Lots More with Matt Levine on MicroStrategy's Infinite Money Machine
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So I went to write one of our oddlots newsletters recently, and I was going to write about microstrategy. And I had this idea. I was going to call it microstrategy's infinite money loop.

And then I was researching on the terminal and I stumbled on a bunch of Matt Levine columns where you actually titled it Crypto's Perpetual Motion Machine. And then I thought, well, I'm not even going to try to compete with Matt. I'm just going to ask him to come on the show and explain it to us. Many such cases. Yeah. Many such cases. But at least he'll come on the podcast.

So here we are with Matt Levine, who is, of course, the author of the Money Stuff column, but also the co-host of the new Money Stuff podcast. It's not that new. It's pretty new. It's a year old. I know. I keep thinking it's two months old, but it's almost a year. Oh, really? No, it's like nine months or something. Wow. Time flies. I always think 2020 was two years ago. Same, same, same, same. Yeah. Time is a flat circle. Matt, what is MicroStrategy's perpetual motion machine? MicroStrategy...

I keep saying perpetual motion machine. I think I'm kidding. I think I'm kidding. I keep hoping that I'm kidding. So MicroStrategy is a pot of Bitcoins that issues stock, and the stock trades at, call it, two times the value of the pot of Bitcoins. And so if you have that situation, you sell more stock to buy Bitcoins.

Because like classically, that's an arbitrage and you close the arbitrage, right? You sell stock that brings down the price of your stock. You buy Bitcoins that brings up the price of Bitcoin. Eventually you get to the point where your stock and the value of the underlying Bitcoins is the same. It never gets any closer. So it keeps like more stock and buying more Bitcoins and it keeps driving the value of the company up. And so they keep getting more and more valuable. They have an asset, so to speak.

That's not Bitcoin. And that asset is the ability to get like non-margin callable leverage, right? So, I mean, like... Like if I wanted to borrow Bitcoin or borrow money to buy Bitcoin, I could, but there is a chance that Bitcoin goes down tomorrow. They ask for my money back and I'm homeless. So this is a thing that they say, and that has some truth to it, but...

This is not a levered way to buy Bitcoin. And the way you know that is that the market cap of the company is 2x the value of its Bitcoins, right? So it's like an anti-levered way to buy Bitcoin, right? Like if you put $2 into MicroStrategy, you get back $1 of Bitcoin, which is the opposite of leverage. Now, it's true that like, and by the way, also like they do have the ability to, like they're right. They've sort of touted this as their strategy. Like we are a better mousetrap for buying Bitcoin because we can get leverage.

They do a lot of convertible bonds. I don't think of a ton of just sort of regular non-marginal leverage other than the converts. But yeah, that's a theoretical case. It's just not true as a matter of pricing. Wait, the convertible bonds are actually what initially caught my eye because I think they issued at like –

one of the recent ones, 0% with a conversion premium of 55%. And that's like already when the stock is trading at this massive premium to the value of its assets. And so usually the higher the conversion premium and the lower the coupon, the less attractive that would be for investors. But clearly people are buying this stuff because they keep doing it. Yeah. Like a convert is just like,

You just plug into a model, right? Well, sorry. Taking a step back. I actually need you to explain convertible arbitrage to me. So there's two things here. There's convertible arbitrage. There's also a lot of fundamental investors, right? If you think about a micro strategy convertible, never mind convertible arbitrage, there are people in the world who run, I don't know, fixed income funds, who run like...

convertible fundamental funds who run various sorts of funds who wake up in the morning thinking, I want to buy some Bitcoin. And they can't because their mandate doesn't include Bitcoin. It might not even include MicroStrategy stock or MicroStrategy stock might be too rich for them. But they like, they can buy a fixed income product that has some Bitcoin upside. They're like, oh, that's great. Right. So part of the investment thesis for these bonds, and there's like a lot of these bonds, is something like that. It's like, this is a way to get Bitcoin upside with downside protection.

But the convert arbitrage strategy is this is a way to get microstrategy volatility. And microstrategy is so volatile in part because it's crazy, but in part because of like technical factors involving their ETFs.

And so, a convertible is just an options trading strategy. You're buying call options on MicroStrategy. And call options are more valuable the more volatile the company is, the more volatile the stock is. And this has 100% annualized volatility. And what you're doing is, you buy a convertible, you sell some stock to hedge, and you adjust your hedge over time as the convertible gets more or less in the money. And

The way you do that is basically every time the stock goes up, you're selling more stock to get shorter. And every time the stock goes down, you buy back stock to reduce your hedge. And if the stock is constantly bouncing around, you're constantly buying low and selling high and making a lot of money. So it's a good volatility trade. And those convertible terms, you know, it's like zeros up 55%.

is like, that sounds outrageous, but you plug it into the model and you put in, you know, a hundred percent volatility and that's cheap. And so like people want to buy it. Joe, I didn't realize this until recently, but you know, if you go and look at some of MicroStrategy's earning presentations for Q1, Q4, they actually have slides on there that are basically like boasting about how volatile the stock is. Have you seen these Matt?

I think so, yeah. Yeah, it's like MSTR is more volatile than any other S&P 500 stock. Right, they're marketing to convert investors. Yeah, they're clearly marketing the volatility as a selling point. They know what they're doing. This is important. They're using every part of this strategy to raise money. They're really thoughtful about it. And selling lots of volatility is very helpful to them. And the point about the ETFs is like,

You know, a convert investor buys low, sells high, right? Every time the stock goes down, you have to buy back some stock. Every time the stock goes up, you have to sell some stock. That is, you're profiting from volatility, but you're also dampening volatility, right? Because when the stock goes down, you're buying. So if you issue a lot of convertibles, you dampen the volatility in your stock. MicroStrategy doesn't have this problem because they also have these levered ETFs

which so much increased the volatility of the stock. Because a levered ETF, every time the stock goes up, they have to buy more stock. Every time the stock goes down, they have to sell stock. And so the levered ETF is like jacking up the volatility, which is part of why the stock is so volatile. So it is a perpetual motion machine. It's solid. No, I don't care. The...

The thing that I don't understand is the premium of stock. Like the volatility, like, yeah, like that works, right? The volatility trade is a good trade. The stock, like why is the stock worth twice the value of the underlying Bitcoins? I don't know. Yeah, that's weird. A big crash in Bitcoin would be really bad, right? And that's very possible because it's crashed many times in its history.

Yeah. You know, like your guess is as good as mine about like what that does to the premium. Like if Bitcoin goes down by 50 percent, does this stock go down by 50 percent? Does it go down by 90 percent? I don't know. Who knows? Eighty nine percent of business leaders say AI is a top priority, according to research by Boston Consulting Group.

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Could I start my own perpetual money-making machine where I just have a pot of something and then I try to make my stock as volatile as possible? Like maybe I just say stuff on the internet constantly. Companies do it. Like companies are trying. No one's like at this scale, but like a lot of companies have looked at this and said, we should do that. And so some of them just do it. Some of them do it like Dogecoin, you know, like you can have other. Who is it? There's like random like kind of quasi-punny stocks. Yeah, yeah, yeah.

I wrote about a half-joking crypto thing that's doing it called, you know, there's like a crypto called Fartcoin. And there's a Fartcoin strategy, right? Yeah, but it's not a company, right? Oh, yeah. So this can be replicated on chain. Sure. Yeah, yeah. Well, it can, like the mechanics can be replicated. Can the premium be replicated on chain? I don't know. I mean, you can sort of sell anything. But like, I think part of the premium here comes from

It being a real corporation. Right? I mean, one thing that's like attractive about MicroStrategy, like they're trying to get into the S&P 500. Yeah. Which is a fascinating, like, that turns on a change in the accounting rules that allow for them to take, to account for their Bitcoin gains as profits. I didn't know that. Yeah. So like, they may not get into the S&P anyway, but like,

They've not been profitable enough to get into the S&P, but the Bitcoin gains, they have had Bitcoin gains most of the time, and that will become accounting profit for them. I want to ask a question that touches on one of Tracy's favorite topics, and it's actually a little bit adjacent here. What would be the problem of just having an index that's just –

These are the 500 biggest companies. Is there any, like, what's better about having an S&P that sometimes has some discretion versus just like, here are the 500 biggest companies in the world, in the US, whatever. In this immediate case, like, what is a company? Like, is SPY a company? Yeah.

Oh, interesting. Because like this is an ETF, right? I mean like arguably this is an ETF, right? It's in the trappings of a tech company. But like if you said the biggest company as well, you know, like is it S&P 500 fund? Yeah. A company. But away from that, no. I mean like people definitely have very rule-driven indices. I think part of the appeal of the S&P is, you know, it's a product that's sold to fund managers, right? And like if every fund manager says, I don't want to own this.

You know, for a while, the S&P was, for a while, a lot of indexes were excluding dual class stocks because like fund managers would call the index providers and say, we don't want to own dual class stocks. We're bound to buy the index. So take them out of the index. And then like they changed their mind because all the dual class stocks were doing well. And so they had to put them back in the index. But it's just like, it's just a market driven thing, right? Like if people want a certain index, they get that index. Awesome.

There's nothing wrong with having the top 500 companies be the index. Like nowadays, everyone has started custom indexing as well, right? So like if you don't like the S&P 500, you can just ask for your own index. And that's why there's a billion indexes now. The other thing I saw was there was a Bitcoin miner. I think it was called Mara or something, Mara Holdings. And they said they were going to issue converts basically to do the same thing as MicroStrategy. So it's almost like, is this going to be like an asset class, a thing that stays with us? Yeah.

Yeah, you know, people in the convert market talk about being saturated with money.

with crypto converts. If you grew up as a convert investor, you're like, "I can't have 90% of my portfolio in crypto." In part because you think about the volatility and the technical aspect of making money on trading the volatility, that depends on the credit being good. And no one really knows the credit here. If there's a big crypto crash, all of these credits in a very correlated way become terrible. And so your whole asset class falls apart.

Prior to all this, what was the canonical use case of who and why issue converts? Oh. I seem to remember energy companies. Energy did a lot. I mean, like the canonical case is like tech, biotech, like, but a lot of energy too. You know, it's like companies that are volatile, companies that often don't want to get credit ratings, companies that, you know, like what you're selling is...

in some sense, equity upside and in some other sense, equity volatility. And that's more attractive to convert it. There are companies that have attractive equity volatility and not such attractive credit to traditional credit investors. And so they can do that trade rather than issuing bonds.

- You have a DeepSeek take? - Oh yeah, DeepSeek. - Yeah, I have various takes. My main take was, I wrote today, like your old take. - I saw my name. - About the way to monetize DeepSeek was to short NVIDIA. - This is very incestuous. It's just like all three of us are referencing each other. - We're all complimenting each other. - I would say, my old blog at stalwart.com in like 2000, this was when, you know what I thought about this? When Google introduced Sheets, or when they came out with their Excel competitor. I was like, some companies should start doing this when they short Microsoft.

For some reason, Sheets never really took off and became an Excel competitor on a real level. But back when there was so much free Web 2.0 software, I thought, give out free software and short your competitor. Anyway. Yeah. I mean, there's no evidence that DeepSeek did it. It'd be cool if they did.

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