Crypto is no longer all about cryptocurrency. Crypto is no longer a diminutive and now stands for all the applications of blockchains controlled by cryptography. The first crypto breakthrough was bitcoin, a currency followed by Ethereum, a decentralised computer with a currency. The third wave is DeFi, which, while associated with finance (decentralized finance), is in fact the establishment of autonomous, decentralized enterprises that will prove as pivotal to the future of our economies as the explosion of joint stock companies was in the sixteenth and seventeenth centuries.
In the end everything comes down to efficiency. It doesn’t matter what you think, say or believe, efficiency of converting work into stuff is the core of economics and if a way is found to boost efficiency, then that method will eventually take over with the early adopters ascendant. The new structure of blockchain issued tokens with smart contract enabled governance is an innovation that will spur such efficiencies. Not only will they create more efficient ways of doing established things, they will facilitate exciting ways of doing new things.
Right now a revolutionary generation of financial institutions is being invented, which will generate an autonomous financial infrastructure free of the established layers of costs, bother, waste and skulduggery that plague financial services. This is, however, just the beginning, because these evolving business structures can just as usefully be applied to any business. A system where income flows to token holders and where token holders agree to and submit proposals to their enterprises in the digital domain rather than the slow, friction-plagued physical world is springing into life. These processes can work for any business and right now are the core to numerous explosively growing financial enterprises.
These innovations pioneered in DeFi are going to explode entrepreneurship for those economies that allow it and will be a huge competitive advantage for those economies happy to see their legacy processes make way for dramatic new ones. The West has tried hard to banish active corruption but it still clings onto the passive corruption of gatekeeping rentiers. Crypto can and will clear that logjam.
I chuckle now remembering Bill Gates’ Business at the Speed of Thought book. It was seminal in its way because frictionless business is how it should be in a world of light-speed technology. However, business has instead been bogged down dramatically since then, with the never-ending spread of the briars of regulating bureaucracy making business action ever more difficult to take. People who spent 20% of their time on paperwork 20 years ago are now spending almost their whole working output on it. Crypto decentralization can, and I believe will, cut this ever-tightening Gordian knot.
But what should an investor do? I keep saying they should skill up on it and I maintain that advice. DeFi and the new strands it will spawn will provide a decade and more of opportunities for investors.
The place to start genning up is with the big names in the DeFi space and I have, do and will own these names on and off and for a long time to come. The “blue crypts” (let me now lay claim to the invention of this adapted term as it doesn’t produce a Google result as of January 22, 2021)l here is a big five.
Chainlink (LINK): I don’t hold this token but it is currently the number one DeFi token by market cap. It is an Oracle and supplies values to other projects for a fee. This is how sites like Aave, which is a DeFi savings and loan, automatically knows how much a coin being borrowed or deposited is worth. Chainlink is the number one in Defi as fresh data flow is key for so many DeFi applications.
Uniswap (UNI): I love this site. It lets anyone with an Ethereum wallet trade tokens, make fee income by being a market maker that lodges liquidity to enable token swapping, and lets users create a market for any token they please and are prepared to fund the liquidity for, all without a how-de-doo. It is my go to site to buy and sell tokens.
Aave (AAVE): Aave is a site where you can lodge your tokens and get paid interest on them. As I write that’s around 10%+ APR on a stablecoin. Yes you read that correctly. Ethereum transaction fees, which can go all over the place, from $20 to $150 or more for a deposit and withdrawal the round trip, means you have to move in size, say $10,000-plus, but the yield is real.
Compound (COMP): Compound is a savings and borrowing application like Aave but with a twist in that it pays some of the yield in its own highly rated compound token. As I write I am getting 6.43% on my $1 USDc stablecoins plus another 3.6% in compound. 6.4% yield is ‘to die for’ in any event and 3.6% more yield in a token that may easily moon even more than it has, is just great. I’m no U.S. saver but looking on what you get in the U.S. on your money in the old financially repressed world, all the numbers seem to have a 0. in front of the rate.
The rates handed out by Compound and Aave are just the flipside of what they charge. You get 6.4% out of the 8.37% they are charging people to borrow. There is a good reason to borrow, if you have the collateral to cover the loan by 150%, as I mentioned in a previous article. Follow this logic and get an idea why this revolution crushes the old way of doing business.
Ethereum is $450 a coin. I want to buy more and in effect lever up my ethereum position, so I lodge $30,000 of crypto in compound and I also did something similar with Aave. I borrow $20,000 in USDc, a stable crypto, from Aave. I swap it for ethereum on Uniswap. USDc will only ever be $1 a token to repay so I swap it for ethereum because I think it will go up. I could have just as well bought a Lambo or a house.
I pay 8%, but meanwhile my collateral earns interest, which, depending on the day, almost covers the borrowing interest on the $20,000. If you put up $30,000 collateral at 6.5% and you are getting charged 9% on $20,000, you will actually be in profit. My borrowings also generate me a 4.3% yield via a further compound token payout. That’s right, they incentivized you to borrow to the tune right now of 4%+. So overall I’m paying a negative interest rate. Then Ethereum goes to $1,025 a coin. I sell them for $45,000, repay the loan of $20,000 and am now $25,000 in profit.
The likelihood of profit is why I borrowed, but there are many other reasons why I might want to borrow, which is where the interest came from. Meanwhile the value of the compound came from the spread between the savers and its tokens, which are worth a lot because they are governance tokens in a business that has attracted $5 billion in deposits.
The key takeaway is that the business model is real. So while I earn 1,000%+ more on my money than Goldman Sachs’ Marcus will offer, I also get governance tokens in a business that I am free to cash out whenever I like and if I want to hold onto, am free to partake in its future and developing benefits.
Now can you see why I’m so excited?
DAI (DAI): Finally I’m going to end with DAI, which is a stablecoin. It is a creation of Maker DAO, another blue crypt, but I mention DAI because it is a stablecoin worth a dollar with a little extra built in. Stablecoins are key to this revolution as they offer a stable value in a token that is a bridge to “fiat currency” and its global $150 trillion of liquidity and DAI has a lovely feature. It pays a 3% dividend a year. It’s cash that pays a yield. If you hold it at Coinbase and other exchanges, they will collect that yield for you and you can watch your dividends roll up before your eyes.
Three percent a year in yield is hardly earth shattering for those buried in the crypto world of mooning tokens and bitcoin $40,000 but it is paradigm shaking for the whole financial system when you think about it. In a zero-interest world, 3% yield is massive but that aside; DAI is a currency that intrinsically pays a dividend. That is a whole new idea and it has a business model behind it too, so it’s not as if new tokens are simply printed and given away, because if that was the game then the price would decline quickly from its peg, which it doesn’t. It is just a new way of creating cash, which is, if you are into economics, a kind of credit. DAI is a new form of money that only computers can create and only crypto can distribute effectively.
So there are five blue crypt tokens to get you going on your researches but this is just the tip of the giant iceberg that has calved from the frozen unexplored continent of crypto. There are dozens of projects out there and new ones appearing everyday. The good ones have a shot at being worth billions and naturally the weak ones will crash and burn.
The outcome of this new innovation will dwarf bitcoin even when and if it reaches a mythical $1,000,000 a coin.
I thought cryptocurrency was “the big one” and it is going to be huge but I was wrong. Decentralized autonomous enterprises are going to be “the big one” and that future is underway and it’s called DeFi.
Chambers won Journalist of the Year in the Business Market Commentary category in the State Street U.K. Institutional Press Awards in 2018.