What Fat Tails and Revolutionary Ages Mean for Digital Assets

Stock market returns are overwhelmingly driven by a small group of winners. We expect the same trend in digital assets.

Between 1926 and 2016, just five out of 25,300 publicly traded companies drove 10% of the entire U.S. stock market’s $35 trillion of total wealth creation: Exxon Mobil (XOM), General Electric (GE), International Business Machines (IBM), Microsoft (MSFT) and Apple (AAPL). Ninety stocks accounted for more than half. Just shy of 1,100 generated the entire gain; the rest collectively returned less than U.S. Treasury bills.

Why so lopsided?

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Stock returns don’t fall along a normal distribution. They skew positively, with a few remarkable ones creating a “fat” right tail. Long-term investors who didn’t own those stocks risked missing out on the market’s average return.

We anticipate a fat right tail in digital asset returns, too. Bitcoin (BTC) is a great example of a wealth creator. We compared its returns to market-cap weighted portfolios of the top 10, 50 and 100 digital tokens (excluding stablecoins and wrapped tokens) rebalanced monthly over the past five years. None of the broader portfolios outperformed BTC. The 50- and 100-token portfolios lost money over the period.

But why? What causes skewness in the first place?

We think a fundamental driver is technological revolutions. In her book “Technological Revolutions and Financial Capital,” Carlota Perez defines these as “a powerful and highly visible cluster of new and dynamic technologies, products and industries capable of bringing about an upheaval in the whole fabric of the economy.”

Perez identifies five technological revolutions since the late 18th century:

Each period begins with disruptive technological innovations that attract talent and risk capital, spawning an explosion of startups. Financial bubbles, corruption and collapse generally follow, eventually bringing regulation, management disciplines and productivity – a golden period of growth and profits. Since the Age of Steel, the golden periods have been dominated by large corporations. The longer the golden period, the greater the opportunity for winners to compound wealth.

Each of the five firms that drove 10% of all wealth creation since 1926 were market leaders of a recent Revolutionary Age:

Notably, each was founded at the beginning of an Age, maximizing the opportunity to compound returns for many years. But just being there wasn’t enough. These winners imagined a future others could not.

We are about 50 years past the dawn of the Information Age. It’s likely a new Age is forming. Will it be the Age of Digital Assets? In our view, digital assets alone are not enough to ignite a revolution. They are, however, a powerful innovation that, together with others such as artificial intelligence, robotics and genomics, have the potential to form a new Age.

If we’re right, the winners of this Age may be among today’s newcomers. Long-term investors would do well to make sure their portfolios include the potential wealth creators that will disproportionately drive market returns in the coming decades. We think digital assets are strong candidates.