Have Alternative L1s Lived Up to Their Promise?
This is an extract from the report that was originally published on The Defiant on April 21st, 2022. Minor modifications have been made to reflect the changes that have occurred in the meantime.
The multichain expansion has been the highlight of 2021, with BSC, Polygon, Terra, Avalanche, and Solana dominating the discussion. While most of these chains positioned as the competitor of Ethereum, Polygon leadership and community chose to support the Ethereum maxi narrative, even announcing an ambitious rollup roadmap and positioning as one of the leaders in the modular blockchain approach.
The main driver for the multichain expansion has been the slower progression of Ethereum native scaling solutions, which opened a window of opportunity for the competitors/sidechains to capture some of the market shares.
Although TVL has been used most widely to illustrate the activity of individual chains, the metric is somewhat flawed as often the large percentage of TVL is in the native token of particular L1, hence the price appreciation of the token naturally leads to the growth in TVL, which further leads speculators to inflate the token prices.
As The Block has illustrated below, Avalanche had the largest inflow of fresh capital.
Despite the increasing activity on other chains, Ethereum is still the dominant solution when it comes to absolute TVL, the number of dApps built on top of it, and total on-chain activity. To put things into perspective, the largest Ethereum protocol Curve total TVL is larger than the combined TVL of all the apps built on top of Avalanche and Solana.
Other chains lag behind Ethereum development for 12+ months. To prove secure enough for large capital providers, new chains will have to face the test of time. The perception of the risk is evident if we compare the yields on stablecoins on Solana vs Ethereum. For instance, the largest money market protocol on Solana — Solend, offers 2–3x larger APY on USDC and USDT than AAVE. This gap suggests the larger implied risk premium of interacting with the novel protocol on a novel chain.
Any chain that seeks to compete with Ethereum, will have to rebuild the Ethereum DeFi map. Hence, while the Ethereum DeFi ecosystem has been trying to explore new primitives and building vertically, most of the other L1s have been replicating the Ethereum DeFi map.
Ethereum DeFi dominance is evident also if we observe the market cap of DeFi tokens, where among the top assets there are rarely non-Ethereum ones.
Being the pioneer in decentralized applications helped Ethereum accumulate soft power where all alternative L1s are adopting EVM compatibility in some form e.g. Avalanche’s C-chain, Polkadot’s Moonbeam, NEAR’s Aurora, Solana’s Neon, Fantom, Polygon, BSC, etc.
Onboarding priced-out users
The main promise of the alt L1s is to make blockchains usable for everyone. To test how well this objective has been fulfilled by the chains focused on scalability, we observe the activity on Polygon.
We use $500 as a threshold to determine smaller traders and observe on a daily basis how many of the traders fit into this category.
Charts below suggest that Polygon, indeed, managed to attract a new audience, where traders executing less than $500 transactions per day are the large majority of Polygon users (roughly 80% of the traders) while on Ethereum the same group of users is much less represented, generally, being below 30%.
Deriving conclusions based on the Polygon example, we could positively answer the question posed in the title: yes, alternative chains have lived up to their promise.
BUT, what is the real contribution of these smaller-scale traders? As illustrated below, the marginal value of these users is very low. Even on Polygon DEXes, these users daily contribute only about 1% of the trading volume, while on Ethereum they account for 0.1% of the trading volume at best.
One Whale is Worth Thousands of Turtles, 90–4 Rule
On Ethereum, whales (classified as addresses that generate $100k+ volume daily) account for less than 4% of the traders (roughly 3k addresses daily), yet they contribute almost 90% of the total volume on Ethereum DEXes.
Likewise, whales represent only about 1% of Polygon users, however, these accounts still generate the majority of the volume on Polygon DEXes, historically 74% of the total volume.
Despite in certain months, Polygon DEXs recorded the larger number of traders, the Ethereum DEXs combined still generate several times the larger volume. The primary reason for Ethereum’s dominance is not having the most users, but being the chain of choice for large capital.
Conclusively, large capital manifested in liquidity providers and traders still shows strong preferences for Ethereum, and while alternative solutions managed to provide imminent scalability, changing the public perception of safety will be a long-term process.
This view is further emphasized with the recent events, primarily the Terra crash, but also instability in other L1s, which is why I would expect to see a consolidation of activity around Ethereum and Ethereum native scaling solutions.
