2020 Crypto Review and 2021 Predictions

2020 was truly a momentous year — the Covid19 pandemic changed how we live, work and travel; the economic shock and resulting K-shaped recovery heightened the divide between the elite and the working class, and a contentious election highlighted the deep fissures in our society.

While 2020 was the year of change, it was also an incredible year for crypto. From rapid institutional adoption of crypto to next-generation decentralized platforms, we will look back at 2020 as the year crypto finally came of age.

This report covers a review of the state of cryptoverse in 2020 and our predictions for 2021.

Disclaimer:

1. The above reflects the views of the investor and should NOT be construed as investment advice, financial advice or legal advice.
2. This information is purely educational and is NOT meant to be taken as a recommendation to buy or sell any product or service. Please do your own research before making any decisions.
3. Where relevant, direct quotes & passages have been taken from whitepapers, articles and blog posts, with their sources cited.

2020 Crypto Highlights

Here are some of our key highlights:

1. Bitcoin price touches an all time high, driven by institutional investor demand

One of the primary functions of a monetary asset is to be a ‘store of value’ — a mechanism to hold its purchasing power over time. The federal reserve printed an unprecedented amount of money ($3.38 Trillion in 2020) to support the economy during the coronavirus pandemic, driving real interest rates close to zero in the process. According to some estimates, 1 in every 5 US dollars was created in 2020.

Institutional investors believe that such a large infusion of currency into the economy will undoubtedly lead to inflation, reducing the attractiveness of the US$ as a store of value. This ‘smart money’ is now looking at Bitcoin as a hedge against inflation and a digital alternative to Gold.

In 2020, institutional money managers and companies started to publicly allocate capital to Bitcoin. Examples include:

• Square bought 4709 bitcoins at $50M, representing 1% of the companies total assets
• Microstrategy announced that it owns 70,470 BTC, acquired at an aggregate price of $1.125B
• Massachusetts Mutual Life Insurance Co. (Mass Mutual), a 169 year old insurance company, purchased $100 million in Bitcoin for its general investment fund
• Paul Tudor Jones, the legendary hedge fund manager, said Bitcoin comprises 1–2% of his portfolio, and believes it is the ‘fastest horse’
• Stanley Druckenmiller, another Wall Street legend, said he owns Bitcoin and believes it to be a store of value
• JP Morgan released a report showing institutional investors pulled out money from Gold ETFs and invested in the Greyscale Bitcoin trust in Q4 2020

This momentum drove BTC prices to an all-time high as the year drew to a close. At the time of writing this article, BTC price was at $32,000.

Source: CoinGecko

2. Stablecoins grew by $20B+ in 2020

Stablecoins are ‘crypto dollars’ on the blockchain whose values are pegged to a stable asset, like the US dollar (e.g. 1 USDC stablecoin = 1 USD). Traditional crypto assets such as Bitcoin tend to have volatile prices, making them difficult to use for transactions. Stablecoins enable market participants to hold and transfer their assets in USD, and serve as the de-facto money for the crypto ecosystem today.

Stablecoin adoption has sky-rocketed in 2020, with 28 billion stablecoins in existence (In contrast, Paypal is estimated to have $157 billion across all user wallets in 2020). USDT (Tether) is the most dominant stablecoin in use, currently sitting at north of $21 billion in circulating supply.

Source: Messari.io

There are three categories of stablecoins:

i) Centralized Stablecoins : Each stablecoin is backed 1 for 1 by USD held in bank accounts (eg. USDC, USDT), acting essentially as IOUs. By definition, these fiat-collateralized stablecoins are centrally managed (USDC is a joint project between Circle and Genesis Capital), and are not censorship resistant.

ii) Crypto-Collateralized Stablecoins: Each stablecoin is backed by over-collateralized crypto assets (eg. DAI, sUSD where the user deposits ETH or BTC to mint the stablecoin). These coins are truly decentralized and censorship resistant, but are subject to liquidations when the collateral drops in price.

iii) Algorithmic Stablecoins (Seigniorage-Style/ Non-Collateralized): These stablecoins are not backed by any asset; an algorithm expands or contracts the supply of the stablecoin in order to move the price of the underlying closer to the target price (eg. AMPL, ESD, DSD)

3. Decentralized Finance (DeFi) — the birth of a new Financial System

DeFi was absolutely the #1 development in Crypto in 2020. We have been fortunate to witness (and participate in) a once-in-a-lifetime birth of a new open financial system, powered by thousands of developers developing open source applications on top of the Ethereum blockchain. Smart-contract based exchanges, payments, lending products, derivatives and robo-advisors were all created in a matter of months, and adopted by thousands of users.

The hottest DeFi trend was Liquidity Mining, a process to incentivize users to provide liquidity for a new protocol, and in return earn a % of the transaction fees + the governance token of the platform. It all started with Compound distributing its COMP token as an incentive to suppliers and borrowers on its platform. Since then, It has become common for early LPs to earn 100–200% APR while helping new protocols bootstrap liquidity.

Teams learnt quickly from the COMP experiment, rapidly launched their open source platforms, and pioneered the IDOs (Initial DEX Offering) where their governance tokens traded on decentralized platforms instead of exchanges. Uniswap, the leading AMM (automated market maker), saw its monthly volume exceed that of centralized exchange Coinbase in September.

Examples of key projects and platforms in the Defi Stack today include:

1. Blockchain Layer1: Ethereum, Solana, Cosmos
2. Self-Custody Wallets: Metamask, TrustWallet
3. Units of Value: DAI, USDC, WBTC, ETH, cTokens, aTokens
4. Automated Market Makers (AMMs): Uniswap, Balance, Curve
5. Lending Protocols: Compound, Aave, Cream
6. Derivative Networks: Synthetix, DyDX
7. Defi Yield Aggregators: Yearn Finance, Rari Capital
8. Oracles: Chainlink, UMA
9. Front-Ends: Zapper, Matcha

etc.

At the same time, we also had a front row seat to the potential risks of DeFi, including:

• Vampire Mining: a new project forks the code and sucks away liquidity from the market leader via incentives. (e.g. Sushiswap drained $800M liquidity from Uniswap)
• Rug Pulls: developers intentionally create hidden backdoors in the smart contract code, which are later used to drain funds (e.g. Compounder Finance)
• Algorithmic exploits such as flash loans, where attackers use a key blockchain feature (atomic transactions) to borrow large amounts of money without collateral, take advantage of an arbitrage and repay the loan after pocketing the difference. (e.g. Value Defi attack)

While the damage varied by project, the threat of a massive apocalyptic event continues to hang over the DeFi sector.

DeFi closed the year on a strong note with almost $15B Total Value Locked (TVL), an incredible number for an entire system which was practically non-existent at the beginning of the year.

Source: Defi Pulse

4. Central Bank Digital Currencies (CBDCs): Early green shoots emerging

CBDCs are essentially digital versions of a country’s fiat currency on a blockchain. By definition, CBDCs are centralized and backed by a suitable amount of the country’s currency reserves.

The US Dollar has been the global reserve currency for much of the last century, with 80%+ of global trade being priced and settled in USD. This allows the US to easily finance its trade and budget deficits, and expand its geopolitical influence by controlling the value and flow of USD. As China’s economic might grows, its leaders have been exploring opportunities to gain market share as a reserve currency.

CBDCs provide a potential path for countries to engage in cross-border transactions in a non-US dollar currency, fully outside of the visibility of the US. CBDCs also permit a high velocity of money as well as negative interest rates well below the current bounds. The digital trail of CBDCs and the potential to control its use through incentives and sanctions are irresistible for any regime seeking to learn about economic activities of global users.

In 2020, we saw some early signs of progress:

• China piloted its “digital Yuan” DCEP pilot for residents in Shenzen, Suzhou and Xiong’an — the first central bank digital currency to be launched. According to the People’s bank of China, 113,000 consumer wallets were created with 3.1M digital Yuan transactions in 3 months and $162M transacted with partners such as Didi Chuxing ride-sharing, Meituan-Dianping food delivery, etc.
• The Bank of England published a discussion paper on a potential CBDC, denominated in Pounds Sterling, and is currently evaluating opportunities and risks of launching such a currency.
• Japan has created a CBDC working group to prepare for a future surge in demand for CBDCs
• South Korea’s central bank aims to launch a CBDC pilot in 2021.
• Russia expects to pilot a digital ruble in late 2021, but little information is available at this stage

Our Crypto Predictions for 2021

1. Bitcoin price will continue its historic rise

Bitcoin is already up 10% in just the first 3 days of 2021. We believe that the US government will continue its fiscal stimulus policy to support the economy in 2021, adding more $$ to the federal reserve balance sheet, and in turn driving further demand for Bitcoin.

We believe that Bitcoin will be a mainstream investment for large institutional money managers, sovereign wealth funds and corporations looking for an inflation hedge. With legends like Paul Tudor Jones and Stanley Druckenmiller endorsing Bitcoin, institutional investors will flock to buy Bitcoin this year. In addition, “web3.0 CEOs” like Elon Musk will add Bitcoin to their treasury to set a precedent.

According to Delphi Digital, the supply of BTC held on exchanges has dropped by 20% from the ATH in Feb 2020. This is a very bullish signal, since it typically means the bitcoin supply has been moved offline to cold storage for long-term holding.

Bitcoin has a capped supply of 21M, and the increased investor demand coupled with inelastic supply will drive Bitcoin price up significantly in 2021. While it is hard to arrive at a fundamental valuation of Bitcoin, here are some possible scenarios:

• As a decentralized store of value, Gold is the nearest market comparable to Bitcoin. Gold’s market cap stood at close to $10 Trillion in Dec 2020. Bitcoin price would need to reach $47,619 to equal 10% of Gold’s overall valuation ($1 Trillion).
• Global equity market cap is at $100 Trillion in Dec 2020. If Bitcoin were to reach 5% of this market cap, it would need to hit $238,000 in price.
• Several investors believe that Bitcoin will approach Gold in market cap this decade, putting BTC’s fair market price in the $400,000 — $450,000 range

2. Regulations around Stablecoins will increase in 2021

Stablecoins are truly digital cash, and are perfect for currency transfer, remittances and retail payments. We estimate that USD-backed stablecoins will cross $100B in marketcap this year.

As crypto prices go up and more stablecoins emerge, it is inevitable that governments will pay close attention to crypto in 2021. Historically, US crypto regulation has typically been centered around distinguishing securities from commodities and ensuring that tokens follow SEC and CFTC guidelines. On the other hand, countries such as India and China have focused on the more conventional issue of ‘are crypto tokens currencies’ and the bypassing of capital controls. We believe there will be higher scrutiny and government interest in 2021 in the overall crypto ecosystem.

The Tether Problem

Tether Holdings Limited and the Bitfinex cryptocurrency exchange, the companies behind USDT, are currently being investigated by the NY attorney general; The core controversy is around whether each USDT is truly backed by a US dollar, something which has never been proven by a full audit of the tether reserves. Any action against Tether will be a huge shock to the crypto ecosystem, since USDT accounts for 70% of the stablecoin space today.

Facebook Diem

Facebook’s Libra stablecoin (now called Diem) was announced in 2019, but delayed its 2020 launch as regulators raised several concerns about data privacy and financial stability. Libra is now renamed to Diem, and the Diem Association is currently waiting for approval from the Swiss Financial Market Supervisory Authority.

We expect Diem to be launched in 2021 (along with Facebook’s Novi wallet), with modifications made to its privacy architecture to ease regulators concerns on consumer protection. The biggest attraction of Diem will be a simple UX and a focus on consumer-merchant payments and remittances.

The STABLE act

The STABLE act, a new act introduced in the US congress, would force stablecoin issuers to obtain a banking license and hold FDIC insurance. If passed, this act would be a setback to stablecoins, since burdensome compliance costs will almost definitely slow down the progress of DeFi and put power back in the hands of large banks and corporations.

CBDCs

We believe that central bank digital currencies will continue to grow at a glacial pace, driven by focus on the pandemic and the lack of understanding of the underlying technology. 2021 may see further pilots and announcements, but is unlikely to see any large scale CBDC rollouts.

3. DeFi adoption will explode in 2021

1.25M unique addresses used DeFi in 2020. However, the actual number of DeFi users are estimated around 200,000 (since many users are responsible for multiple wallets).

In 2021, we believe DeFi will scale out beyond its early adopters:

• Yield on crypto & stablecoin deposits will be the primary consumer use case and driver for DeFi adoption. We expect Neo banks to offer high interest rate checking accounts on top of stablecoins and expect to see >$30B in loans outstanding in DeFi protocols.
• We will see more of Bitcoin’s large market cap offered as collateral in Defi (as wBTC, renBTC etc.), increasing the TVL of Defi to $100B.
• New DeFi aggregators will reduce the complexity of interacting with DeFi, and enable broader retail participation in this emerging sector
• New “Oracle solutions” will be launched which solve the reliability & latency issues of today’s oracles.
• Prediction markets such as sports betting and S&P500 trading are an ideal use case for Defi and will take off in 2021

4. Ethereum will cement its position as the “base layer” for crypto

Ethereum is already the #1 smart contract platform and has processed close to $1Trillion worth of transactions in 2020, driven primarily by the DeFi boom. Most stablecoins and financial applications are settled on the Ethereum blockchain. However, the network’s utilization has been maxed out and the cost of transactions (called gas fees) is at an all time high.

The Ethereum community successfully launched Phase0 of Ethereum 2.0 in Dec 2020. Ethereum2.0 is essentially a brand new blockchain, and the change in consensus algorithm from Proof-of-Work to Proof-of-Stake will help Ethereum scale its transaction throughput by 1000x while using far less computing power. In 2021, we will see Phase1 of Ethereum 2.0 go live, further improving scalability and cementing its position as the leading base layer for crypto.

We anticipate new DeFi projects on recent blockchain projects such as Solana and Polkadot. However, Ethereum will continue to be the king of the smart-contract hill in 2021.

5. Payment services will add crypto-native features

PayPal announced in Oct 2020 that its users will be able to buy, hold and sell cryptocurrency directly from the PayPal app. In 2021, we will see PayPal enabling its 26 Million merchant network to accept and transact with digital currencies, in turn enabling crypto as a funding source of payments. PayPal and Square will consider offering their own stablecoins on their networks.

Global giants such as Visa and Mastercard will allow partners to launch USDC and stablecoin denominated credit cards so customers can make payments in stablecoins at merchants using their credit cards.

6. The first Crypto IPOs will take place in 2021

Coinbase announced that it has filed for a public offering in 2021, and its IPO will be a key milestone in the establishing the legitimacy of the crypto industry. The Coinbase IPO is an incredible opportunity to demonstrate the potential of offering security tokens on a blockchain, rather than the traditional IPO process of placing shares via investment banks.

Other prominent crypto companies which have reached Unicorn status and may explore IPO options include Circle, Binance and BlockFi.

Conclusion

At Gamma Point Capital, we believe crypto is just at the beginning of a 10 year journey to mainstream consumer adoption. We are incredibly bullish on the sector and are believe crypto offers a very compelling risk/reward opportunity for long-term investors.

We wish everyone a very happy new year and an incredible 2021 for Crypto!

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Sanat Rao is the managing partner at Gamma Point Capital. He was previously a Partner at IDG Ventures India focused on investments in fintech, blockchain and enterprise software. Sanat held earlier roles at Intel Capital and iSPIRT on the investment and M&A teams.