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IN BRIEF

BETTING ON THE CURRENCY OF THE FUTURE: A DIGITAL ASSET INVESTMENT STRATEGY

How do you evaluate investments in an emerging technology? What’s the rational split for a bet on

the two current leading blockchain-based currencies, Bitcoin and Ether, maturing in 2022?

Key driver analyses to establish relative probabilities for future scenarios

Regression analysis on historical data, plus coin supply forecasts and two models for market

growth to establish a range of price forecasts

Monte Carlo simulation to generate a probabilistic assessment of the potential returns for

multiple investment strategies

BEST BET

Bitcoin: $0.7 million

Ether: $0.3 million

Estimated Median Value, 2022: $1.91 million

Estimated Maximum Value, 2022: $8.85 million

WHAT IS …?

BLOCKCHAIN An open, distributed ledger used as the base for many digital currencies plus more

BITCOIN The dominant digital currency built on a blockchain, since 2009

ETHEREUM A blockchain platform that uses the digital currency Ether and supports smart contracts and other distributed applications, since 2015

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Investor Overview

“The world's largest global Bitcoin exchange in euro volume and liquidity” ... “We

believe in the potential for digital assets to bring about the long-overdue, dramatic

and positive change to global finance and financial inclusion”

– Jesse Powell

One of the world’s leading Bitcoin exchanges,1

Kraken’s values include intuitiveness,

professionalism and focus. Jesse Powell, CEO

and Co-Founder of Kraken, aims to make Bitcoin

and other digital currencies accessible to the

world.2

1 http://blog.kraken.com/post/137588082707/kraken-launches-ether-trading 2 http://blog.kraken.com/about

Kraken is taking an active role in the

development of the digital currency market,

pushing the envelope with “firsts” in the

industry.3 Ethers have caught Kraken and the

industry’s attention in the past year.4 The

burning question is: Which will be the currency

of the future – Bitcoin, Ether or both? 5

3 The first digital asset exchange to have trading price and volume displayed on the Bloomberg Terminal, one of the first exchanges to offer leveraged bitcoin margin trading, the first to pass a cryptographically verifiable proof-of-reserves audit, and a partner in the world's first cryptocurrency bank. 4 https://www.kraken.com/en-us/about 5 http://www.economist.com/whichmba/mba-case-studies/investment-case-study-competition-2016

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Market & Competitor Overview

“Blockchain is gaining traction because it holds the promise to transform industry

operating models” …”An enabling technology of the platform revolution trend”

– Gartner

Businesses always want faster, cheaper, more

efficient ways to transfer funds. The global

financial crisis spread distrust in financial

markets and their governance. In 2008 the idea

for an open, distributed ledger called a

‘blockchain’ emerged, which promised to

address these concerns. It also enabled the

digital currency that came with it, Bitcoin, to

avoid the problem of double-spending.

Since 2008 the market for digital currencies has

grown immensely. Several hundred digital

currencies now exist, adding on average 80 new

entrants per year.6 Not all digital currencies are

equal though. Of the current US$12 million total

market value, Bitcoin boasts an 80% share,

followed by Ether with 8%. To date only two

other currencies, Litecoin and Ripple, have

managed to make significant inroads into

Bitcoin’s dominance.

6 https://coinmarketcap.com/currencies/views/market-cap-by-total-supply/

Bitcoin’s market share has slowly declined … just.

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Market & Competitor Overview

Success in this fast moving, sensitive market is

heavily influenced by the level of consumer trust

in the technology and its governance.

Government regulations and support, the

development of complementary services and

ecosystems, and responses to security

challenges within the currency network are

critical determinants of growth.7

7 https://ripple.com/insights/2016-will-be-the-year-you-

realized-you-dont-need-the-blockchain/

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Future Scenarios

“The future is not a scenario written, which we only have to act out; it is a work which

we have to create”

– Roger Garaudy

The outcome of this bet depends on the future

price of Bitcoin and Ether, which in turn

depends on their adoption and success.8 Four

scenarios that characterised distinctly different

futures were created and described,9 and five

key drivers were identified that together would

be most likely to determine which future reality

emerges.10

8 Currency exchange value depends on a dual supply-demand equilibrium. However, we consider that for the next 5 years the adoption (demand) for the digital currency will dominate. The impact of differential supply on the USD price forecasts has not been calculated. 9 Appendix 1 10 Appendix 2

Based on the estimated strength of each driver and the likelihood that it would occur in the coming 5

years, a relative probability of occurrence was derived for each scenario.

Strength Likelihood Strength Likelihood Strength Likelihood Strength Likelihood Strength Likelihood Weight Probability

Platform wins 0 0 1 1 2 1 0 0 1 1 4 20%

The great leap 1 2 0 0 1 2 2 1 0 0 6 30%

Brand wins 0 0 1 2 1 2 0 0 1 1 5 25%

Locked out 1 1 2 1 0 0 0 0 2 1 5 25%

100%

SCENARIOSDRIVERS

RELATIVE RANK

Government Competition Ecosystem Crises Technology

Rating Likelihood Strength

0 na na

1 possible weak

2 likely strong

The future’s not obvious … which is good, as that would be boring.

Four scenarios of the apocalypse

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Modelling Uncertainty

“When nothing is sure, everything is possible”

– Margaret Drabble

The future is always uncertain, but never more

uncertain than for a newborn. Prodigious

talents and serious deficiencies can come to

light in the first few years of a baby’s life, and

the same applies to digital currencies.

In order to model the full range of potential

outcomes for the Bitcoin and Ether price over

the next 5 years, an expected value and a best-

case value were calculated for their market

capitalisation. The worst-case value is, of

course, zero.

For the expected Bitcoin value, a simple linear

regression of historical market capitalisation

formed the base. For the best-case value, a

linear regression of the logarithm of the annual

growth rate was used, to produce an ‘S’ curve

projection commonly seen in technology

adoption.

Best-case

Expected

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Modelling Uncertainty

The expected Ether value was then modelled on

Bitcoin’s expected value, assuming that

Bitcoin’s market share was maintained constant

as it grew. Ether’s market share was assumed to

grow only enough to take Ripple and Litecoin’s

share (the current 8% share for other currencies

was maintained). The best-case Ether value was

based on the ‘S’ curve growth of Bitcoin but

with Bitcoin’s market share declining according

to the linear trend seen in the historical data.

The probability of each currency under or over

performing against its expected value was

calculated based on the outcome of the

scenario analysis.

Summing up

Best-case

Expected

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Price Forecasts

“Tonight’s forecast … a 99% chance of wine”

– Anonymous

Expected and best-case price forecasts were a

simple calculation of the forecast market values

for each currency in each case, divided by the

forecast supply of each currency. Bitcoin has a

reasonably predictable supply curve, built into

the design of its blockchain.11 Ether’s supply will

be affected by the imminent move to a proof-

of-stake consensus model from the existing

proof-of-work model. While the details remain

unknown it is expected to be more efficient and

so the forecast supply is modelled to increase,

based on a reduction of the block time to

Ethereum’s 12 second target.12

11 https://en.bitcoin.it/wiki/Controlled_supply 12 https://blog.ethereum.org/2014/07/11/toward-a-12-second-block-time/

Ether

Bitcoin

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Investment Strategies & Estimated Returns

“I invest, you bet, he gambles”

– Anonymous

The available investment strategies range from

100% Bitcoin to 100% Ether. Using Monte Carlo

simulation, the estimated returns for 11

strategies along that spectrum were modelled,

based on the calculated probabilities for each

currency to under or over perform against

expectations and an assumed distribution of

prices in each case.

The distributions were assumed to be triangular

around the expected price forecast, limited at

either end by the best-case and worst-case price

forecasts.

$0

$4

$8

$12

0% 20% 40% 60% 80% 100%

Mill

ion

s

Maximum

75th Percentile

50th Percentile

25th Percentile

Minimum

Choose your own investment mix …

Price distribution (Bitcoin at top, Ether below)

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Investment Strategies & Estimated Returns

The Monte Carlo simulation produced a probabilistic estimate for returns from each of the 11 strategies.

As a vocal market participant and active

promoter of digital currencies, it was assumed

that the profile of Kraken’s risk appetite would

be moderately aggressive. For marketing

purposes, a subjective preference to support

both currencies was also assumed, if supported

by the financial modelling.

The estimated returns show risks of greater

losses for the two extreme strategies. The

mixed strategies weighted toward Bitcoin show

the best profile for median and potential

maximum returns. Of these, while the median

return is slightly lower than strategies that are

more evenly balanced, a moderately aggressive

approach would be to invest 70% in Bitcoin and

30% in Ether.

Bitcoin Investment Minimum Maximum 25th Percentile 50th Percentile 75th Percentile0% 57,775$ 6,474,488$ 897,493$ 1,268,215$ 2,807,577$

10% 178,605$ 6,208,151$ 1,062,520$ 1,566,921$ 2,798,223$

20% 269,592$ 6,387,788$ 1,108,575$ 1,858,953$ 2,837,083$

30% 319,402$ 6,770,678$ 1,119,831$ 2,035,949$ 3,043,240$

40% 348,778$ 7,289,875$ 1,129,546$ 2,126,010$ 3,202,275$

50% 353,229$ 7,809,071$ 1,141,992$ 2,110,895$ 3,338,715$

60% 321,846$ 8,328,267$ 1,111,875$ 2,075,522$ 3,551,816$

70% 290,463$ 8,847,464$ 1,095,170$ 1,909,470$ 3,844,938$

80% 259,080$ 9,728,695$ 1,049,590$ 1,760,194$ 4,068,780$

90% 153,859$ 10,767,424$ 969,408$ 1,656,476$ 4,357,258$

100% 41,743$ 11,806,153$ 884,737$ 1,639,838$ 4,575,772$

Model behaviour

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Appendices

Appendix 1

Appendix 2

Platform wins

Ethereum's smart contracts and other complementary goods drive up

adoption (especially in the financial and government sectors) and value of

Ethers, which come to dominate the market, leading to Bitcoin's decline.

The great leap

Encouraged by widespread government acceptance in the face of ongoing

global crises, the large size of the potential market leaves room for both

currencies to develop supporting ecosystems in particular niches, and both

currencies flourish.

Brand winsBitcoin's brand and position leads to large network benefits, which stifles

Ethereum's growth, leading to Ethereum's decline.

Locked out

Concerns over security as well as criminal use of the currencies leads to

widespread government opposition (and regulation) for digital currencies in

general.

DescriptionScenario

Government

Government support or opposition to digital currencies will be extremely

influential, both in terms of public sector adoption of blockchain technology

and in terms of regulation.

CompetitionCompetition between digital currencies as well as with traditional and

electronic payment methods will be fierce.

Ecosystem

The development of supporting networks of complementary goods and

services is frequently one of the determining factors in the battle between

emerging technologies (e.g. VHS vs Betamax, Apple vs Android)

Crises

International crises, especially financial and economic crises but also

geopolitical crises and health or environmental crises - if they occur - are

likely to drive up adoption of digital currencies in a search for safety

TechnologyProblems with security and stability of the technology have repeatedly

derailed fledgling digital currencies

Driver Description

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POLITICAL ECONOMICAL SOCIAL/CULTURAL TECHNOLOGICAL ENVIRONMENTAL LEGAL ETHICS DEMOGRAPHIC

- Governments

depends heavily

on the financial

sector

- Financial

crises are

cyclical and can

contribute to

the progress of

digital

currencies

- People are

increasingly

comfortable with

virtual

transactions

- New

technologies

are driving new

business

strategies

- Banking

system

regulations

could be

adapted to help

or hinder digital

currencies

- All the

information in

the blockchain

is traceable

and cannot be

deleted

- In 5 years the

global population

will grow 5%

- Almost all

financial crisis,

which affect

primarily bank

users and banks,

also affect

Governments,

who have to bail

out at least part

of the banks.

- Bitcoins and

Ethers can be

used as a store

of value with

different

characteristics

to fiat currency

- People are

increasingly used

to having personal

information

placed online

- The surge of

new

technologies

may threaten

the blockchain

- Banks are

significant

institutions in

the legal,

financial and

political

framework of

modern

economies

- The blockchain

offers the

anonymity of

cash, with

greater

efficiency,

which has

made it

attractive to

criminal users

- More people in

developing

economies may

be able to enter

the Financial

market for the

first time if digital

currencies

become

mainstream

- Government

can support or

oppose the

implementation

and regulation of

digital

currencies.

- Transactions

with digital

currencies can

be faster,

cheaper and

more efficient

than traditional

currencies

- People

increasingly prefer

payments using

electronic systems

to cash

- Governments

are potentially

big blockchain

users, given the

number of

public ledgers

they maintain

(e.g. land

ownership etc)

- Regulations of

the finance

sector are

regularly aimed

at protecting

consumers

from bad

behaviour.

Digital

currencies may

present a more

effective non-

regulatory

alternative

- Demographically

led changes can

influence

financial markets

and,

consequently,

digital currencies

STEEPLED (PESTEL) ANALYSIS

- Digital

currencies

require

significant

energy inputs,

but these are

likely to be

lower than

current inputs

required due to

the reduction in

the parties

involved