In 2018, we have seen the cryptocurrency market cap go from all-time highs in January to falling over 80 percent by December, despite little changing in the context of the technological fundamentals.
If little has changed with the fundamentals, then there must be other factors driving the manic buying and panic selling cycles present in these markets? A persistent pattern I have observed in the context of investors and projects in the space is one of information asymmetry.
This information asymmetry manifests itself in various contexts, e.g. either being a very informed or a very uninformed investor, the ability to determine if a project has overpromised on its technological deliverables or not. Another way of viewing this asymmetry is that it arises from hidden complexity, whether we’re talking about perceiving the value in an asset or implementing a new piece of software.
While I can describe bitcoin in a single phrase as “gamification of time-stamping,” describing and delivering a working system that implements that concept is a serious technical challenge.
With Decred, we experienced this hidden complexity firsthand while building Politeia, a time-ordered filesystem, for use as our proposal system. Making cryptocurrency markets less volatile and projects more substantive is a matter of doing what we can to eliminate the information asymmetry that arises from technological complexity, both with investors and software alike.
Complexity for Investors
I have observed a very bimodal distribution when it comes to the extent to which cryptocurrency investors are informed. There is a minority that is incredibly well informed and a majority who are quite uninformed.
This knowledge gap often benefits the well-informed at the direct expense of the uninformed, so the former are incentivized to maintain this arrangement. Similar to many other markets, the less-informed chase the carrot of easy profits dangled in front of them by the better-informed. When this herd-like behavior is combined with relatively thinly traded markets, it creates serious volatility, which has much in common with over-the-counter (“OTC”) stocks.
The perception of value drives investor decision-making, so the collective psychological state of investors determines the value of an asset. Unlike many other assets, cryptocurrency fundamentals do not change substantially as a function of time. This constancy of fundamentals is a major driver for using cryptocurrencies as a store-of-value (“SoV”) over longer timescales.
It is this SoV property that separates cryptocurrencies from OTC stocks, and it drives a longer timescale periodicity that is not present in most OTC stocks. Many uninformed investors are keen to buy low and sell high, capturing a profit in fiat terms, whereas well-informed investors understand the SoV property is a longer term play, which incentivizes them to buy low and avoid liquidating their positions.
Informed investors using cryptocurrencies as a SoV fuel these longer term boom-bust cycles, so episodic spikes in valuation occur without the value crashing to zero after each manic buying phase.
Complexity for Projects
After managing several software projects over the past decade, I can say that, even as someone who participates on a technical level, it is easy to overpromise on deliverables.
The main driver of this disconnect between promises and quality working code is the hidden complexity of the cryptocurrency development process. Over the past few years, I have seen many projects make massive promises and raise staggering amounts of capital in ICOs and similar processes, only to not deliver, deliver incredibly late or deliver barely-working software.
Similar to the situation for investors, projects have a bimodal distribution of technical ability: a minority that keeps their promises roughly in line with what they can realistically deliver and a majority that grossly overpromises on a regular basis. Overpromising on software deliverables is often the result of a combination of underestimating the complexity of cryptocurrency software and conscious overstatement on part of project leads.
Because the domain of cryptocurrency software is still rather new and complex, there are correspondingly few people who are well-suited to understand what can and cannot be achieved in a particular amount of time, on a technical basis. So, a project may make some really impressive claims about what it will achieve, but when there are so few people who are capable of realistically assessing how feasible the claims are, it incentivizes malicious actors to bait-and-switch investors.
Numerous projects that have been funded on a bait-and-switch basis have seen their valuations collapse throughout 2017 and 2018 once investors become aware they are unlikely to deliver on their claims.
Complexity in Practice
As the Project Lead for Decred, I am familiar with the process of dealing with complexity from a technical and management standpoint, and our off-chain time-ordered filesystem, Politeia, serves as a good example for how hidden complexity can delay even seasoned development teams in the space.
Our goal was to have Politeia in production as our proposal system in roughly 12 months from the start of the project in April 2017, and we didn’t go into production until six months after the projected date in October 2018. Despite building on top of a working versioned filesystem, git and attempting to avoid complexity, it still took several additional months to get the metadata formats just right and have the frontend perform suitably.
Politeia is based on a pretty simple idea “create an off-chain store of data where you can demonstrate who said what when using cryptography and an existing blockchain.”
Once you split this apart into its components, it doesn’t seem very difficult:
- Make episodic self-contained timestamps using the Decred blockchain
- User identities correspond to keypairs in a PKI system
- User messages are all signed by the corresponding identity private key
- Up and down votes are a special form of user message
- Tracking user ticket votes based on snapshots of the Decred ticket pool
This list is pretty short and each component is relatively simple, but handling the edge and corner cases that arise between these components quickly becomes non-trivial. Despite the final working implementation being complex, it can be described as a handful of simple components that even less-informed market participants can understand.
Simplicity for Investors
There are myriad ways to become a well-informed cryptocurrency investor, but after making my own missteps, I have a few simple policies that can help cut through some of the complexity:
- Stay skeptical – When someone makes extraordinary claims, they need to supply extraordinary evidence. If any claim made by a project sounds too good to be true, see what someone external to that project has to say about it, and attempt to understand more about how they will deliver on their claim.
- Do your own research – There is no substitute for doing some self-directed research about a project before investing in it. Even in my case, as someone who has been working in the space for almost six years, it still takes me several hours to do a good job footprinting another project and understanding their value proposition in some detail. Are there other projects that serve a similar niche? What makes this project better than others in the same niche?
- Dollar-cost averaging – Not everyone has the ability to dictate the schedule on which they acquire cryptocurrency, but I recommend considering a dollar-cost averaging approach, where you make regular purchases over a longer time period. It is challenging to buy at a local minimum price, so rather than load up at single price, you purchase regularly over a wide range of prices. This way, you are not beholden to the psychology of having bought everything at a single price, and you can lower your average acquisition cost by buying as prices drop.
- Psychological periodicity – As discussed above, there is a periodicity present in cryptocurrency markets that is not present in other similar markets. Before investing, consider that you may have to wait several years for the market to cycle to a point where you have made a good investment. 2018 has had a lot of similarity to 2014 in that all-time highs occurred near the start of the year and markets have sold off in stages throughout the year. For much of 2015, BTC/USD was in the 200s and this was an excellent time to acquire Bitcoin. I suspect 2019 will be similar to 2015, where valuations stay depressed and the market consolidates throughout the year.
Simplicity for Projects
Overcoming the complexity barrier between promises and implementation for cryptocurrency projects is challenging. Here are some policies that have served me well:
- Avoid overpromising – It is easy to be coerced or otherwise convinced that you need to make huge promises to generate interest in your project, financial or otherwise. If you care about not looking like a doofus later on, make a point to reflect on whether or not your promises can be delivered on before making them publicly. In my case, this has meant not publishing projected completion dates for work because I am often wrong about when it ends up being done, e.g. Politeia. Managing expectations matters.
- Avoid complexity – Once you have some established promises or have otherwise chosen a path forward to address a technical problem, do what you can to avoid complexity and still achieve your goal. Cryptocurrency software is often, as a function of the domain, quite complex, so it especially important to keep things as simple as possible. Less complexity means you are more likely to deliver your software sooner.
By working together to increase our collective comprehension, participants in the cryptocurrency ecosystem can take many steps to help reduce market volatility, create more substantive technology, and efficiently educate newcomers.
If 2019 is anything like 2015, the cryptocurrency market is in a consolidation phase, and the next several months will continue to shake out underperforming projects. Very little has changed with the fundamentals of the space, despite the pullback in valuations, so I expect a continued and bright future for cryptocurrencies in 2019 and beyond.
Have an opinionated take on 2018? CoinDesk is seeking submissions for our 2018 in Review. Email news [at]to learn how to get involved.
Crypto Futures and Institutional Interest: Looking in the Wrong Place
Noelle Acheson is a veteran of company analysis and member of CoinDesk’s product team.
The following article originally appeared in Institutional Crypto by CoinDesk, a newsletter for the institutional market, with news and views on crypto infrastructure delivered every Tuesday. Sign up here.
Last week, the Cboe let its traders know that it would not be renewing its futures contracts on bitcoin.
This was taken by many as a sign that expectations of institutional interest in crypto assets were misplaced, and by some as a nail in the crypto coffin.
If a significant venue like the Cboe doesn’t see a future in offering a product that institutional investors allegedly require, then obviously there’s no demand, right? And if the institutions don’t bring their money and legitimacy into the market, where is the much-needed liquidity going to come from?
As usual, the reactions are overblown. The news is neither significant nor bad for the sector’s outlook. It does, however, shine a light on the recurring role of misplaced expectations in driving market narratives.
Cboe was the first traditional institution to offer bitcoin futures, launched in December 2017. It was followed a week later by a similar product from the CME. In the end, although volumes have been declining at both, institutional traders seemed to prefer the CME’s product. Let’s look at why.
First, the CME is larger than the Cboe Futures Exchange, and in commoditized markets, size matters. Brokers would logically prefer to trade on a platform where they already have connectivity.
Second, settlement methods are important, since they determine a position’s profitability.
Cboe used the Gemini auction price to determine the value of its contracts – a price determined once a day on thin volume. The CME relied on an index comprised of data from a handful of liquid exchanges. Although the reliability of this pricing method has also been questioned, it seems that institutional traders saw the index as the less manipulable of the two options.
The suspension of one particular type of bitcoin futures contract usually says more about product structure than the underlying commodity and is far from an isolated incident.
By some estimates, more than half of futures launches fail to reach critical mass, and simply fade away.
No big deal
The withdrawal of this product is unlikely to make a noticeable impact on trading strategies. Volumes were low, and since the CME has stated its intention to continue offering its version, those that used the Cboe can relatively easily switch to the more liquid contract.
What’s more, the utility of cash-settled derivatives to hedge bitcoin positions is a contentious point. Many claim that what the market needs is regulated physically-settled bitcoin futures. These will supposedly make the market more robust by providing a more reliable and less manipulable hedge.
With cash-settled futures, the value of the product depends on market information, which – in a relatively illiquid market – can be manipulated. With physically-settled futures, you take delivery of the underlying bitcoin. You can then hold on to the asset, or sell it in the market at a “real” price.
The eventual launch of Bakkt and ErisX, which plan to offer physically-settled bitcoin futures, will bring an alternative product into the institutional toolbox.
But those that expect physically-delivered futures to be the trigger that brings institutional players into the market in volume are likely to be as disappointed as those that expected cash-delivered futures to perform that feat.
Looking for signs
That is the main takeaway from this news: that there is no “key” to institutional involvement. And no matter how many of us agree that we have identified the missing piece, we will be wrong.
The narrative that institutions would get involved has been constant – the supposed trigger, however, has swung from derivative products to custody solutions to regulation (and I might be missing a few steps in there), and will no doubt pivot to something else as legal clarity continues to emerge without a corresponding price bump.
In looking for something simple to grasp and monitor, we are trying to fit the birth of a new asset class into a convenient linear progression. We are trying to fit a five-dimensional concept into a unidimensional construct – and, yes, it is as impossible as it sounds.
Identifying narratives is a necessary step, though, that enables us to separate signal from noise, and to shape investment theses and production decisions.
The narrative that institutions are interested in crypto assets is a sound one. Many are already investing in this market. Family offices and traditional hedge funds have been dipping their sizeable toes in for some time now, and we are even seeing old-school institutions such as pension funds and endowmentsstarting to take this new asset class seriously.
Where we get it wrong is in expecting institutions to wait for a specific green light. In reality, they are waiting for a matrix of signals that does not conform to our linear way of thinking.
As even a cursory glance at CoinDesk’s headlines will reveal, the shift is happening, in both subtle and obvious ways. The technology is progressing, regulators are working hard to figure out the right strategy, and investors of all types are learning and experimenting.
This progress may seem slow, but it is steadily building the base for an acceleration. Thinking that we can predict when that will happen is ambitious.
To steal a phrase from Hemingway, the involvement of institutional investors in crypto assets will happen “gradually, then suddenly.” As almost all profound changes do.
The Crypto ‘Trichotomy’
imothy Enneking is the founder and the primary principal of Digital Capital Management, LLC (DCM).
The crypto space ain’t what it used to be.
In the good old days when bitcoin was the only “cryptocurrency” around, life was much simpler. Then, a few other “currencies” came along, followed by ICOs and things rapidly got much more complex.
Somewhere along the line, folks started paying as much or more attention to the technology underlying bitcoin as to bitcoin itself. Distributed ledger technology (DLT) or the “blockchain” suddenly became household words (well, with slight exaggeration…).
In the roaring months of 2017, crypto pundits, analysts and funds developed various taxonomies of the rapidly diversifying crypto space: exchange tokens, utility tokens, payment tokens, asset-backed tokens, etc. (My personal favorite was Tetras Capital’s, but there were many.)
However, the blockchain and asset-backed tokens were still part and parcel of the crypto space. I believe that is no longer the case. In fact, I would argue that the crypto space has split into three different spaces (hence “trichotomy”) and that the term “crypto” no longer applies to all of them.
I label these three spaces “trading tokens,” “blockchain” and “asset-back tokens.” Except for the first, I realized that there’s nothing even vaguely innovative about the names. The most important takeaway is probably that the latter two (and certainly the last one) have nothing to do with what most people think of as “crypto.”
As for first, “trading token” is really a more accurate label for what most people refer to as “cryptocurrencies.”
The word “currency” was actually never really applicable to the technology. (In fact, I published an articleon this very theme in July of 2017; “token” is much more appropriate. The word token is hardly new; it’s over 2,000 years old). We often forget where “token” came from in history: amusement parks, subways and, more recently, token rings, LANs, etc.
In IT, a “token” is basically an information packet which is optimized for transfer between computers. If someone feels (hopes) that the data packet has exogenous value, that person may try to sell it.
Others may feel a given token has no such value – even in an identical sector. (So, tZERO tries to sell its near-real-time trade settlement token, but NASDAQ does not.) Hence, the ICO was born. (For more on this topic, in particular on external drivers of price formation, see an article I wrote on that subject).
Of course, whether a crypto token is traded externally or not, it still relies on the blockchain (or a blockchain) or generally similar protocol consensus algorithm. Regardless, these mechanisms all record tokens’ existence, movements and changes. However, the growing percentage of blockchain projects (the largest of which may be the IBM-Maersk effort) do not rely on trading tokens.
This means that they have not identified an independent driver of price formation (among other things) for their token, but readily acknowledge the manifold advantages of the trust and reliability of DLT (blockchain) technology.
Because of this, most DLT investments must be made in seed/VC/PE (“early stage equity”) form, not in the form of trading tokens. This change radically affects the structure of, investment in and returns from (in terms of type, timing and amount) “ICO” (now “STO” or Security Token Offerings – and even the newer IEO or Initial Exchange Offering) v. “blockchain” projects.
So radically in fact, that the DLT/blockchain space is essentially totally separate from the trading token space. It’s the second prong of our crypto “trichotomy”. (And note that “crypto” no longer even really applies to this second space.)
The third space is asset-backed tokens.
This space is quite interesting because, in reality, tokenization is simply another form of securitization which has no inherent relationship to “crypto” per se. One could have tokenized (“atomized”) ownership in this fashion at any time in
the past and done so without the blockchain. The constraints weren’t legal – and, in fact, there might have been few or no constraints other than cost – but DLT certainly makes it easier and more viable.
Now we come to the truly interesting part: scale.
It seems quite clear that trading tokens will reach an aggregate value of single-digit trillions (in US dollars). In December of 2017, the total trading token space (as measured by market capitalization) reached about 80% of that level. It will probably reach it in 2020 or thereabouts. I have my doubts that it will ever (and if so, not soon), reach 11 digits (US$10 trillion or more).
The blockchain, however, seems destined to easily reach double-digit trillions in value. If one simply looks at the value of logistics chains being put on the blockchain, one reaches well over half of that value. The provenance of virtually every asset where determining provenance is important (from diamonds and art to wine and all types of collectibles) will easily put one over the top.
Adding financial transactions to the mix blows through 11 digits quite easily. Triple-digit trillions may be possible but, again, not any time soon, if ever.
Asset-back tokens – which, as you may recall, used to be a single, rather orphaned category of cryptocurrencies (orphaned because their value was actually tied to something while the value of other ICOs and tokens seemed to limited only by human imagination and foolishness) – may actually end up being the large of the three branches, easily reaching triple-digit trillions.
Real estate alone, much of which seems to be destined for the blockchain, hits that value. If a material portion of financial assets (securities of all types) come tokenized, it’s a no-brainer to reach 12 digits. And notice that one can discuss asset-backed tokens without ever once using the word “crypto.”
The child will clearly outgrow its parent.
The one potential flaw in the analysis is the potential for double counting between the second and third categories. Title to real estate (and probably all real estate) will almost certainly be recorded on the blockchain. Much (but not all) of it may also be tokenized. If we count the value of real estate in both categories, the second will, perforce, exceed the first.
In the end, it doesn’t really matter how the taxonomy is specifically developed, the main point is the same: “crypto” has already given rise to technology and concepts that are much bigger than “cryptocurrencies” ever were and it is probably impossible to overestimate the importance that the blockchain and the tokenization of real assets will have on our world – any negative connotation which “crypto” has picked up recently be damned
SBI Holdings Latest Crypto Venture Will See It Make Mining Chips
Japanese financial services giant SBI Holdings has established a new subsidiary to manufacture cryptocurrency mining chips and systems.
The new venture, SBI Mining Chip Co. (SBIMC), is a part of SBI’s strategy on digital assets-related businesses, according to an announcement on Friday
SBIMC will be carrying out the development and manufacturing of cryptocurrency miners in partnership with an unnamed “large” semiconductor enterprise in the U.S., said SBI.
The new venture will be led by former NASA veteran Adam Traidman, who has a “high level of expertise in the field of leading-edge semiconductors and other electronics.”
Traidman has a total experience of over 20 years and has served as CEO of Chip Estimate (acquired by Cadence Design Systems, Inc. in 2008) and WearSens (Wearable device developer specialized in dietary monitoring) in the past. He also served as CEO of BRD, in which SBI Group has invested, according to the announcement.
SBI Group, through its subsidiary SBI Crypto, started a mining pool for bitcoin cash (BCH) last year, but is no longer mining the cryptocurrency.
The group first revealed its interest in the cryptocurrency industry back in 2017. At the time, the firm said it is looking to acquire cryptocurrencies directly, including through mining, as well as establishing ways of using cryptocurrencies and providing investment opportunities.
Over the years, the firm has ventured into several areas within the industry, including establishing regulated cryptocurrency exchange VCTRADE last June, and launching blockchain-based money transfer app MoneyTap in partnership with Ripple back in October.
Earlier this year, the group invested $15 million in Swiss startup Tangem, maker of a slimline hardware wallet for cryptocurrencies. It also recently formed a joint venture with blockchain consortium startup R3 to boost the adoption of R3’s Corda platform in Japan and beyond.