#9 Ethereum competitors, institutional investors and punk owners

Layer 1 smart contract solutions are attracting attention, DeFi is trying to lure investors, VISA bought a punk.

Welcome to issue #9 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 and updated on crypto from it’s many angles. 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.

Sol, Luna, Terra, Cosmos…

You might have recently noticed some new names among the heroes of the week: Solana, Terra, Avalanche, Cosmos... Some of the best-performing assets in the rankings have not been the usual suspects. Side by side with NFTs, who still are on fire, we have seen a batch of projects with significant increases in valuation. The reasons for the recent surge in popularity of these assets go beyond each project's individual performance. What is the pattern behind it?

Solana, Terra, Cosmos, Avalanche, Polkadot, Near, etc...these projects have been labeled ETH Killers. They are Layer 1 smart contract platforms designed to improve some of the problems Ethereum brings, namely transaction speed and high fees.

Let’s go through what’s going on: we will review the basic terms (Layer what? Smart what?), a brief historical approach, our take on what is going on, and an attempt at predicting the future.

Let’s break down what "Layer 1 smart contract platforms" means.

Layer 1

In the decentralized ecosystem, a Layer-1 network refers to a blockchain, while a Layer-2 protocol is a third party integration that can be used in conjunction with a Layer-1 blockchain (Gemini).

Layer 1 and 2 are two different ways the industry is attempting to increase the throughput of blockchains. But, unfortunately, the number of transactions in Ethereum, Bitcoin, etcetera is still tiny compared to traditional financial vehicles.

Layer 1 solutions are brand new blockchains built with optimization in mind. In contrast, Layer 2 solutions are protocols built on top of prior blockchains that provide extra services to help make the chains more efficient.

Imagine the blockchain was like a concert ticket sale. A ticket sale done in a single booth, with payments were only available in cash, tickets printed on the spot and handed on paper...in other words, imagine we were in the 90s again. A long queue would form in front of the ticket booth, full of frustrated people blocking the streets.

A Layer 1 approach to solving the queue would consist of redesigning the ticket booth to make the queue move as quickly as possible: bigger spaces to attend two lines, more people in the booths, credit card payments, mobile phone wallet integrations...

A Layer 2 approach would be sending off credited salespeople to approach people in the queue to write down names and addresses of buyers and sell them IOUs that they would later exchange for actual tickets in the main ticket booth and send them through regular mail.

The projects that we’re looking at, like Solana, Terra, etc., belong to the category of "ticket booth designers.”

Smart contracts

Smart contracts are self-executing programs, written in code, appended to blockchains that launch blockchain-based operations when certain conditions are met. Thus, they are yet another step towards decentralization. Because of them, different parties can interact without knowing each other or relying on a third party since the terms and conditions of their relationship are transparently and immutably written in code, and they execute automatically.

Silly example: imagine you need a logo for the new business you want to open. If you could express the professional relationship between you and a hypothetical designer in a programmable sequence of steps, you could write a smart contract that would unlock payments along the way.

  • Step 1. The client and the designer sign a digital contract where the price for the final logo is established, and the timeline is defined. The agreed amount is locked in an intermediary wallet where neither the designer nor the client can touch it.

  • Step 2. The client provides a detailed description of the business activity, the design needs (a logo for a website, stationery...), and visual references.

  • Step 3. The designer provides 3 initial proposals in the established time, let's say one week. A 15% initial payment is automatically unlocked when the images are sent.

  • Step 4. If the client was unhappy, they could end the relationship and retrieve the remaining 85%. But if the delivery is satisfactory, they would accept the submission and unlock a further 15%.

  • Step 5. The client then picks one of the three proposals and provides detailed feedback in a checklist.

  • Step 6. The designer goes through the feedback and checks all the boxes

  • Step 7. The client approves the changes that were satisfactorily made and requests further changes in some others within the approved timeframe or cancels the work and parts ways. If she decides to go ahead, another 20% is unlocked, and now half of the payment is made.

  • Step 8. The designer provides a final set of changes. If the happy customer approves it by clicking a button, the rest of the payment is finalized.

The example is a tad silly because the design can be subjective and tricky. The human factor is very prevalent in the design process. This hypothesis leaves too much room for either the designer or the client to behave mischievously. But you get the point, don’t you? A logo design is not a process that can easily be broken down into steps a machine could verify. But a token exchange or a loan can be, as long as there is a tamper-proof pseudonymous ecosystem around it. And that is how DeFi was born.

Smart contract platforms: a little bit of history

Bitcoin came up with a way to transact value digitally between unknown parties. It invented programmable money, although the protocol deliberately gave it limited features to minimize issues. Ethereum took the road of programmable money and took it to the limit, giving developers maximum freedom.

Ethereum was the first generation of smart contract platforms, and then came the rest.

Soon, some other projects popped up, attempting to contest Ethereum's leadership. EOS or Tezos are two examples of the second generation of smart contract platforms. EOS raised $4BN in 2018, during the ICO craze, from investors eager to bet on the chance of beating the incumbent. Tezos was born with a Proof of Stake mining protocol that made it more energy-efficient than Ethereum. But time has gone by, and neither has been able to make a dent on Ethereums authority. EOS’ dollars were not good enough at building the culture, community, and momentum that powers Ethereum. Tezos failed, too, although nowadays, their value proposition fits better than before, as they provide a greener alternative for NFT minting and DeFi. In any case, the hottest thing in crypto at the time was ICOs, a bubble that burst soon and that didn´t necessarily require more than what Ethereum was able to provide.

Fast forward to 2020 and 2021. DeFi and NFTs are becoming industries on their own, growing in numbers, community, and headlines, consuming resources. Ethereum's flaws make it to the surface, especially when the bulls run. Axie had to build its own blockchain to run away from Ethereum's prohibitive transaction fees, and once they did, business boomed. The new value proposition from Layer 1 smart contract projects is not just measured in technical improvement: it’s measured in money, time, user experience. The third generation of smart contract platforms has made it to the center of the stage.

Solana claims to handle 65,000 transactions per second (TPS), while Bitcoin can only do 7 and Ethereum 30, and transaction fees in their blockchain are proportionately smaller. DeFi on Terra is booming thanks to their stablecoin, UST, and the DeFi projects built around it (Mirror Finance, Anchor). Avalanche recently launched a $180 million liquidity mining incentive program, and Near protocol has seen its price boost after integrating Filecoin... Every project is earning bragging rights as they deliver innovations.

What is happening?

This is 2021. Investors are increasingly savvy and increasingly hungry. Ethereum's issues are notorious, and there are reasons to believe in these Layer 1 smart contract alternatives beyond just jumping on the bandwagon. The technology is there, and the timing is much better than in 2017-2018. The virtuous cycle of projects, funds, and talent is spinning, pushing the performance of the underlying assets (SOL, LUNA, DOT...) upwards. Every new announcement made by any of these third-generation smart contract platforms attracts investors looking for the next best thing. The trend is even affecting second-generation assets, like Cardano's ADA, which still hasn't deployed actual smart contracts (ok, maybe some investors are not that savvy).

What to expect from the future?

The "ETH killer" narrative is probably another example of this sensationalist, maximalist speech some people in crypto are so fond of. While it is true that Ethereum's moats are smaller now, the project is still in excellent shape. And Ethereum might be bringing very promising improvements soon with Ethereum 2. Such a combination of technology, community, culture, exciting projects, and platforms improvements is a unique achievement. Then add history to the mix - because Ethereum has also survived and learned from successive crises, from technological to reputational- and you have an extremely solid incumbent.

Furthermore, another characteristic of these layer 1 smart contract solutions is interoperability. They are constantly building bridges that connect the different Lego pieces of the crypto economy in ways that will benefit end-users and improve the experience.

Crypto is still just a speck in the global finance ecosystem. There will be room for many actors as long as the whole industry keeps growing. And as things evolve, more specialization will be needed. Ethereum's security, Solana's speed, Cosmos' interoperability, their respective communities of developers and users, and their cultural backbones will, hopefully, all play an important role in making the benefits of crypto go mainstream.

⬡ 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. Corporate finance | Crypto in the balance sheet

Coinbase announced the purchase of $500M worth of crypto assets for its treasury and its commitment to using 10% of all profit (and likely a bigger percentage in the future) to continue buying in the future. At the time of the announcement, with their Q2 report warm in our hands, that 10% would mean an additional $160M on this quarter alone. The asset mix for that investment has not been disclosed, but the official blog post mentioned BTC, ETH, and DeFi tokens.

Crypto assets in balance sheets are still anecdotal from a global perspective. Coinbase's decision is one more in the list of baby steps of corporate adoption of crypto assets. There are just a few big public names: Microstrategy, which recently increased its BTC holdings by $177M, reaching $5.3B in bitcoin in its current valuation. Or Tesla, who broke the market back in April when it made its stellar purchase of $1.5B. But besides them, most are smaller native crypto companies.

Asset managers, on the other hand, are bigger bitcoin holders among institutional investors. Grayscale alone represents more than 3% of the Bitcoin supply, managing 654,600 BTC (worth $32 billion). A study by Buy Bitcoin Worldwide breaks down the institutional crypto investment.


The storyline of crypto corporate investment is probably just kicking off. If/when other companies start adopting crypto assets in their balance sheets, the upside can/will be huge. Coinbase is the first crypto native company that has made it to Wall Street, but what will happen if/when the next in line, like Circle or Gemini, do the same? And on the asset manager front, Grayscale and company are successful outliers: others may/will follow. Tesla is the first big name to invest in crypto. What can happen to BTC if/when other companies from the Fortune 500 list join them.

The institutional onboarding of companies like Microstrategy, Tesla, or Grayscale in late 2020, early 2021 had a powerful psychological effect. They opened the door for all investors eager to get in but too scared to be the first to break the ice.

2. Regulation | Decentralization as a weapon

Quick refresher: in the last days of July, Biden’s administration picked a fight with crypto. The government introduced a $2 trillion bill aimed at renewing American infrastructures, physical and digital. And in the additional provisions where legislators define where they expect to obtain the money to fund it, they pointed at crypto.

The problem was not the what but the how. The industry responded swiftly and consistently: we are ok with paying taxes, but your bill makes no sense, places excessive responsibility on the wrong people, and can kill innovation in the USA. Regulation wanted to impose fiscal reporting obligations on "brokers.” And the definition of a broker was too shallow and did not reflect the complex landscape of roles in the space. Are developers brokers? Are miners, exchanges, developers, DeFi users...brokers?. We’ll end the refresher here because this could go on forever, and there are dozens of excellent summaries (including our own).

A few weeks have gone by, and some things look clearer from a distance. Behind the apparent mess and inconsistency, there seems to be a clear intention emerging from the behavior of regulators. The Treasury Department, who was pulling strings all along, had a clear goal in mind: seize DeFi. Senator Elizabeth Warren had actively lobbied Treasury Secretary Janet Yellen.

In a letter to Treasury Secretary Janet Yellen, Warren highlighted the risks of stablecoins and DeFi: “DeFi refers to a fast-growing and highly opaque corner of the cryptocurrency market which allows users to engage in a variety of financial activities – including lending, borrowing, and trading derivatives to take on leverage – without an intermediary like a bank. Given that participants and project developers may remain anonymous, DeFi could present particularly severe financial stability risks.” Crypto Laws, Lobbying & Activism: The Time Has Come For DeFi to Get Serious About D.C

And the behavior seems consistent with other declarations from government officials: Gary Gensler, SEC chairman, has also spoken overtly about the need to regulate DeFi.

It makes sense. These are hard times to be a regulator. Decentralization must look scary to them. Yet, the same process that eliminates the need for trust between parties blurs lines and dilutes responsibility. How do you arrest a protocol? How do you ban a borderless, disembodied project made of lines of code? How do you chase a remote team with bank accounts and teams that cross frontiers as easily as the wind? And while you fail to regulate, a whole financial system is being built without your supervision (or interference).

3. Gaming | Play-to-earn

Getting paid for playing video games has been every kid's dream since 1990 and an actual thing for a lucky few YouTubers and streamers in the last decade. Today, gaming is a real income source for thousands of people, especially in Southeastern Asia and South America, thanks mainly to Axie Infinity.

The gaming business has done nothing but grow in the last decades, devouring larger and larger chunks of people's attention and leisure time and challenging more traditional sectors like movies or sports. Gaming business models have evolved too at high speed, from buying the actual physical games to everything that can happen in Steam to all kinds of in-game purchases. And then there's that grey area where gaming meets gambling (i.e., loot boxes) or where people build a black market of in-game assets.

Crypto economy is providing the infrastructure that allows all of these activities and business models to play out in the same place, in a frictionless, usable way. And it has added a secret ingredient: wealth distribution. Users can now earn tokens inside a game and, without leaving the ecosystem, convert them into money they can spend. Play-to-earn is a reality. Probably not the rosy dream people first think of when they hear the expression (the one where you just get free money for having fun), but certainly a great evolutionary step in the progress of the metaverse.

"Right now, there is a largely untapped economic opportunity in emerging markets to provide jobs by building a virtual economy in the digital world,” says Andreessen Horowitz in the blog post where they announced their $4.6M investment in Yield Guild Games. Calling the opportunities surrounding play-to-earn a virtual economy is not far-fetched. Gaming companies that want to tap into the new wave need to learn how to succeed as fintech companies, social networks, consumer platforms, as well as game developers.

4. KYC | Binance

Binance recently incorporated KYC requirements for all users of its platform. KYC stands for Know Your Customer and is a process of identity verification that regulators demand from many service providers, especially in the financial sector, to prevent crimes like money laundering. Binance had historically stayed in character as an outsider to the system and eluded KYC, at least partially. But in recent times, regulatory pressure motivated some internal policy changes. For example, until a few months ago, users could withdraw up to 2BTC (~$80,000) without providing any personal identification. The amount was reduced to 0.06 Bitcoin (BTC) per day in late July, worth roughly $2,400 when Binance established the threshold. Today that amount has gone all the way down to zero, and users will have to provide valid identification if they want to operate on the platform at all.

Binance has been a never-ending source of news in the last months. Countries take turns to ban some of their activities, bank after bank lay barriers to prevent their users from purchasing crypto; high executives walk in and out of the company attempting to take the wheel in the current regulatory turmoil. Founder Changpeng Zhao has clearly expressed his intention to cooperate with the authorities and turn Binance into a fully respectable, compliant platform, but many doubt that they will be able to meet the regulator’s requirements. Binance's changes are writing the roadmap of the current requirements from regulators to centralized exchanges.

5. NFTs | VISA buys a CryptoPunk

CryptoPunks are the most well-known and valued NFTs. The latest notorious purchase of one of them didn’t come from an anonymous hoarder, a celebrity like JayZ, Gary Vee, or other famous people with a consonant instead of a surname. Instead, it was a company, and none other than VISA.

A credit card company acquired a pixeled jpg for $150,000. Why?

"First and foremost, we wanted to learn,” says Cuy Sheffield, VISA’s in-house crypto expert, in the blog post where VISA explains the move.

Enabling secure commerce is what we do — we’re the network working for everyone — and that extends to new forms of digital commerce that unlock access. So, it’s not surprising that we’re thinking deeply about this space and how we can apply our expertise in enabling seamless and secure digital payments to make NFT-commerce accessible and useable for buyers and sellers. (...) Looking ahead, we’re working on some new concepts and partnerships that support NFT buyers, sellers, and creators. We look forward to sharing more in the months ahead.

It’s fun to think that VISA had to buy ETH to purchase their punk.

Following the sale, punks had a busy day. 90 punks were sold in just an hour. VISA's purchase might be a historic moment for the company, but it also sends a powerful signal about the punks themselves. They are probably becoming the safest possible investment in this corner of digital art because they are writing NFT history.

6. DeFi | Aave or Metamask for institutional investors

With Bitcoin still far from being a household name in corporate treasuries and fund portfolios, another train is already leaving the station. The Q2 Market Observations report by the custody company Genesis points out that from late 2020 to the end of Q2, 2021, Bitcoin’s dominance in market cap has declined from over 70% to under 45%, with ETH and DeFi tokens more than doubling their price.

Traditional financial institutions that adopt the DeFi train earlier will most likely enjoy the first-mover advantage we saw with those who embraced Bitcoin during its earliest years. The future of finance is DeFi, and institutional investors must not miss the train twice in less than two decades. Why institutional investors cannot afford to ignore DeFi

DeFi allows early adopters to obtain returns on their capital that outperform traditional finance's yields through decentralized protocols and platforms such as Uniswap, Aave, or Compound, and products and services like loans, liquidity mining, or staking.

Aave recently announced the up-and-coming launch of Aave Arc. their gateway DeFi service branch for institutional investors. Aave is an open-source and non-custodial protocol to earn interest on deposits and borrow assets. Metamask, the crypto wallet with more than 5M monthly active users, heavily promotes its Metamask Institutional solution. Dozens of companies are warming up on the sidelines, waiting for institutional investors to be ready.

If you enjoyed this issue, don’t forget to share. Carbono Insights is also available in Spanish. Share your thoughts and comments with Carbono at team@carbono.com, or through Twitter: @carbono_com, @raulmarcosl and @mrubio.