Crypto memes and dreams — why it’s different this time
When COVID-19 hit the US in 2020, the crypto market fell precipitously. It was another blow to the crypto industry, which had already been suffering from a two year bear market, where asset prices were depressed and adoption was muted. Just a year later, crypto has blown through previous all-time highs and is regularly discussed by everyone from technologists to creators to regulators and everyone in between.
Of course, asset prices remain incredibly volatile — that hasn’t changed. However, as someone who has participated in the crypto ecosystem since 2017, the fundamentals have evolved significantly. There is an acceleration of new users — retail and institutional — who are onboarding into crypto for the first time. The underlying technology has developed significantly — enabling new user experiences and attracting interest from new stakeholders. Every week there seems to be a new application or use case built on a blockchain.
The pace of innovation is buoyed by a global community of early adopters who amplify the developments, an open-source culture that welcomes contributions from all participants, and an incentivization model that aligns these participants to the success of the ecosystem. It’s a labored analogy, but it does feel like we’re still in the early innings of the next internet.
The energy and promise of crypto is unlike anything I’ve ever seen or experienced — and I’m excited to be transitioning into the industry full-time. As the technology matures, new use cases develop, and adoption increases, there’s no better time to dive in — regardless of whether we’re in a bull market or bear market. If you’re an engineer, marketer, investor, academic, artist, or psychologist, there is an opportunity to get involved.
Early days of institutional and corporate adoption
As the governments respond to the pandemic with stimulus and recovery programs, there are rising concerns about inflation — putting a premium on scarce assets like gold, real estate, and Bitcoin, which has solidified its reputation as digital gold. Bitcoin is the first store of value where supply is fixed and unaffected by increased demand. While the nascent asset class was derided by Wall Street, financial institutions can no longer ignore digital assets. As clients have asked for exposure, firms including Goldman, JPMorgan, and Morgan Stanley have added crypto to their offering.
At the same time, regulatory and infrastructure developments have significantly derisked the asset class. In light of these advancements, corporates and institutional investors have increasingly considered exposure to the asset class. Payments giant Square has 5% of cash in Bitcoin on the company’s balance sheet. Square chief financial officer Amrita Ahuja stated “there’s absolutely a case for every balance sheet to have Bitcoin on it.” According to ARK Invest’s research on how corporate adoption may impact Bitcoin’s price, if all S&P 500 companies were to allocate 1% of their cash to Bitcoin, its price could increase by ~$40,000.
Bitcoin is the entry point to the digital asset class. In the coming years, capital allocators including hedge funds, insurance companies, and pension funds may more seriously consider increased exposure to Bitcoin specifically, and the asset class generally. As investors learn more about revenue-generating assets like Ethereum, valuation frameworks will become more developed for these investors to feel more comfortable allocating beyond Bitcoin.
Crypto and the Meme-ification of Finance
But how did we get here — how did a white paper posted to the internet by a pseudonymous technologist seed a $1T+ asset class?
In early 2021, veteran investors were taken aback to find that retail investors, who communicated in internet memes and emojis in online forums, were able to collectively move the market for stocks including Gamestop and AMC. But the Gamestop saga was not the first time that memes won over traditional valuation frameworks.
Crypto has an internet-native culture and community with a mastery of memes. As far back as 2013, Bitcoin supporters encouraged each other to HODL. Memes have willed Bitcoin and other digital assets from its early days in the corners of the internet to the mainstream today. Scrolling through Twitter, you’ll find a growing number of investors, business leaders, and even politicians with “laser eyes” profile pictures, a sign of support for Bitcoin.
Of course, it can’t be all memes and dreams. The last time we saw that was the 2017 initial coin offering (ICO) boom, where teams with blockchain-based projects raised billions based on white papers and the potential for a future token distribution. There was a lot of promise in these decentralized applications, but not enough building — let alone usage — yet. As the crypto markets cooled and projects fizzled, skeptics claimed they were right all along.
The memes help the idea spread, but it’s the builders that turn these ideas into reality. Teams who saw the technology’s potential set out to bring their projects to life. They developed decentralized applications (dapps) — or programs that run on a blockchain, often as smart contracts. They created wallets and marketplaces that made it easier for consumers to transact with dapps. Now these products are facilitating billions of dollars in transactions.
Decentralized Finance (DeFi) and What Is Possible
DeFi applications enable users to transact with one another without an intermediary facilitating these transactions — all powered by the network of participants and underlying technology. These applications provide users with access to financial services including credit and lending, market making, trading, investing, and exposure to synthetic US dollars.
As an example, decentralized lending protocols connect borrowers and lenders of digital assets. Funds are provided to the protocol by lenders who are looking to earn interest income on crypto that they intend to hold long term. The protocol enables anyone in the world to borrow these assets from the protocol, so long as they provide the required collateral. To protect the network, these loans are overcollateralized to ensure the borrower is incentivized to repay the loan.
These networks suffer from the chicken and egg problem. They need lenders to attract borrowers and they need borrowing activity to attract lenders. In mid-2020, Compound, a decentralized lending protocol, rewarded borrowers and lenders with COMP, the network’s governance token, which holders could use to vote on changes to the protocol. Compound saw an increase in users, engagement, and transaction value on the network.
Other protocols followed suit and kicked off “DeFi summer,” in which users participated in various networks to increase potential returns. This practice, which became known as “yield farming,” created a flywheel for users to get comfortable using these platforms and gave a boost to these fledging networks in attracting early adopters. And it’s not just borrowing and lending. There are protocols that enable digital assets trading, smart contract based insurance, an automated hedge fund, and exposure to tokenized, synthetic versions of physical assets.
Since DeFi summer, activity has been up and to the right — both in terms of users and total value on the networks. Many of these applications are built on Ethereum, the second largest cryptocurrency, which stores and processes the smart contracts that use programmable logic to facilitate transactions without an intermediary. Users pay a fee to perform these transactions — driving revenue for the network and its stakeholders. As applications on the network have grown, so have the fees. As of May 2021, Ethereum was generating an annualized $14B per year in fees. 7 days average fees are $5.6M on Uniswap, the largest decentralized exchange, and $1.4M on Aave, the most active lending protocol.
What’s next
We tend to overestimate the effect of a technology in the short run and underestimate the effect in the long run — which may lead to short-term bubbles. As investors get more excited about a new technology, prices get driven up and get ahead of the fundamentals. We saw this effect to some degree in the dot com era and then again during the ICO boom.
Each cycle brings the capital needed to invest in critical infrastructure and attract talent that builds for the next cycle. Winners like Google, Amazon and eBay emerged from the dot com era, and there are large networks from the ICO boom. Polka Dot and Chainlink are worth over $50B today, returning 77.3x and 280.5x respectively to early investors. These two alone more than make up for the ~$7B raised across all of the ICOs in 2017–2018. This is consistent with the venture power law, where a venture fund’s best investments outperform the entire rest of the fund combined.
ICO token price
Polka Dot: $ 0.29 per token (77x return)
Chainlink: $ 0.11 per token (280x return)
Just a few years later, buying and holding scratches the surface of what’s possible in crypto. Decentralized applications are providing options for long term holders to earn passive income, while NFT art and games are attracting diverse participants to the ecosystem — including artists, game developers, entertainers, and athletes. DeFi summer and mainstream adoption led to another runup in 2020 and 2021. While we don’t know where prices will go in the near term, we do know it is just the beginning of how this technology will impact our daily lives.
There is still so much to be built — and so many problems to solve. While existing protocols are powerful, there are limitations that prevent them from reaching their potential. The user experience can be complicated and confusing for a beginner. From a technology perspective, there are scalability issues — leading to low transaction volume, high network fees, and friction in every transaction. Additionally, while transparency is a feature of public blockchains, it limits the types of transactions that will be acceptable if privacy concerns are not addressed. Lastly, as more public chains launch, they will need to communicate and interoperate with one another. There are solutions in the works on all of these issues, as well as infrastructure and tools that make it easier to build dapps and protocols.
It’s been shown that this journey will not be all up and to the right. It’d be unfair to assume that it would be. After all, we didn’t write off the internet because it was slow, had limited use cases, and experienced a financial bust in 2000. Several years ago, it was fair to wonder if crypto protocols and dapps would ever ship or be used. The explosion of activity in the past year has put that concern to rest. Criticisms today focus on speed, high fees, and volatility in the crypto market. But these concerns are an indication of the industry’s maturation process more than its potential. Given the level of talent focused on advancing crypto infrastructure and building new use cases, it seems there is no limit to how this technology will be applied in the coming years.
At this point, there is no doubt that crypto assets and dapps are catapulting us into a new era. This technology enables provable digital scarcity and new economic models that weren’t previously possible. Web 3.0 will focus on the transfer of value, not just the transfer of data. DeFi and NFTs may be the focus today, but it’s not just financial services and media that will transform. Soon enough, corporate executives across industries will see their business models evolve in this new paradigm. More of our economic activity will happen on open source crypto networks. What happens “on chain” will impact our online and offline lives. Creators will get their fair share of the content that they produce and programmatically receive royalties through codes instead of contracts. There will be new ways to organize and transact, globally. And in retrospect, it will all seem inevitable.
