Fundamental Analysis: DeFi as a Catalyst for a New Cryptocurrency Boom
Disclaimer: I own some of the tokens mentioned. This is not investment advice, just sharing some research on what seems to be the next big trend in crypto. If you find this article useful, feel free to follow me on Twitter @AkadoSang
After almost 2 years, it’s interesting to see the rise of the Exchange Token Sector really happened. Most exchanges have issued their own tokens and use part of their revenue to buy and burn them, reducing supply: Okex, FTX, Bitfinex, Binance, Huobi and many others. Now that’s done, it might be time to take a peak at the new sector that I think will be trending next but be even more successful in due time: DeFi
What is DeFi?
DeFi - or Decentralized Finance - refers to the new open finance ecosystem being built right now. In other words, to all the products, services and tools built using open sourced protocols.
Why is DeFi such a big deal?
Putting your assets to work
DeFi allows market participants to put their assets to work. Up until now, unless you’re a trader, other than send or move your assets around, you could only hold them. Most users hold their digital assets on exchanges. This not only puts their assets at risk, they’re also not being productive. They’re just sitting there waiting to be stolen.
Now you can put them to work and be rewarded for it. You can provide liquidity at Swap pools, mint synthetic assets or lend them to other users. You’re being paid to provide a service. All while keeping custody of your own funds.
What would you rather do? Keep your assets flat and at risk of theft or put them to work, generating more wealth while keeping them safe with your private keys? Right now, the incentives are on the side of DeFi. Compound your earnings and it will have a significant impact on your portfolio.
Numbers keep growing
DeFi is not just a buzzword anymore but because it was dismissed at such, it went under the radar for a while. Numbers don’t lie. According to Defipulse, total value locked in DeFi grew from $200million in January 2019 to more than $1billion million worth of Bitcoin, Ethereum and DAI in February 2020. A significant increase in a ~1 year period.
Real Use-Cases
Protocols like Compound, apps like Uniswap, products like DAI/SAI and platforms like Synthetix or Maker have caught the eye of users and investors. Why is that? For once, applications that tackle real use cases are being shipped.
Market participants can now swap between tokens faster with lower fees, go in and out of stablecoins, create new derivative products, receive yield on their deposits and even take flashloans. In short, we’re now starting to see infrastructure that allows market participants to easily put their assets to work.
In some cases, DeFi has already surpassed centralized services like some of the biggest cryptocurrency exchanges. For example, on the DAI-USDC market, Curve offers less slippage than Coinbase Pro for a $10,000 trade. This is an impressive feat, not to mention the lower fees.
While this is a single example, the growing trend and strong incentives of DeFi could provide us with more markets like this. Don’t forget exchanges have been around for quite some time while DeFi has only started to come up in people’s radars.
No KYC or Geo-blocking
The best part? All of this can be done with no KYC. KYC was a very determinant factor in the success of the biggest exchanges in the space so far. If we think about BTC-e, Poloniex, BitMEX, Binance, etc, one of the main reasons why they succeeded and saw users flock to their platforms was because at some point they didn’t have KYC or Geo-blocked them. Once they started to implement those due to regulations, a big part of their users would move on to what would be the next big exchange.
Many so called Decentralized Exchanges had to comply with this and shut down. Regulation killed volume on many exchanges sending some out of business or making them a shell of what they once were.
DeFi doesn’t require KYC. Anyone can access these applications and products. Although websites could Geo-block users, they’re nothing more than a front-end to a bunch of smart-contracts. Someone with enough expertise can interact with them or create their own front-end. The products and applications themselves are not restricted, only some front-ends may be.
How can DeFi become a catalyst for a new cryptocurrency boom?
Not only has this sector seen plenty of investment, it also does something extremely interesting from a tokenomics perspective: many of these applications require participants to “lock” tokens. If they’re locked, they’re not circulating. This means the more assets are put to work in DeFi, the less circulating supply there is.
At the beginning of this month (February), 3 million Ethereum were locked (now at 2.8M). That was ~2.7% of current Ethereum supply. While that may not be a significant amount for now, if we follow the trend, more will be locked as more services are created and more users join the ecosystem. What will happen when 10% of the supply is locked? And 20%? At the same time, what happens when an avalanche of users such as the one from the previous bullmarket comes in? For context, Binance had 250,000 new users per day while Coinbase reported numerous days of 100,000+ user signups and Kraken 50,000 new users per day.
If conditions are met, a significant amount of the Ethereum supply will be locked as demand increases many-fold. That would be quite an interesting scenario given Ethereum is the 2nd biggest cryptocurrency and often leads altcoin movements in the market :)
How to Invest in DeFi?
The DeFi narrative is growing stronger and as we’ve seen, it’s likely it’ll keep growing. After all, you can make your assets work for you and there’s all kinds of apps with an ever increasing Total Locked Value. Sometimes these apps even provide better opportunities than the well established centralized exchanges, despite being so new, like lower fees and spreads.
If you feel like taking advantage of this, you might be wondering what DeFi projects are there. Getting in early on DeFi before it takes a significant chunk of market share from exchanges could be a great opportunity. Imagine being able to invest in exchanges before the 2017 craze when their volume kept doing new all time highs. Part of that volume could spill on to DeFi projects and their tokens holders could consequently benefit from it.
Here’s a small list of DeFi projects which have a token as a central piece of their design. The tokens are important for governance and economic incentives to bootstrap or manage the networks:
Maker (MKR)
A decentralized autonomous organization in which MKR token is used to stabilize DAI, the biggest decentralized stablecoin. A few other attempts at collateralized stablecoins failed in the past but so far Maker is succeeding and pretty much lead the DeFi scene until now. How much is it worth to have a seat at the Currency Board of the Cryptodollar?
Synthetix (SNX)
A platform for synthetic assets. In the future you’ll be able to trade TSLA, AAPL or indexes like SPX on chain vs Dai, Ethereum or Bitcoin. No more need for a broker. Opens the door to a multitude of assets not yet seen in the crypto space and consequently to more adoption. SNX can earn you trading fees generated by the Synthetix Exchange. What and how big of an impact will synthetic assets have in the crypto space?
ThorChain (RUNE)
A decentralized liquidity network with cross-chain liquidity pools. Too confusing? The team made an AMA and answered the most common questions. It’s unique slip based fee system is an evolution on the fixed-rate fee model used by Uniswap. In the future, BTC, XRP, LINK or any other digital asset with a liquidity pool will be able to be staked. Any asset will be traded vs any asset. Great synergy with Synthetix, for example: staking TSLA, AAPL or any major index. Will ThorChain incentives be enough to capture significant market share and make RUNE valuable?
Kyber (KNC)
An on-chain liquidity protocol that aggregates liquidity from a wide range of reserves. There are more than 85 apps powered by Kyber. Volume has been steadily increasing and in this month of February there have been days with a 24h volume superior than $5,000,000. KNC tokenomics will change in soon. KNC will be used in governance and holders will receive network fees relative to how many tokens are staked.
Aave (LEND)
A protocol to earn interest on deposits & borrow assets. Aave offers flash loans: trustless, uncollateralized loans where borrowing and repayment must occur in the same transaction. This feature could lead to innovative uses of DeFi. The protocol is designed to burn 10% of platform fees captured in LEND tokens. This implies that the LEND supply will consistently be decreasing. Can flashloans bring developers to create an ecosystem similar to Kyber?
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There’s plenty of other projects out there that weren’t mentioned and many new ones will be created too. Found these interesting enough to give you an idea of what stuff is out there that can be used to ride this new DeFi wave. Tokenomics, protocol designs etc may or may not be to your liking, it’s up to you to research and do your due diligence. Any of the projects mentioned may fail in the future or may not even be shipped as expected at all. You know, just normal stuff that happens every day in crypto ¯\_(ツ)_/¯
Risks Risks Risks
Like any other new technology, DeFi carries a series of risks and they should be taken seriously. Smart contracts can be exploited and even if they’re audited, it doesn’t mean they won’t be exploited in the future. Audits don’t guarantee an application or protocol are impervious to exploits. They help but they’re not a guarantee it’s 100% safe. Not only market participants have to worry about bugs, they have to worry about financial attacks, incentives and other risks too. For example: Oracles can be messed up with so markets can be taken advantage of, like we’ve seen with the recent flashloan events.
High APR offered by many DeFi applications may seem tempting but remember there’s no such thing as a free lunch in crypto. Manage your risk and stay safe out there.
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If you found this article useful, feel free to follow me on Twitter @AkadoSang
