#7 A summary of Q2, the guy from Tesla, the guy from Twitter and Uniswap
Elon Musk, Jack Dorsey, Uniswap and Circle are all featured twice in this issue, where there's also room for traditional finance (JPMorgan) and tech.
Welcome to issue #7 of Carbono Insights. We are Carbono, and advisory firm specialized in cryptocurrency, and managers of the fund Abacus Carbono. With Carbono Insights we wish to help people get acquainted or up to date with crypto and its many possible approaches.
We would love to hear your comments. Write us at team@carbono.com or find us on Twitter: we are @carbono_com, @raulmarcosl and @mrubio
In the last months, there has been a debate about whether crypto was going through a hiccup in the bull market or we were actually entering bearish times. The following text is an adaptation of our Quarterly Report we sent to Abacus Carbono's investors with our take on what has been going on in the last quarter, edited with updated new information.
TL;DR: we believe psychology has been playing a major role. Chinese ban on crypto mining and trading caused a wave of FUD and short-term selling pressure (from miners, weak hands, speculators...) that indeed shook the system. But on-chain analysis, financial fundamentals, and the corporate and entrepreneurial landscape showed signals of a solid and growing industry. So far, it looks like we are going through the weeks where the price starts to dance in tune with the fundamentals.
During the second quarter of 2021, the crypto markets went from continuing the euphoric bull run initiated in early 2021, to a state of uncertain sideways movement, to what looks like a return to bullish behavior. Bitcoin and Ethereum reached their all-time highs in April and May, respectively, and then lost over 45% of their valuation, with bitcoin even dropping below the psychological threshold of $30,000 on the week of July 19th. Finally, Sunday 25th brought a much-awaited increase that started validating the bullish hypothesis.
It is hard to call a bear or a bull market in a market as new and as volatile as crypto. Traditional definitions don't apply, and there are no similar assets to compare them with. So when it comes to putting a nametag on the trends, it all boils down to opinions, conjectures, comparisons with past behaviors, and estimations.
During the previous quarter, we witnessed some unseen events in the crypto space. Crypto is reaching new levels of mainstream attention, institutional investment, regulation, and public scrutiny. So it is no surprise that each step forward is met with new challenges.
What happened this past quarter that made things so uncertain?
The tipping point happened when Elon Musk backed down from his decision of taking bitcoin as payment for Tesla in mid-May, claiming environmental concerns. It was the first blow to the industry after Tesla's position on bitcoin -including the purchase of $1.5B for its treasury- had led to an unprecedented level of trust from corporate and institutional investors.
Then regulatory movements from the Chinese government kept the downwards pressure on crypto. Also, in May, the Chinese government called for a severe crackdown on bitcoin mining and trading. The Chinese position set off what has been dubbed "the great mining migration," an exodus of Chinese miners who held more than 50% of Bitcoin's mining power. Following the doubts injected in the markets by Musk's declarations, the technological distress pushed crypto further down.
At the same time, some regulatory pressure came from the US and the EU, which increased their scrutiny on the market. Balanced, reasonable regulation is likely to bring more trust in the system, but the timing of the intervention from regulators had a deterrent effect on investors more than the opposite.
The selling pressure and the cascading liquidations of overleveraged traders, affected by the general emotional state of the market, seemed to explain the downward curve that ensued.
In the meantime, on-chain metrics and financial fundamentals showed signs that contradicted this trend. Structurally we were in the middle of a bull market. User growth in the Bitcoin network was in a parabolic climb that was not reflected by price, as it has always been in the past. Dormancy (the age of coins transacting between investors) signaled that coins were moving from speculators to long term investors, more prone to holding on to their investments, and therefore stopping the price drop; and exchange flows (the movement of crypto between exchanges and cold wallets, indicating the intention of investors to trade or hold) were also showing a bullish behavior.
Beyond on-chain metrics, there were also abundant indicators of good health. Capital investment in crypto ventures showed a positive trend, with investments ramping up to over $17 billion this year (according to Bloomberg). The upcoming IPO from Circle's IPO (the company behind the stablecoin USDC) and the recent investment rounds of the exchange FTX, with an $18B valuation, or the NFT marketplace Open Sea, which reached unicorn status, were relevant examples of optimism and long term trust from startup investors. On June 24th, Andreessen Horowitz, a leading Silicon Valley VC, announced a $2,2B crypto fund. Venture capital was certainly bullish.
Some technological advances in the roadmaps of Bitcoin and Ethereum were also showing favorable signs. EIP 1559, Ethereum's change in fee structure, finally had a launch date -August 4th-and promised potentially deflationary features to ETH. And the greater transparency and efficiency provided by Bitcoin's implementation of Taproot, the first upgrade in four years, was also expected to bring further innovation into the space.
DeFi, stablecoins, and NFTs kept growing regardless of the price variations. Axie became crypto-gaming's first huge success story. DeFi was showing great numbers, even though they were also affected by the price drops. Decentralized exchanges have experienced a 117x increase year-over-year and an 83% increase since Q1. Around $60B are locked in DeFi protocols after getting close to $90B in May.
Where are we now
Crypto is so hectic the above analysis already looks old. Prices have gone up again. The times of hesitation from the last months seem to have vanished away in a matter of days, even overcoming significant setbacks, like the regulatory pressure on Binance. We had spent weeks looking at charts, wondering why things were not moving in the direction the data pointed. Now we're looking at the same charts asking where this ride will take us.
Nevertheless, we must not forget that, besides price, things have not fundamentally changed in the last weeks. On the contrary, the foundations of crypto keep getting stronger. The increasing pressure from regulators is probably the most uncertain news. We desire the best possible regulation, but we also understand reaching sensible regulation is a long and likely bumpy journey. In all other aspects, the news is generally positive. The entrepreneurial landscape attracts increasing amounts of capital and talent; users are entering the space in growing numbers. Plus, we believe the great Chinese exodus is great news for power distribution and sustainability in the long term.
⬡ Six Angles
We select six topics to illustrate the very different angles crypto can be approached from. We could choose dozens, but six is the atomic number of carbon… and otherwise we'd be writing for ages.
1. DeFi | Uniswap delists tokenized securities
Uniswap Labs recently announced that some tokens would cease to be available for trade on their website. The measure was explained by the company as a voluntary reaction to the "evolving regulatory landscape" after the warning from the SEC chairman, who claimed stock tokens need to be supervised by the authorities.
Stock tokens, or tokenized stocks, are blockchain-based copies of Wall Street stocks. These assets have been at the center of the recent worldwide chase scene against Binance, which ended up with the exchange ceasing to offer them too.
The decision from Uniswap Labs disappointed DeFi fans. The unilateral decision to withdraw certain tokens from the website is perceived as proof that DeFi is not as "De" as many expected, as long as one central authority has this amount of power. The community reacted with impotence and anger, pointing out that a token-based governance system supposedly binds Uniswap.
But, as many have pointed out, Uniswap Labs and Uniswap are not the same thing.
Uniswap Labs is indeed a centralized company, with owners, employees, and salaries. They are in charge of maintaining the frontend for Uniswap, but not the smart contract Decentralized Finance protocol. And that frontend is where the tokenized stock is no longer available. "The protocol did not delist anything." Uniswap's press release repeats that argument over and over. Users can still trade tokenized securities if they interact directly with smart contracts, or through other frontends or aggregators, like Matcha or 1inch.
Nevertheless, the decision leaves many questions in the air. Decentralization and regulation still need to find the right balance.
2. Legacy finance | JPMorgan opens crypto to their investors
JPMorgan's $630B wealth management division is now open to crypto trading. In an ironic twist of events, the bank, led by Jamie Dimon, one of the most vocal bitcoin critics, is also one of the first major US banks to allow its traders to invest in digital assets.
Here is the timeline of a selection of Jamie Dimon's public statements.
To be fair, Dimon has admitted this was his personal opinion. This is a quote from his latest declarations in May.
My own personal advice is to people to stay away from it. That does not mean the clients don't want it. This goes back to how you run a business. I don't smoke marihuana, but if you make it nationally legal, I'm not going to stop people from banking it. I don't tell people how to spend their money.
But they are definitely miles away from what he said in September 2017 about what he would do if he found out JPMorgan traders were working with bitcoin:
"I'd fire them in a second. For two reasons: It's against our rules, and they're stupid. And both are dangerous."
JPMorgan's acceptance is quite a milestone but comes with some caveats:
The bank only authorizes advisors to process orders if they come from clients, but it doesn't allow them to present their own crypto-based funds
JPMorgan customers can get indirect exposure. They won't be able to purchase crypto, but instead, they can invest in four Grayscale investment products and one from Osprey.
Nevertheless, the fact that one of the most important banks in the world is taking more and more baby steps towards increasing the exposure of traditional investors to crypto is undeniable good news.
3. Technology | Layer 2 kicks off
Uniswap recently completed the launch of their latest version, V3, on the Optimism network. Born in 2018 and with over $5B locked in assets, Uniswap is currently the leading platform in DeFi. The beginning of the operations on Optimism can be considered the inauguration of the advent of Layer 2.
Layer 2, the general concept, is the compendium of solutions developed to relieve Ethereum's main chain. The congestion generated by the increasing use of the Ethereum blockchain has led to increased waiting times and fees that have raised some concerns. A slow, expensive network is not the revolution of finance we expected.
Optimism (AKA Optmistic Ethereum, or OΞ) puts all transaction data on-chain but runs computation off-chain.
Optimism gives near-instant transactions for a low cost. Instead of paying $20 for trades on Uniswap, you pay <$1. Instead of waiting 2-3 minutes for transactions to confirm on-chain…you don’t have to wait at all. A Guide to Uniswap on Optimism - Bankless
4. Elon | The ₿ Word
The Crypto Council for Innovation recently gathered Jack Dorsey and Elon Musk under the same virtual roof to discuss Bitcoin. The organization, which comprises Coinbase, Fidelity Digital Assets, Paradigm, and Square, among other crypto companies, aims to deliver the message of transformational finance, and The ₿ Word is one of its main weapons. Jack Dorsey, Twitter and Square founder and Bitcoin evangelist, invited Musk over weeks ago through Twitter to speak about their differences in opinion.
The event, which also included Ark Invest's Cathie Wood, was a Zoom conversation that left us with not many new insights but an aftertaste of reconciliation and optimism. During the talk, Musk opened the door to the possibility of Tesla going back to accepting Bitcoin as payment. One of the side effects of the Chinese miner exodus is a new and potentially cleaner energy mix.
“I want to do a little more due diligence to confirm that the percentage of renewable energy usage is most likely at or above 50% and that there is a trend toward increasing that number. If so, Tesla will most likely resume accepting bitcoin.”. Elon Musk
He also revealed that Space X, and not only Tesla, owns Bitcoin. And that he himself owns "a bit of Ethereum and Doge as well." Who knows what "a bit" means for one of the richest men in the world.
5. Dorsey wants to create Bitcoin DeFi
The main difference between Bitcoin and Ethereum lies in smart contracts. While Bitcoin was conceived as a digital currency, Ethereum is a platform meant to be the infrastructure for any initiative that wants to run on a blockchain. We expressed it in these terms in a former newsletter when explaining ETH and BTC and the difference between the tokens and their blockchains:
Let's try a metaphor: if Bitcoin with a capital B is the railroad where bitcoin runs like a train, Ethereum would be some sort of railroad company. A weird kind of railroad company that owns a railway network, runs trains, and allows anybody to put their own trains on them and create a business out of it. Any entrepreneur can create their own initiative and make it run on Ethereum, and Ethereum will charge for maintaining the network in Ether.
Well, it looks like Jack Dorsey wants to make Bitcoin more Ethereum-ish.
Check out the name TBD because it will be relevant in a few lines.
Dorsey, Twitter, and Square messianic-looking founder is a Bitcoin evangelist and also a maximalist. He has repeatedly claimed that bitcoin should ultimately become the native currency of the internet and has positioned his payments company, Square, to be at the front and center of this goal.
In a recent tweet, Dorsey announced the joint venture by Square, Seller, Cash App, and Tidal to develop an open-source infrastructure to allow decentralized finance services on Bitcoin, which is what Ethereum does. According to DeFi Prime, 80% of DeFi projects run on Ethereum smart contracts.
Although Bitcoin's technology allows for executing programs similar to Ethereum's smart contracts, the development is much harder in practice, plus Bitcoin lacks the tools and development community who can solve this.
Jack seems to be quite serious about it. In the recent The B Word event, his title showed TBD. While many understood this was a mishap by the organization, it wasn't. So is TBD now bigger than Square and Twitter in Jack's heart?
6. Concept | Stablecoins 101
You might have heard that there was a Working Group on Financial Markets in the US, comprised of the most relevant financial institutions, meeting to discuss “the rapid growth of stablecoins, potential uses of stablecoins as a means of payment, and potential risks to end-users, the financial system, and national security.”
You might have heard that Circle is the next company to make it to Wall Street, following Coinbase's steps, and that Circle's main asset is the management of the stablecoin, USDC.
You might have heard that Tether, the company behind the number one stablecoin in market cap, USDT, might be facing an update in an old criminal prosecution case for bank fraud (Tether disputes the claims, BTW)
You might have heard that there's already more than $100B circulating in stablecoins, which is already quite a significant value, even in traditional finance standards.
You might have heard stablecoins as one of crypto's most interesting inventions, together with DeFi or NFTs. We will soon be covering stablecoins in-depth in a future issue of Carbono Insights, but for the moment, here's a small Stablecoins 101 that will hopefully help you navigate that information easily.
Stablecoins are bound to become one of crypto's Trojan horses. They were designed to address volatility, probably the number one concern about crypto expressed by regular users. A stablecoin is a type of cryptocurrency whose value is tied to an outside asset, i.e., the US dollar, and therefore has a price that remains -you guessed it- stable. This makes them ideal for taking advantage of crypto's virtues, such as transaction costs and speed, while avoiding its flaws, such as price unpredictability.
Governments around the world are looking at stablecoins with mixed feelings. On the one hand, they are the inspiration for central bank-issued digital currencies. But on the other, they are one major threat to financial centralization and control.
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