The Tezos Experiment

Examining fiduciary responsibility, token holder activism, and the balance of power in self-amending protocols

While much of the crypto community has been skeptical of Tezos, the betanet launched smoothly without much fanfare on Saturday, June 30th. For all of the project supports who participated in the fundraiser, this meant that they now have access to the tezzies issued to them by the Foundation — pending the completion of a short KYC/AML processs. I’ve been excited about the Tezos project for some time now — partly because I am fortunate to count Kathleen and Arthur Breitman as friends and intellectual sparring partners — but mostly because I believe Tezos is an important experiment in on-chain governance. While Tezos has many unique features that make is separate and distinct from other projects in the space, the one that’s least appreciated is its governance mechanism and approach to change.

I’ve been asking myself a lot of questions about the role of financial speculators, i.e. investors, in the crypto ecosystem. Unlike passively holding bitcoin and participating in its price appreciation, Tezos is unique in that it requires users to participate in consensus, or risk having their tezzies lose value due to inflation of the network. This creates lots of fun agency questions about how networks like Tezos, their governance, and their function may evolve over time.

In order to dive into the importance of participation in consensus via delegation, let’s first understand the topology of the Tezos network.

The Tezos Genesis Block issued roughly 608M XTZ, or tezzies, to roughly 32,000 accounts. Plotting both the number of accounts and the value contained by these accounts gives us some interesting context. The number of participants in the fundraiser is remarkable — it is rare to see a project attract such diverse participation. We see that plotted as a histogram, the number of tokens per account takes on a fairly normal distribution. As expected, the value per account takes an entirely different shape. 50% of the value in the Tezos network, at genesis, was held by 156 accounts, or less than half a percent of the population. 90% of the value was held by about 6,000 accounts, or 20% of the population.

Source: Analysis of Tezos Genesis Block

Some protocols use the Gini co-efficient to analyze “wealth distribution” in protocols. It’s an imperfect measure, but an interesting one. Looking at Tezos in the context of other projects, and some countries — just for fun — we see it ranks on the higher end for “wealth” inequality. Note that there are many, many projects who have a Gini co-efficient of .9 or higher, so this isn’t necessarily a criticism of the project. However, it is important to note that anytime a project exchanges money for “stakeholder” rights, we see these imbalances emerge. We are actively working to gather more data on how asset distribution in protocols evolves over time, as value appreciates and as value depreciates (for example, for ICOs that trade at -50%+ of ICO price)

Source: For countries, NBER, as referenced in this Wikipedia post. For Bitcoin and Ethereum, this post by Balaji S. Srinivasan referncing “Owner” distribution, for 0x, this post by Will Warren, for Tezos, proprietary analysis.

You might be saying, why is Meltem talking to me about genesis blocks and Gini co-efficients? Here’s why it matters — in proof of stake — you participate in consensus with your economic power, aka your tokens. In the Tezos model, you can participate in consensus if you have 10,000 tezzies or more, which is called a roll. You can read more about baking here, direct from ArthurB, one of the project’s founders. For those who want to keep this simple, here’s a brief dictionary of terms put together by the Tezzigator team that will be helpful:

  • Holder — any owner of Tezos tokens, lovingly nicknamed Tezzies
  • Delegate — any Tezos identity or account that is configured to participate in network consensus, typically someone who is technically inclined to manage a Tezos node, maintain security/software patches, updates, and willing to post up a security deposit (see bond below)
  • Delegation — an operation on the Tezos protocol itself. Holders will always retain ownership rights of their tokens when delegating. Holders will not be required to send tokens. Delegation is a separate function in most Tezos wallets, like Tezori and TezBox, and after holders complete delegation, the tokens will still be in their wallet.
  • Baking — Bitcoin has mining, Tezos has baking. Bakers obtain the right to create blocks when a Tezos token (or rather a roll, see below) they own (or that is delegated to them) is randomly selected to create a block.
  • Roll — the unit of account required to bake, or 10,000 Tezos. Holders who own less than a roll should strongly consider delegating.
  • Bond — a security deposit a delegate must put up to be held temporarily to ensure the delegate signs blocks and endorsements correctly. Currently, bonds are held by the protocol with the rewards for an additional five cycles after the current cycle ends.

Hopefully these terms provide a helpful frame of reference for the next part of this discussion. If not, please leave comments on how I can improve the language here. Syntax and language is a massive barrier to communicating effectively both within and outside the crypto ecosystem.

Let’s go back to how Tezos was first created. In the Tezos protocol, there are up to 10 billion Tezzies that can exist. The Tezos genesis block generated roughly 700M tezzies, and the remaining 9.3 billion will be released over time as inflation. Holders who participate in consensus by baking or delegating to a baker who participates in consensus on their behalf will participate in this inflation. Currently, inflation is expected to be 5% per year.

In the Tezos genesis block, 25,518 accounts, or nearly 80% of initial Tezos holders, don’t have enough Tezzies to participate in baking. For the 80% of Tezzies holders that can’t bake on their own, due to lack of a “roll”, the only choice is to delegate their stake to a baker. There are many delegation services that have sprung up, and I decided to team up with Tezzigator — here’s the post on what we do and why. You can see a list of other bakers here.

As of Friday, July 20, at 1 pm EST, here’s how many Tezos holders have delegated, by distribution bin.

Source: Data extracted from at 1 pm EST on Friday, July 20 2018, data from Tezos Genesis block

What this chart attempts to show, albeit imperfectly, is only about 1/3 of all Tezzies “issued” in the genesis block have been delegated. Of the 600 million XTZ issued to token holders in the genesis block, 220 million has been delegated, and we believe about 100 million of those tokens belong to the Foundation. That means only 120 of 600 million tokens issued to the community have been delegated, or closed to 20%.

Source: Data extracted from at 1 pm EST on Friday, July 20 2018, data from Tezos Genesis block

If we move from a raw count of tezzies to a % of total owned tezzies delegated, what we see by bin is that larger holders of tokens are more likely to have already delegated their tokens. Larger holders of tokens are likely institutions or active investors who are very vested in the outcome of the Tezos experiment. If we had more granular data, we would want to also map who is delegating v baking, or who is passively v actively participating in consensus and, by virtue of design, governance.

As more holders take ownership of their tokens and learn about the unique design of consensus in the Tezos protocol, I expect that the % of Tezos actively delegated will inch closer to 2/3 or higher, but likely won’t hit above 90% given user error and sheer laziness. A lot of questions still remain about exchange wallets, wallet services, and other crypto financial service providers who may help holders manage their Tezos. Part of the fun on this experiment will be learning how delegated proof of stake protocols actually operate “in the wild” and how users respond to different forms of “delegation.”

What’s exciting about Tezos as a protocol is that as we learn more from actually usage of the protocol and from behavior of Tezos holders, the community can propose changes to the protocol itself to resolve problems or issues (or to create favorable changes for one group of stakeholders, perhaps).

Let’s talk about why this matters.

The concept of fiduciary responsibility is one that is still nascent and emerging as applied to the cryptoasset ecosystem. A fiduciary is any person who has the legal responsibility for managing somebody else’s money. These people or firms have been placed in a position of trust, and there may be consequences for betrayal of that trust.

Fiduciary responsibility in not just about the investment process. It’s also about what happens after investing. Typically, people who own shares or equity in a company participate in corporate governance by voting on board resolutions. Now, many companies have thousands of shareholders and some of them may not be able to or have the desire to attend shareholder meetings and vote on issues. Shareholders can designate a proxy, such as a member of the company’s management team, to vote in line with the shareholder’s directions as written on the proxy card. This is called a proxy vote.

According to an SEC rule established in 2003, money managers should view corporate proxy votes as a fiduciary duty. If we consider “delegations” in Tezos to be a close analog to proxy voting, we start to see interesting parallels emerge. While owning Tezzies is certainly not like owning shares in a company, what’s unique about Tezos is that owning XTZ does entitle a holder to participate in governance of the protocol. Effectively, XTZ holders who delegate their stake to a baker are selecting a proxy to “vote” on their behalf.

The Tezos project is still in its infancy. The network has been up and running for seven “voting” cycles, and things appear to be working smoothly in this beta test phase. Over time, the Tezos network will become more and more robust and as fundraiser tokens are claimed and moved to delegation services, and I expect we’ll also see an evolution in how delegates choose bakers to represent them and their interests through voting on protocol changes.

Here are some hypothesis on how people might balance technical, financial, and political parameters when choosing bakers today v tomorrow:

Source: My weird mind + conversations with Tezzigator — Bo Byrd and K S Srinivas

If we’re going to talk about voting in traditional firms with equity owners, we need to also talk about shareholders who become unhappy with management. Shareholder activism is a concept that has long fascinated me. From one great primer on the topic:

Activist investors are individuals or groups that purchase large amounts of shares in a public company in order to make a major impacts on and changes to the company. Many activist investors will also try to get a seat on the company’s board in order to achieve that goal [added: by participating in governance which happens at the board level]. Typically, these investors target companies they believe to be mismanaged or ones that could be run more profitably. The goal is to fix the underlying issue to increase the company’s value and profit from the rise in its share price.

Carl Icahn has made a career of being an activist shareholder. If you haven’t heard of the legendary investor, you should listen to this short NPR podcast. Executives fear him. Shareholders love him. He has billions of dollars of capital that he uses to buy his way into a company’s governance structure, and very specific ideas about how to make his equity more valuable. Notably, he forced eBay to spin off PayPal — netting him and shareholders billions in value. He’s been pressing Apple’s board to return more of Apple’s giant $285 BILLION dollar cash pile to shareholders. (YES. Apple’s spare CASH on hand is worth more than the entire crypto market).

Let’s think about token holder activism in crypto asset networks. Crypto firm treasuries may not have Apple sized hoards of cash, but they do have a lot of “assets” on the balance sheet, both liquid crypto and cash, and illiquid token supplies. Fortunately for most projects, token holders have no right to participating in governance at any level of the project, aside from investors being on the Foundation or on the board of the company. However — Tezos is a perfect protocol to test ideas around token holder activism.

In a protocol like Tezos, which has a self-amending ledger where token holders can put forth proposals to change the rules and “vote” on those matters, token holders can actually be actively involved in governance. Think about the implications. Let’s re-write the activist investing paragraph from above in the context of a token holder:

Activist token holders are individuals or groups that purchase large amounts of tokens in a blockchain network in order to make a major impacts on and changes to the protocol and network. Many activist tokenholders will also try to get a seat on the Foundation’s board in order to achieve that goal by influencing how foundation resources are spent in ways that enrich the token holder / activist / board member. Typically, these token holders target networks they believe to be mismanaged or ones that could be run in their own interest, whether that’s financial or social gain. The goal is to change the underlying rules of the system to increase the token’s value and profit from the rise in its value.

We have seen this play out time and time again in crypto — here is the most perfect example:

Mike Novogratz is an investor in, the creator of EOS. He was also given $325M of the EOS token sale proceeds by to deploy an “ Ecosystem Fund” intended to increase the value of the EOS network, and thereby the token. I don’t know the specifics of the deal, but I imagine he gets 2% on AUM + 20% on profits. That means his investment in EOS nets him at least $6M per year just in”management” fees.

Now, in Tezos, the game can be played slightly differently. Because the Tezos ledger is self-amending, larger holders who have more at stake financially are more incentivized to actively participate in decision making. After all, influencing decision making is an important aspect of financial investing. VCs have a disproportionate amount of power in startups purely because they provide financial capital and own equity (see above and repeated ad nauseum in Silicon Valley).

So if I own a lot of Tezos tokens and I’m unhappy with how the Tezos project is being managed, theoretically I could band together with other large token holders, or perhaps, by aggregating a lot of votes via delegation, to force changes I want to see. Perhaps I could create a baking service with no fee that attempts to accrue 50%+ of all Tezzies to build a benevolent (or violent) on-chain dictatorship. Remember that blockchains don’t change human nature.

Come and bake with me, my children!

Hopefully by now you have an appreciation for the unique characteristics of the Tezos experiment, its analogs to the world of traditional finance, and the implications for the evolution of on-chain governance. My comments about dictatorships and banana republics, are, of course, tongue in cheek. However, I think it’s important to examine these projects we’re participating in and to ask questions, analyze information, and form and test new hypotheses about behavioral finance in a world of tokens.

So what is a Tezos holder to do with this information?

  • If you’re a casual holder of Tezzies who is intrigued but not motivated or able to run your own baking operation, choose your political party, I mean, delegation service carefully. My crew at Tezzigator (what up Josh and Bo) are going to explore the implications of political power and activism as a baker, and are committed to providing 100% transparency to our delegates. Click here for instructions on how to delegate your Tezzies to us! (remember, you never have to send us your Tezzies. do not send anyone your Tezzies to delegate.)
  • If you’re a larger holder of Tezzies who has long term conviction in the project but are not motivated or able to run your own baking operation, join Tezzigator in our new bond pool. We are building a community of large holders (over 100k Tezzies) who want to join us in building new technical, financial, and political infrastructure to support the Tezos ecosystem. Email to learn more.
  • Bake!
  • If you’re an observer of this experiment and want to continue watching as the Tezos experiment unfolds, get your popcorn ready!
  • If you are super rich and want to help me become the Carl Icahn of crypto, give me a shout. I’d love to work with a few people on testing the limits of decentralized governance.

Special thanks to Oliver Stein and Freddie Archibald, my brilliant research team at CoinShares, who helped with all of the data gathering and analysis, and Bo and Josh at Tezzigator who have been kind enough to welcome me to Team Tezzigator. Most importantly, thanks to the Tezos team for creating such a wonderful experiment. It’s going to be a fun ride!

making benevolent mischief. investing @coinshares.