kong, which is where the majority of the clients were that I was facing and I started, you know, really building out that business within. By 2012 we were the number one Asia X derivative house as well as the Japan derivative house. So that was a big win for us as we, we didn't manage to keep it for very long. But we by 2014 it was starting to slip again. And this was a point where the result of negative or zero interest rates or negative interest rates had started to really permeate into the financial system. Spreads had gone really tight. It was really hard to make money on all the products that I was selling. And so it's just becoming more and more frustrating. And so by 2017 I just decided to leave the bank. I was going to join a private equity firm and in the end I was approached by a crypto company that I was invested in and they were mining Ethereum in China. And so I joined this company to help them build out financial services. Ended up becoming CEO of the company. We sold the mining business. We listed the company on NASDAQ through a spacious and that process of De Spack was a whole three hour podcast on its own. But basically at the end of 2021 Binance came along and they wanted to buy the company because we had a lot of licenses, including the UK where they'd just been kicked out by the fca. That was the point where I said to the chairman and the board, I don't want to be involved with Binance. Step down. We found myself sitting on on the beach in Costa Rica and got a call from Mark sees part of the family and CEO of Seas Capital and asked me if I'd, I'd be interested in joining to look after the hedge fund business at Seas Capital. The hedge fund business at Seas capital is about $1.3 billion. We do invest in convertible bond arbitrage managers. So obviously that skill set of having looked at managers over the years sort of is very helpful and work with them for a long time. So yeah, we as well as hedge funds, we do private equity and litigation finance as well. So that's another 500 million. So in total we're about $1.8 billion. Fat.
- [09:45]
C
Awesome. Okay, so I feel like that paints a good picture of your background of understanding the bond business, but also the crypto business and how they both intersect. The perfect expression of that is obviously microstrategy. So you know, the, the, the secret sauce behind, you know what Sailor is up to is the convert bonds and what he can do there. So I would just love for you to unpack what are the unique properties of convertible bonds. You know, it's, it's not, it's a relatively young product compared to a lot of other, you know, products that are out there. So what are the unique properties of it and why is that, you know, the, the secret sauce that MicroStrategy has started to leverage? What are the, what are the reasons behind those properties that make it, you know, know, so great for him to issue?
- [10:25]
A
So, so basically a convertible bond is priced on a number of factors. So it's price priced based on interest rates, it's priced based on credit of the company. So credit worthiness of the company. It's priced on the underlying stock where that is, and it's priced on the volatility of that stock. So all of those things come together to contribute to the pricing of a convertible bond. What Sailors realized is because his stock is so volatile, it allows him to price bonds on a zero coupon, but with a massive premium. Now, to, to price a bond on a zero coupon, on a 55% premium, I mean, you would basically need rates to be at zero. I mean, the only place I'd ever seen that before was in Japan where rates were at zero for a very, very long time. And when you combine that with a volatile stock like a softbank, for example, then you could end up with that level of a premium. But even that was very, very rare in a zero interest rate environment. The thing that Saylor has is this very high volatility because he's basically sitting on the volatility of Bitcoin, adding leverage to that and therefore getting even more volatility. And so he's basically just realized that this volatility is what allows him to completely price a ridiculous outcome for him and his shareholders. Because what's he doing? He's selling stock not just at the current rate, which is what he's doing with the atmosphere, he's selling it at a massive premium and then using that cash to buy bitcoin.
- [12:16]
B
Right.
- [12:16]
A
And I think this is the ultimate hack that he's managed to find. And obviously now we're starting to see people start to replicate it. But he is now so far in the lead. This 42 billion, 21 and 21 plan that he launched, I really, I mean, I was blown away by that. It really was something that I didn't think the market could, could handle in the way it did. I mean, he went live with that 21 billion AUM day one and the MO and the stock went up. I mean, it was absolutely phenomenal. When you have that Level of dilution. I mean, he was a. At the time, he was a $50 million, $50 billion company. And he issues, you know, 40% dilution in the stock now, and the stock goes up. I mean, that was the point where I realized, okay, something has shifted here. Like this is a completely different paradigm that we're now in. And he's operating on this new glitch.
- [13:16]
C
Yeah.
- [13:17]
A
So to come to come back to your point about convertible bonds, if you think about what he's doing in the stock, he's. Let's say I use this example on the other chat I had, but I think it's a simple one to just try and help people understand. If he's got $100 of market cap in stock and he's got $30 of Bitcoin, he goes and issues another hundred dollars of stock market cap, becomes $200, but he buys a hundred dollars of bitcoin, he's suddenly increased the ratio, decreased the ratio, the multiplier on that bitcoin so massively accreted value to shareholders.
- [13:56]
B
Right.
- [13:56]
A
And this is the point. The dilution is accretive. And this is what everybody in financial markets is really struggling to get their head around.
- [14:06]
B
Right.
- [14:07]
A
So as long as that multiple trades, there almost needs to be more multiple.
- [14:12]
B
Right?
- [14:13]
A
So. So as long as he's got a multiple, there should be more multiple. It should just be going higher. But obviously he's selling into it and pushing it down. But even if it goes back down to a multiple of one, he can do more converts selling again, another multiple. So everything that he's doing continues to be accretive. So it's really a very fascinating situation that he's found himself in. Did I explain enough on the convertible bond or.
- [14:41]
C
Yeah, I'll just summarize one quick thing and then dig in deeper on that question of value accrual, because I think it's very important. But effectively, Saylor has two options to basically run raise capital. He can either issue equity at the market, like he'd mentioned, but to do that, he, generally speaking needs, needs a premium to be able to issue into versus, you know, it's a lot harder to, to issue equity when you're at a discount to nav of the bitcoin. So that's the one route. And then the other route is what you just described, which is the convert bonds, which, you know, depending on. On where they trade versus the conversion price, they can often, you know, if it's below, it trades more like a bond. And then if it trades, you know, closer or above the, you know, conversion price, it's more like, like equity or like a call option. So based on that capital structure framework, I want to follow up on this question of what you mentioned about value accrual. Obviously, you know, you mentioned that it's, you know, you issue 40% more like increase in equity and you're, you're saying it's accretive. And I think you're right. That's the thing that people are having a lot of difficulty wrapping their heads around. So that assumption, does it require the assumptions of being positive on Bitcoin and does it also require the assumption that it continues to go up in price in the future or can it still be accretive even if we, you know, go flat here?
- [15:57]
A
If we go flat here in the multiple remains, it's still accretive, right? You think back to that example I gave of 100 and 100, right? It's whenever there's a premium to nav, it's accretive, right? And even if, as I said, that nav drops to one, the multiplier on the nav drops to one, he can still do the cb, which is again net accretive. There is obviously a third option. He can do straight debt with no convertible strike price. I think that if, if you look at the way that the converts trade it, it's also important to just understand the way the payoff looks because a lot of people get their head stuck around this conversion price and that is important at expiry. It's not important now necessarily. Right. So because of the volatility, you end up with what we call in options terms, you time value. So the time value, he's issuing a five year piece of paper, it's got a three year put. So essentially that pushes up your bond floor because the credit is only to three years. That's where your credit risk is going to get tested is because he's got a put in it where you as an investor, if parity is like 20, you can say, you know what, you're going down the toilet. I'll put those bonds back to you. You got to pay me full, full par price, right? So, so that, that put acts as a bit of a stagger in the maturity curve of, of the convertible bond. But forget about that for a moment. Just that's, let's just talk about the payoff because I think it's, it's really important for people to understand. You've got the, the bond floor, right, which is calculated based on the credit, okay? As I said, the put will affect that. So it pulls the bond floor higher because it's three year paper rather than five year paper.
- [17:49]
B
Right.
- [17:49]
A
So you've got the bond floor and then you've got the payoff of the equity. So as equity goes up 1, the price of the bond goes up 1.
- [17:58]
B
Right.
- [17:58]
A
So post the conversion price, you've got this pay up. Sorry, I'm in the wrong part of the camera angle. So you've got the payoff going like this diagonally.
- [18:06]
B
Right.
- [18:08]
A
So what happens though? That's the payoff. So that's what it looks like at maturity. Only at maturity I care about that conversion price. Prior to that you have what we call time value, which creates a curve where the fair value pricing of the convertible bond is. So it tails off and as you go lower and lower on the parity, it will get almost to that bond floor price.
- [18:32]
B
Right.
- [18:33]
A
And then as you get close to the conversion price, you have this huge amount of premium between the value of the bond at par and the final, sorry, the trading price of the bond. And that is the time value of that option. And the time value of that option is so rich because it is so volatile. His stock is so volatile. So the market today is pricing his bonds on like a 77,0 implied volatility. That is almost unheard of of a convertible bond for that type term.
- [19:08]
B
Right.
- [19:09]
A
Because when you trade a one month or a three month or a six month option, sure, you're going to be fairly close to the actual realized today. But you're always going to assume as that option gets longer that you will have, with a very volatile stock you will have a depletion of the volatility over time.
- [19:27]
C
Right.
- [19:27]
A
That's just generally the way that the options will price as they get longer and longer dated. So for a convertible bond to trade at 70 implied volumes is absolutely insanity. But it just shows you how volatile his stock is and how volatile everybody anticipates to be. And I was just looking at the stock this morning, it's down 5%. Bitcoin's down not even 2% and the stock's down 5%. So five times 16, roughly you're looking at that sort of about a 90 volume a day.
- [20:00]
C
I want to ask you super quick just to compare what you just explained to something people might be more familiar with, which is 75. Oh yeah, there you go. If we can just compare that to something that people might be more familiar with, like a black skulls model of like a call option or something like that. So Let me get see if I got this straight. But what you're saying is that whereas with a call option, you know, the price of that option is pretty reliant on the probability of it to expire in the money. So like where the delta is relation to the strike price. But you're saying that in the convertible bond area it's, it's, it doesn't quite matter until we're at expiry. Is that what you're saying?
- [20:33]
A
No, sorry, maybe I'm explaining it wrong. Of course the stock price is a, is a factor when you're pricing.
- [20:40]
B
Right.
- [20:40]
A
But what I'm saying is when I see these comments on Twitter, everybody's like, oh, but you know the convertible one guys, they're not going to sell any until we get to conversion price. Like no, that, that, that's not what happens. You, you're already on an implied delta.
- [20:55]
C
That is an implied into the price already.
- [20:58]
A
Yeah, exactly. So it's already priced there. And because of that massive amount of volatility you just have this premium because it's five year option, you know, so it's very, very long. So you get this huge premium baked into the price itself.
- [21:15]
C
Got it. Okay. Okay, that makes sense. Cool. So I want to talk a little bit about the people that are actually buying these conversations. Bonds like you mentioned, the last two issuances have been at 0% coupon. So there's no coupon. So the big question is where is the yield coming from? How are they getting it and how does it work that they actually get it?
- [21:34]
A
Okay, so let's go back to the basics of your average convertible bond. Arbitrage hedge fund.
- [21:42]
B
Right?
- [21:42]
A
So guy gets a call from his investment banker in the morning. Microstrategies issue another convertible bond.
- [21:50]
B
Right?
- [21:50]
A
I'll stick it into my model, I'll work it out. Okay, that's the conversion price he's proposing, that's the coupon he's proposing. I factor my credit to be, you know, 600 basis points over rates. So this is where I'm pricing the bond for, etc. Etc. So I'm putting all of these things into my model and I'm looking at it and the model's telling me, well that's 60 implied. And I'm looking at all the other microstrategy converts and they're all trading at 70 implied. And I'm like, call my banker back, okay, Put me in for the full allocation, right? I want max allocation on this bond. And this is what's happening across the street every time he's doing convert because the minute he issues, he's leaving enough on the table where the guy's like, of course I want that.
- [22:34]
B
Right.
- [22:35]
A
It's 60 Vol compared to a 70 volt. I think he issued at 60 Vol last time. It immediately traded up to 70 volt. So that is a huge amount of profit. Almost day one. All these convertible bond guys, so their.
- [22:49]
C
Yield comes from the Vega increasing.
- [22:51]
A
That's one thing. That's what's pricing the bond cheap, so to speak. Got it.
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B
Right.
- [22:56]
A
So you get that kick in the Vega, as you rightly point out. So the Vega is big because it's a five year piece of paper. So it's five year volume. So it's very impactful. 10 volume points, you know, that could be 7, 8% in the bond, right. So it's a huge amount of value that's left on the table there. And then if the guys who want to trade it and go, well, 70 volume is still cheap for, you know, a stock that's moving around intraday, often at 100, 150 Vol. So I want to keep it and I want to trade the gamma.
- [23:33]
B
Right.
- [23:34]
A
So the Gamma is the trade, sorry, the change of delta every 1%. So as the stock goes up, let's say 20% in a single day, if gamma is 0.5%, then your delta is going to change 10%.
- [23:52]
B
Right.
- [23:53]
A
Which means at that point where you're hitting 10% up, you have 10% additional exposure to microstrategy.
- [24:02]
B
Right.
- [24:03]
A
I was on the phone to a convertible bond arb trader after I did that podcast the other day just to sort of understand what he's going through with all of this. And he's like, rich, I've become a DJ and crypto trader. I thought, I thought I was a CBR guy. Like I'm just trading crypto like a DJ now. He said it's insane. He said, I go to the bathroom, if I haven't tightened up all my Deltas and at least left some limits, I can come back and have millions of dollars of exposure. This stuff is whipping around like crazy. I mean he's got the bit dear bonds, the, the marathon bonds, the, the microstrategy bonds. So he's.
- [24:40]
C
Yeah, as I said, and to your point, as you say there, you know, they're not trying to take on directional exposure, delta exposure, right. It's a gamma thing for them. So if, if price shoots up, they're shorting. Right? That's where the, that's where the big shortage comes from is These guys are trying to say delta neutral.
- [24:55]
A
Right, Right, exactly right. Exactly right. I haven't modeled it, so I don't know what the gamma is, but you know, a big move like that, you're going to get a lot of selling coming in from the CB guys. That said all the other CBS that he's already issued are so far in the money there's no delta change happening is they're already on like a 95 Delta.
- [25:16]
B
Right.
- [25:17]
A
So it goes up another 10%. Maybe they go to a 96 Delta. Yeah, but it's those bonds you just issued.
- [25:23]
C
Call, right? It's just like.
- [25:24]
A
Exactly. Yeah, exactly, exactly. So those bonds he just issued, those are the ones where there's this big significant move in Gamma, sorry, in delta each time.
- [25:35]
B
Right.
- [25:36]
A
So you know, those are the ones that are creating the, the selling or the buying to the downside. So this is, you know, if you, if you think about what happens when you have a lot of options in a market, you, you generally see a decline in the volatility because the guys trading the gamma are essentially cushioning the moves.
- [25:56]
B
Right.
- [25:56]
A
They're selling. Is it getting over, over, over strong? They're buying back is. It's, it's getting oversold.
- [26:02]
C
I'm glad he brought up that idea of if volatility dampens because I want to ask you about the ability for, for Sailor to issue these at the, at the coupons that he is doing. Obviously, you know, when he started this there was a lot of. Yeah, like senior converts that were, you know, priced at like 2.25, 0.875%. So above zero. If volume, if implied volume started to come back lower, would he have less ability to issue at zero? Would that be dependent on it?
- [26:33]
A
Yeah, I mean, just to be clear, it's realized volume, so it's what's actually happening in his stock. Implied Vol is where the, that the convertible bonds are pricing. So they're pricing the implicit. The thing that is hard to, the thing that needs to be calculated to find out the price is essentially the volatility. So it's like what volatility is the price of this CB implying.
- [26:58]
B
Right.
- [26:58]
A
So it's the realized volume. If realized volume drops, as you say, it is going to impede his ability to continue issuing 00 coupon convertible bonds.
- [27:08]
C
Hey everyone. This episode is sponsored by Ledger. For the past decade, Ledger has been the global leader in digital asset security. Trusted to secure more than 20% of the world's crypto assets. Celebrating 10 years of innovation, Ledger is making digital ownership more Secure and accessible with their latest products Ledger Stacks and Ledger Flex, these wallets feature the world's first secure touchscreens, simplifying your digital transactions while ensuring uncompromising security security. Through his Ledger Secure chip and proprietary os. Plus with the Ledger Security key app, you can say goodbye to traditional passwords and step up your digital protection. Your entire crypto experience got a whole lot easier. Ready to protect your assets? Choose the most trusted name and hardware wallets Ledger and take control of your digital security today@ledger.com all right, back to the show. Today's episode is brought to you by Mantra Chain Mancha Chains Mainnet has officially launched marking a major milestone in their journey to become become the go to platform for tokenized real world assets. Designed as a specialized real world asset layer 1 blockchain macho chain paves the way for traditional financial institutions to enter the web three space seamlessly and secure. With a high performance infrastructure that can handle both permissionless and permission applications, Mantra is setting the standard as the home of real world assets. Plus they're making waves with big partnerships like their $500 million project with MAG Group and a new collaboration with Zan bank in the uae. Mantra Chain is all about building a compliant scalable future for asset tokenization. Ready to explore the future of asset tokenization? Visit Montreal Chain IO to learn more and see how they're shaping the finance of tomorrow. And then my next question is just around like claim on the bitcoin and value curl as well. Because you know, as we discuss this it feels like, and you know this is something that critics may bring up is that effectively sailors using people that don't understand these dynamics who just buy the equity as basically exit liquidity for the convert bond guys to be able to harvest this gamma in this yield. So my question is if you're an equity holder, how do you see that claim on the bitcoin? But obviously with respect to these fixed income instruments, they're not secured by the bitcoin or anything like that. So I just wondering like in a, in a potential, you know, when, when you are in fixed income worlds you're always thinking about what does it things look like during a liquidation scenario. So during a liquidation scenario, where does the claim on the bitcoin reside in basically is my question.
- [29:33]
A
So I think none of the converts have any claim on the bitcoin. So that is not a collateralization option. He's literally just pricing these on the volatility of the underlying stock.
- [29:46]
B
Right?
- [29:46]
A
But as his bitcoin stock gets bigger and Bigger and more important then obviously that provides some level of credit clarity to the convertible bond traders because they're like, okay, they might not have a claim on the Bitcoin, but they do have a claim on Microstrategy. So in the event that there is a bankruptcy, then he would end up selling the bitcoin. But the only event that there would potentially be a bankruptcy is when he can't pay things anymore. He can't pay the coupons or he can't pay off the debt. That means that Bitcoin is reversed quite violently. And we're in a bit of a dire situation with Bitcoin. So if you basically try and map out where does this go wrong? It's basically Bitcoin having some level of failure and dropping below 80% from where we are today. So so long as you're a Bitcoin maxi, I think you're fairly comfortable owning Micro Strategy stock. And my view very strongly is that this M Nav should be actually trading a lot higher than one and a half, two. But it's going to trade, it's going to struggle to keep premium while he's smashing the ATM to the degree that he is. I mean there, there seems to be a level of urgency with Sailor's behavior. I'm intrigued as to what you think. Like I never imagined he would have done this amount of the ATM by this stage. I mean it's absolutely crazy to think of how much he's actually raised. I haven't done the math since this morning based on his latest purchase, but I think we've got to be getting close to 10 billion of the ATM already done.
- [31:29]
C
Yeah. It feels like obviously the first level assumption is, oh, Bitcoin's up and his premium is up so he can issue buns. But I wonder if it's more to do with just where implied volume is sitting and just the ability to issue into that.
- [31:43]
A
Well, the implied volume is affecting, or the realized volume is affecting the convertible bond pricing. So I'm talking about the premium to nav here.
- [31:53]
C
Okay.
- [31:54]
A
Yeah, so I'm like, I think that that should go higher. I think that, you know, S and P inclusion being on the horizon, NASDAQ etc, all this passive flow money that could come into Micro Strategy. I think also the, the fact that no one can catch him even if Micro stopped at their board meeting, you know, next week or this, I think it's this week, isn't it? If they announce it that they're going to start buying Bitcoin, they're never going to buy Bitcoin with their entire balance sheet. And even if they did, I don't think they'd ever manage to acquire as much Bitcoin as Sailor has got. So the point I was making is he seems to be just urgently trying to get as much Bitcoin as he possibly can. So I think this is what's interesting. It's obviously what's holding the, the multiplier down because you just keep selling into it every week. But I'd, I'd be intrigued as to your, your view on that.
- [32:57]
C
There was a lot of discussion about when the Bitcoin ETFs came out, whether that would, you know, remove the premium to nav. Right. Because, you know, there's, there's some theories that the reason for that premium is, is due to the ability for, you know, some of these certain deaths to be able to buy like a, know, a, you know, licensed security equity. And it's a bit more complicated for obviously like spot bitcoin and, and even more so or less so for the, for the big Bitcoin etf. So what I find really interesting is that we have the Bitcoin spot ETFs now. We even have the options on them as well. And yet we haven't seen that premium come lower. So obviously, you know, it's not, it can't be that. Hey. Because I thought, you know, know, decent probability that when those options launch and especially the ETF launch, that we would see that come back down to zero. But we haven't. So I don't really know.
- [33:48]
A
Well, this is exactly what I thought. And I think, I think Sailor probably thought it as well to some degree.
- [33:53]
C
Yeah. So maybe he was rushing and he's just like, oh, shit, I gotta get these out of here.
- [33:57]
A
But I think what, what has changed in Sailor's mind is he's had a realization that. And he talks about it now. He talks about MicroStrategy as being a bitcoin refinery company and that he's taking the oil and refining it into usable instruments. And I think this is really interesting. Basically, it's probably a bit of a stretch to call it refinery, but he's running a Treasury management company. He's leveraging the capital markets to get even more Bitcoin. And if you take a step back and go, okay, if I could myself issue future equity in my performance.
- [34:34]
B
Right.
- [34:35]
A
Could I and use that to buy bitcoin, would I want to do that today rather than wait until I've earned that money? Yeah, definitely. If I could borrow money and buy more Bitcoin and borrow money on five year debt.
- [34:51]
B
Right.
- [34:52]
A
Would I want to do that and buy Bitcoin? Yes, I absolutely would. Certainly on LTV of like 20, right. Which is, I think what he's at today versus the market cap. So when you put all that together, you go, hang on, this is just an amazing way to add leverage into Bitcoin without doing it in a way that is going to just cost you and bleed you like a leveraged bitcoin ETF would. Because they're just using options. Right? So this is actually a very sophisticated way for you as an average investor to get leverage into Bitcoin and to keep growing your bitcoin stack and I think and fast forwarding what you can actually get as your bitcoin stack, and that's the point as well, is like, you know that by adding microstrategy you are going to increase the amount of bitcoin per share every year. So that's way better than the etf. So it definitely deserves to trade on a premium. And then, you know, the other thing that we've sort of, I've been trying to debate with, with equity people is, well, okay, sure, it's not earnings that he's producing, but it is increasing the asset base.
- [36:07]
B
Right.
- [36:08]
A
Which is what earnings essentially end up doing to a company. So if you just kind of say, okay, forget about the fact that it's not technically earnings and this is money hitting the asset base, why is this not the same thing? And therefore, why should I not apply a multiple to the earnings? And therefore you can see this a lot, lot higher. Right. You know, if he's earned $40 million of new assets this year in terms of that, that accretive dilution, then you know, 40 million on a multiplier of, of or sorry, price earnings of 40 billion, sorry, on a price earnings of, of 20. Well, then that's an $800 billion company.
- [36:56]
C
Yeah, those are the underlying assumptions behind, you know, some of these metrics that they've come out. Like with bitcoin yield and bitcoin per share. Right. Like what are those about? Because I feel like, you know, it's obviously not a yield bearing instrument. So what do they mean by that when they say that wasn't.
- [37:09]
A
That's exactly it. That's the increase in the, in the bitcoin per share. So that's him saying you hold Your MicroStrategy share one share every year. We're increasing that. This year we've increased it by 60% or whatever. The bitcoin yield is, that's hugely accretive to the shareholder again, right? So then if you take that 60 and you go, okay, that's earnings, right? Then you can forward. Extrapolate what I was saying before rather than, you know, people go, yeah, but it's not earnings. You're like, okay, okay, fine, but where do earnings end up? Earnings end up on the balance sheet as new assets. So this is essentially a way to consider that this could be earnings. And therefore, back to my point, if you, if he goes and does another series of ATMs next year and, and carries on at the rate he's going, I mean, he's going to be adding 100 billion of new Bitcoin in a single year. I mean, that is turning that company, even on a 10 pe into a trillion dollar company. So where do you put the multiplier?
- [38:15]
C
Right, yeah, you got to rethink them.
- [38:18]
A
Yeah, you, you can't just go, okay, this is just a slightly better than the etf. No, no, this is a very different ball game. Now we're talking about.
- [38:27]
C
Have you modeled much in terms of liquidation risk, quote, unquote, other than saying, you know, if bitcoin goes down 80%, there could be some issues. You know, Saylor has already written a pretty significant drawdown, though it wasn't quite as levered at the time, obviously, of course, but they have been through that at least once. You know, just looking at the current like annual interest expenses, you know, correct me if I'm wrong, but I have like 34.6 million roughly a year. Have you modeled out how you think or, or how they might be thinking about, you know, that interest coverage in terms of potential liquidation risk or something, or what could happen and how much of the traditional software business revenues cover that interest expense?
- [39:05]
A
I haven't modeled it or spent time on it in any particular detail. But what I do know is that last time I looked at the numbers, they, the revenues from the software business were just about covering all of the interest rate expenses. And obviously the more he can issue at zero coupon and he will be those bonds that he's got at 2.25, you said, and 0.875. He's going to be calling them as soon as he possibly can, and he's going to call all of them. But that's probably something also to mention for people to understand is that there is this soft call feature in all of these bonds, which means after a certain period of time, if the price of the stock is a certain amount above the Strike price. He can go to all the bondholders and do what is called a soft call. So it's, it's basically his call to say, I want you to either convert your bonds or I'm buying those bonds back from you at par. Now, par, obviously he's got a 30% premium to par. They're trading at 30% premiums, par. So 30% in the money at least. So what they tend to do is price in a soft call after a period of time where you will have had that time decay, decrease a certain amount, and then they tend to price it at a level where the options guys have at least managed to make their money. So after a certain amount of time they become callable for him, which means he can say, okay, I'm calling those bonds. If you don't convert, I get to buy them back at par. Right. Their parity is already at 130. So par means 100. So he'd be buying them back off them at, at a discount of 30 points. So of course they convert. They convert straight away.
- [40:53]
B
Right.
- [40:53]
A
Which means that debt is suddenly removed from his balance sheet. You get new share issuances. Those shares collapse into the delta. So there's no impact on the, on the share price because it's new shares are issued. There's that short, that short is collapsed by the convert bond bond holders into that short.
- [41:14]
C
And that's really interesting. So the reason the upside, like if you just think about normal payoff. Diagram, diagram. The reason the upside is so limited is because it gets called, but you know, just turns into equity. So you still have that upside versus like a, a traditional, you know, call bond. When that gets called, like the upside is capped. Right. Because you don't actually get anything out of that. Right.
- [41:37]
A
Are you talking about a cable straight bond? Yeah, with. No. Yeah, yeah, yeah, yeah. I mean, of, of course, if it doesn't have a call option in it, then there's, there's no ability to, to convert it into the stock. But that's the thing they converted into the stock. If they want, they can keep running it. Very unlikely, by the way, that a convertible bond up guy would keep running it. He just converts straight into the stock. Net size position. He's out. All right, ready for the next one, please, Michael? Let's go. Which is exactly what will happen. So he has this, this captive market. But I think to your earlier, the earlier part of the question, what can go wrong? I think if we had an 80% drawdown in Bitcoin, obviously, then get to a Point where the amount, the value of the Bitcoin is the same value of the outstanding debt. I think you then run the risk that we trade at a discount to Navy. And so that obviously gets quite hairy for an investor. So it's something that people need to pay attention to. Like this is leverage upside. It's also leverage downside.
- [42:47]
C
Obviously. You know, there's a lot of speculation right now on this idea of being included in either like the Nasdaq or the S P. How do you view the probabilities of that occurring and how much do you think of that is like baked into where the price has gone recently and also potentially that premium.
- [43:01]
A
I would just like to say that I'm probably not qualified to, to make a view on this. I don't know much about index inclusion rules in the United States, but what I would say is that from my understanding, Tesla was obviously not included for some time. And I think that a part of that was, it had run up very quickly and people thought, or the people making the vote on the index team had some view that, you know, perhaps it could draw back down again. And then, you know, they're, they're rotating straight back out again. So I think what, what the, the team that will make this decision will be deciding will be a number of inputs and it won't necessarily be a slam dunk for Sailor because he's got there so quickly and they probably want to see a few rounds of, of potential index inclusions and him always being on the ticket for, for him to make it. That's, that's, that's what I hear from people way smarter than me about index inclusion.
- [44:07]
C
Okay, so circling back on everything that we've talked about thus far, you started the show by saying that MicroStrategy is one of the most misunderstood financial assets and instruments around. So after everything we talked about, how would you summarize as like the, the biggest misconception of everything we've talked about thus far?
- [44:23]
A
I think the earliest one is, is basically an etf. And I still see people make that comment. So, like, that's a really bad misconception, as we've, we've discussed because he's always aiming to add to Bitcoin pusher. So if you're an etf, if you're a holder of an etf, you're essentially just bleeding because you're, you're paying the fee out of your shareholding every year. You know, there's a, there's an ETF in Sweet in Sweden, listed in Sweden that charges you a 2 1/2% fee annually on the bitcoin it holds. So you're just bleeding 2.5% out of your shareholding, the value of your shareholding every year. With MicroStrategy, it's the opposite. So you're getting more Bitcoin per share. He's charging you no fee. So it's accretive as, as we've discussed many times. So I think that's the number one misconception and I hear it all the time. Why wouldn't you just buy iit like it's, it's so different from ibit. You know, he is literally leveraging violently leveraging the capital markets to get as much Bitcoin as he possibly can. Think back to that example of you as an individual saying, how can I bring forward my future earnings on some sort of equity of Felix, right. I would love to be able to forward, sell that and buy Bitcoin with that.
- [45:46]
B
Right.
- [45:46]
A
But you can't. But MicroStrategy can by selling their stock.
- [45:50]
B
Right.
- [45:51]
A
Same with the, with the debt. I can borrow money in the form of either convertible or straight debt.
- [45:57]
B
Right.
- [45:58]
A
No one, no one as an individual can do that unless they're worth billions, most likely. And you know, their bank loves them and will always lend them money. But I, it's certainly not true of me and I'm sure it's not true of the majority of people that you can't just go to your bank and go, can you just lend me 50 million bucks to buy some bitcoin? It's not going to happen. So I think there's that aspect of basically using Saylor as your way of increasing your Bitcoin holdings. Now, of course, if Bitcoin goes lower, there is a chance that you get all that to traction and so you end up with less Bitcoin than you could have had than if you spent 10 grand on Bitcoin versus 10 grand on MicroStrategy stock.
- [46:43]
B
Right?
- [46:44]
A
So there is of course, this thing to understand that. And this is where of course, all the people that are being negative about his stock are pointing to, for them, they see absolutely zero value in that premium. And so, and the minute you say, well, you know, what about earnings? And why can't we attribute some level of price earnings to this? Then they were like, oh, of course it's not earnings. You an idiot. It's like, well, it's not earnings. I get that. But where do earnings end up? As I said previously, it's like they end up on your balance sheet. They end up as assets in the company or potentially as a dividend paid. So that's exactly what he's doing. So why could we not just sort of think about it in a different way? This is something that no one has ever seen before. So you have to think about it in slightly different ways and try to understand what is really happening here. And it is accreting continuous value to the balance sheet, to the asset base. Therefore, in a way it's a type of earnings for the company. And then we should perhaps be thinking about this on a price earnings basis. And maybe this is why Saylor is doing this as violently as he can. He wants to demonstrate to people the value that he can add in a single year.
- [47:56]
B
Right.
- [47:56]
A
And if you're not thinking about this as earnings, then you're just completely mispricing the stock because he's completely changed the basis of the value of the company in a single year. And that's essentially what an amazing earnings year would do. So maybe he's acting in this very violent way in order to try and establish that base of saying, you need to give me a pe.
- [48:20]
C
That's such a great point. Because, you know, to your point, like the only reason it doesn't show up on an income statement is just because of how we decided to construct income statements. Right. But to your point, where does that income go? It goes on to retained earnings or as a dividend. So it's just instead of just showing up in an income statement, which is just arbitrarily, what we decided are things that show up there, it just goes on the balance sheet. That's really interesting.
- [48:42]
A
I'm just thinking out loud with you now and just sort of extrapolating that. I think that could potentially be an explanation of why Saylor is moving as aggressively. He is. So in 2025, people are like, oh my God, this guy has just added so much value to this company.
- [49:00]
B
Right.
- [49:00]
A
We're thinking about this wrong and suddenly it's just this wake up moment for the whole market and then the M Nav goes through the roof.
- [49:10]
C
Yeah. Something I meant to ask you but didn't get a chance earlier was just around the, the levered micro strategy ETFs and your thoughts on those because, you know, classic financial world, you take a good thing and then you, you start to depress it a little bit. And I don't know if you're ever like a volume trader, but I was messing around there in the days of like when XIV blew up and it just kind of reminds me of these things. So I'm curious your thoughts on, on the impact of those levered ETFs.
- [49:34]
A
Well I was a derivative trader and I was a convert trader which you know very similar types of things. And for me when I look at those products I'm like you unfortunately you know it. Having traded options, if you're not aring, if you're not gamma trading those options with the richness of the price of the implied, you are bleeding to death.
- [49:58]
B
Right.
- [49:59]
A
And we, we all know that short dated options, unless you get the direction right first time you are going to just bleed to death. So I really don't trade the options and I would not touch those products because those products are built through basically going long, very high gearing options which are short dated options out of the money they'll be building a curve so that they can participate and then rolling out the strikes and doing all of that. But yeah for me that unless you want to trade it for maybe two or three days and you're like I'm very sure that Bitcoin's going to have an absolute flyer and microstrategy is going to do 2x that and then mstu or whichever one is the 2 or 3x ends up doing 2 or 3x times that then sure if you have a particular view over a three day period, yes. But even holding over a weekend you're bleeding to death.
- [50:59]
C
Right.
- [51:00]
A
Monday morning you come in, there's no free lunch. Yeah, I, I, I mean I've from my personal I feel that micro strategy is, is more than enough volatility.
- [51:14]
C
Yeah, yeah, agreed. And if you want more Vol. I don't like, like you said I'd way prefer to just do my own leverage in options than try to just bleed out on a levered ETF. And I know that's my perspective for all leverage ETFs. You know, you see you compare like the three XQs or something like that and you know the tracking error is just a mess.
- [51:31]
A
Yeah it's because, it's because of the cost of, of transacting these options. But also as you say it's that bleed which is just horrific to deal with if you get your timing wrong. Like that's the thing with, with with options. If you're not camera hedging them you've got to get your timing absolutely spot on certainly for the short dated.
- [51:51]
C
Any closing thoughts there overall on the whole microstrategy world and, and your thoughts on where this goes for the next 12 months before we wrap up?
- [51:58]
A
Look, I think it's an absolutely fascinating stock. I think it is changing the whole paradigm of markets. I think that we will see more and more companies announce a bitcoin strategy because of the success he's happening, he's having. I'm paying close attention to other early movers in specific markets. I think Meta Planet is someone to watch, obviously employing a very similar strategy to MicroStrategy. I mean, what, they've taken it from 20 million to 500 million and now obviously if they get to a billion, then they're going to start to attract much larger investors and then they can also have their own flywheel. I mean they're trading I think about a five times multiple, but I think that that is demonstrative of, of the growth that they can potentially have versus MicroStrategy in terms of just accreting much faster at that lower rate, which we've already seen. So yeah, look, I, I think this is a really fascinating space to be watching. I am not giving anyone any investment advice, of course, but I do think that that Pro premium to net Nav should expand as people understand more and more that this is a way to be thinking of earnings coming into the balance sheet rather than. Okay, it's not technically earnings, so I'm not going to count it as earnings, as you said. I think that that is potentially a fascinating way to be thinking about this and it puts the stock a lot higher. But of course there's downside. If Bitcoin starts crashing, this stock's going to crash a lot harder. You will see that premium to Nav probably drop to one as things get really hairy and, and maybe even a discount.
- [53:47]
C
Well said. Look, Richard, it was great to finally get you on the show. Where can folks go if they want to hear more about your, your thoughts and musings?
- [53:54]
A
Like any good finance Pro, I'm on LinkedIn and so LinkedIn under my own name. I think there's only one Richard Byworth, based in Switzerland certainly. And then on Twitter I'm @RichardByworth. So all one word, so easy to find.
- [54:14]
C
Awesome. All right, well, thanks for joining us. That was really fascinating for me. Thanks.
- [54:17]
A
One more thing I should say, Felix, is I. I have my own podcast, slightly different. It's not designed to be a bitcoin podcast, it's designed to be a podcast looking at the various different issues with the world that's called Sees the Future Syz. So that's on YouTube, Spotify, Apple, etc. So I'd love to have people come join me there as well.
- [54:38]
C
Yeah, Love it. All right. Thanks, Richard.
- [54:41]
A
Thanks, Felix.