Why crypto isn’t dead — A crypto VC takes a look behind the scenes of the bear market.
In our previous story, we explain how Gartner’s Hype Cycle model works, and why it is a compass for the maturity level of new technologies.
Click here to read the previous story on the Hype Cycle model, or recap the key points below:
- What happened in 2017 in the crypto market was a hype, which is very similar to what we saw in the Internet boom in late 90s/early 2000s. The boom is always followed by a bust. Excessive enthusiasm and disillusionment is just a new beginning of a new technology towards market maturity.
- There is much to suggest that blockchain technology and crypto currencies have entered the “trough of disillusionment” phase. This phase really is the make-or break phase that determines whether a new technology will just simply die off or progress towards maturity and ultimately mass adoption. With all the hype gone, this phase is really about making technology improvements and creating market-ready products able to deliver on the broken promises of the past.
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We at Kaizen VC are convinced that blockchain technology and crypto currencies will develop into a mass phenomenon similar to the Internet. In this story, we will elaborate why we hold this view and where our conviction comes from.
Overall, there are two main arguments for us:
- Decentralization will prevail in the long term.
- We have already seen promising signs that Blockchain is entering the stage of market maturity.
Decentralization will prevail.
Since the invention of computers, incumbents have often been dethroned by more versatile challengers. Usually, this has happened at a point in time when these incumbents had accumulated so much power as to become extractors of both users and former collaborators. Pushing and adopting open source software is a means to redistribute power structures in the market and level the playing field. While open source protocols have created a lot of utility value, they have as yet mostly failed to capture economic value for their creators. With blockchain-based tokens mechanisms, this will be different. By 2030, large pockets of the world economy will run on decentralized networks, in which coordination will happen around scarce tokens.
Promising signals of maturity
Observing the crypto market closely, we see many indicators showing that crypto, lead by Bitcoin, is entering the Slope of Enlightenment phase.
Signal 1 - Strong Fundamentals
Taking Bitcoin as an example, we see a adoption, independent of the underlying asset price: The evolution of transaction volume, hash rate (the speed at which a computer is completing an operation in the Bitcoin code), nodes and their distribution are all indicators of maturation.
The above graphs show two trends:
- An increasing on-chain transaction volume over time, together with an increase in the share of high-value transactions (i.e. above $1,000) for cross-border payments, which rose from 34% in 2016 to 46% in 2017. More transaction volume means more dynamic markets, and adoption in the retail segment.
- A steady increase of resources being poured into mining operations with a broad geographical distribution. This increased willingness to devote resources and capital into mining bitcoin globally underlines its perceived “value”/store of value and its steady progress at an infrastructure level.
More nodes in turn mean an ever more secure network. Their distribution means that Bitcoin is getting more and more decentralized over time.
To put the current market into perspective, let’s use the metrics above to plot together with the price of Bitcoin:
The chart illustrates that price and fundamental metrics are not (yet) correlated. This is because the 2017 inflow of speculation was driven by inexperienced investors and inflated expectations with no relation to actual fundamentals. When the market realized that it had fallen prey to irrationality, prices plummeted. Now prices are down, yet fundamentals are actually growing.
At Kaizen VC, we have been participating in BTC markets for a long while. Our purchase decisions are solely driven by data, our understanding of the ecosystem and its future.
Signal 2 - Corporations roll full-fletched Blockchain implementations
Blockchain has grabbed the attention of enterprises across industries. After a long period of R&D, major companies are now progressing from pilots to full implementation (e.g. Walmart for supply chain tracking, Spotify for transparent licensing agreements). Also tech giants have created enterprise solutions for blockchain creation, hosting and deployment. Examples include IBM Hyperledger Solution, Microsoft Azure Blockchain Workbench and Amazon Blockchain AWS. Such solutions will further the adoption of blockchain in global business and commerce. World Economic Forum predicts that by 2025 10% of global GDP will be stored on the blockchain — global executives will be a driving force behind this seismic shift.
Signal 3 - Governments push regulatory advancements
While some jurisdictions maintain a wait-and-see approach and have avoided comprehensive legislation, many have worked on crafting frameworks to create legal certainty and foster innovation. Here just a few examples: Switzerland has proposed a regulatory framework aimed at keeping companies in line with legislation through ‘sandboxes’. This shall allow startups to experiment and innovate within controlled conditions. Similarly, the Monetary Authority of Singapore has launched a regulatory sandbox where fintechs, banks, and regulators work together. Russia has created a legal framework to legalize initial coin offerings. France, in turn, has authorized debt-based crowdfunding recorded on blockchain technology.
Yet something more fundamental is going on beyond that: Quoting the Cambridge Centre for Alternative Finance, “industry actors are pro-actively adopting measures that appear to comply with existing regulation despite not necessarily being explicitly subject to regulations”. This wave of self-regulatory initiatives reflects the growing maturity of the space.
Signal 4 - Institutional investors progress
Numerous big financial players are pushing into the market by working on infrastructure solutions, (re-)defining their strategies on cryptocurrencies and/or deploying direct investments.
- In October, Fidelity, one of the five largest financial services providers in the world with $7.2 trillion in assets under management, announced that it will offer cryptocurrency custody and trading services to corporate customers through its newly created subsidiary Fidelity Digital Asset Services, LLC.
- Goldman Sachs is working on a cryptocurrency trading desk, catering to high customer demand.
- Bakkt, a platform for trading, custody, and issuance of digital assets, was founded earlier this year by the global exchange operator ICE (parent company of the New York Stock Exchange, NYSE) and is scheduled to start trading Bitcoin futures early in 2019.
- The endowment funds of US Ivy league universities Harvard, MIT, Stanford, and Yale (each in the double-digit USD billion range), recently have invested in cryptocurrency funds.
- Nasdaq provides Gemini, the US crypto exchange, with its SMARTS technology, one of the world’s most widely used financial trade monitoring systems.
- To top things off, Morgan Stanley has declared cryptocurrencies a new institutional investment class in October 2018.
All of the above are early indicators for growing engagement of institutional investors in the crypto market. This will act as a catalyst for increasing the number of retail investors in turn.
According to a study by Coinmarketcap, a staggering 280 unregulated cryptocurrency exchanges opened shop between summer 2010 and 2018. Interestingly, a 72% correlation rate was found between the number of active exchanges and Bitcoin market capitalization. This correlation does not prove causality. However, it highlights the fact that ease of market access and market value are linked.
The below chart illustrates the relationship: The previous Bitcoin bull runs in 2011, 2014 and 2017 all have lead to the opening of new exchanges and access points. This has helped the convenience and capacity for new capital to enter the market. New capital in turn has driven the next bull wave.
The 2017 bull run has caught the attention of institutional investors. We at Kaizen VC believe that we will see this cycle play out again — at greater scale than before.
Infrastructure players (exchanges, custodian solutions, ATM and overall liquidity providers) will create new layers of access making it unprecedentedly easy for retail investors to access crypto markets. Retail investors will no longer need to go through the hassle of setting up numerous exchange accounts and managing private keys. Instead, they will be able to outsource all of this to established brands they already know and generally trust.
According to a survey by ING, 10% of people in Western societies have already bought cryptocurrencies. By providing simple products to them, this number will exponentially increase.
In summary, new infrastructure to access the market will, directly and indirectly, propel the overall market capitalization of cryptocurrencies upwards.
Conclusion
While these early signs show that crypto is on the way towards mass adoption, success will not be materialized overnight. We should, however, be aware that the foundation for tomorrow is laid today. The world has become more complex and competitive than ever. If the current generation wants to create a substantial growth of financial wealth, cryptocurrencies may be their last chance.
One thing is clear: There cannot be only winners on the way.
In the next story, we will elaborate on the Kaizen VC model — our basis for navigating macro and micro cycles in the crypto market.
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