Investigating Blockchain —Altcoins
By Jeff Tidd on ALTCOIN MAGAZINE
This is a continuation of Investigating Blockchain Part I, where blockchain was introduced and Bitcoin was examined.
In Part II we’ll take a look at all the cryptocurrencies besides Bitcoin, called “Altcoins”.
There are more than 1600 cryptocurrencies available on the internet. The top 10 by market capitalization per coinmarketcap…
- Bitcoin — $146 billion
- Ethereum — $27 billion
- Ripple XRP — $17 billion
- Litecoin — $8 billion
- Bitcoin Cash — $7 billion
- EOS — $5.9 billion
- Binance Coin — $4.9 billion
- Bitcoin SV — $3.8 billion
- Tether — $3.4 billion
- Stellar — $2.4 billion
That’s a lot of coins and a lot of value. Why are there so many? Why do we even need altcoins?
Better Bitcoins
Some altcoins are revisions of the main Bitcoin software with improvements like faster transaction and lower network operating costs. Litecoin (#4 above), Bitcoin Cash (#5) and Bitcoin SV (#8) are three examples.
Monero (#13) and ZCash (#22) emphasize improved privacy.
These coins attempt to retain all the benefits of Bitcoin and at the same time address some of its deficiencies.
Unfortunately, the deficiencies they fix don’t include price volatility, regulatory or private key problems (i.e. propensity for coins to get lost or stolen) so it’s unlikely any of them will replace fiat currencies and become “digital cash” in the near future.
The Wall Street Journal recently reported, “It has been a decade since bitcoin was born, yet consumers hardly use it or the hundreds of other cryptocurrencies to pay for things.”
Nevertheless, they represent billions of dollars in value and in some ways are better than the original Bitcoin.
Coins + Code
Some altcoins like Ethereum’s Ether (#2), and Binance (#7) let you store software code with coins in the blockchain. This code can automatically transfer the ownership of coins when certain conditions are met, on a certain date for example.
This capability is called smart contracts and is generally viewed as the second generation of blockchain — Bitcoin being the first.
In theory, this capability can be used for an infinite number of applications. Smart contract blockchains are sometimes compared to general computing platforms like Amazon’s AWS.
For example, Ethereum is described as “a global, open-source platform for decentralized applications”.
What applications have been built on these platforms so far? Search the web and you’ll find sites extolling the many problems smart contracts could solve, but not much information on actual products.
After A LOT of research, it seems the main use for smart contracts over the last five years is to associate an external value with a coin.
With Bitcoin, there’s no inherent value, i.e. there’s no guarantee that you can exchange it for anything. Smart contracts are a guarantee that you can exchange a coin for something else.
And that leads us to the Initial Coin Offering (ICO).
ICOs
The way it works is a company creates a new coin on top of the Ethereum (or Binance) smart contract platform and sells it to the public. The smart contract associated with the coin gives the owner rights to some share of the company and/or the products it creates.
The New York Times described it this way…
“Imagine that a friend is building a casino and asks you to invest. In exchange, you get chips that can be used at the casino’s tables once it’s finished. Now imagine that the value of the chips isn’t fixed, and will instead fluctuate depending on the popularity of the casino, the number of other gamblers and the regulatory environment for casinos. Oh, and instead of a friend, imagine it’s a stranger on the internet who might be using a fake name, who might not actually know how to build a casino, and whom you probably can’t sue for fraud if he steals your money and uses it to buy a Porsche instead. That’s an I.C.O.”
The biggest ICO of all times was for a company called block.one, which in 2017 raised over $4 billion — let me say that again, $4 billion — by selling a new coin called EOS (#5 market cap above) which gives the holder both storage and the bandwidth on “The most powerful infrastructure for decentralized applications”.
So yes, a coin built on top of “a global, open-source platform for decentralized applications” (Ethereum) was used to finance the creation of a new “most powerful infrastructure for decentralized applications” (called EOSIO).
EOSIO has since been created but looking at the block.one website, it’s not clear anyone’s using it or getting value from their $4 billion worth of EOS coins.
Certainly, one of the most extreme rags to riches stories in history is found in block.one’s CTO Dan Larimer. Larimer went from a net worth of $0 to $600 million in about 3 years by investing and creating various cryptocurrencies including EOS (full story here). Compare that to Bill Gates who took 6 years to become a millionaire back in 1981.
It’s hard to get reliable numbers, but about $20 billion has been raised through the end of 2018 via about 2100 ICOs.
Were they good investments? It turns out most were outright fraud. According to Investopedia…
“A recent study, based on publicly available information and sources, claims that nearly 80 percent of the initial coin offerings (ICO) are scams, and only a meager 8 percent of the floated ICOs manage to reach the trading stage on the various cryptocurrency exchanges.”
Approximately $3.8 billion was raised through ICOs in the first 3 months of 2018, whereas only about $100 million was raised in the first 3 months of 2019. By June of this year, the Wall Street Journal was declaring “The market for initial coin offerings is mostly dead”.
Put all this together and you could reasonably argue that ICOs have been one of the largest frauds in recent history. After looking at Forbes list of The 10 biggest frauds in recent U.S. history, it looks like ICOs would make the list, probably right after Enron and Bernie Madoff.
It doesn’t mean that smart contracts don’t have value, it’s just that the first primary use of smart contracts (ICOs) has a less than stellar track record and overshadows the true potential of combining code with blockchains.
Fortunately, the next real-world example of smart contracts seems more promising…
Stablecoins
Some altcoins use smart contracts to link a coin to a certain amount of fiat currency, like the dollar or euro. For example, a coin might be linked to $1 USD deposited in a bank somewhere. These are called stablecoins.
Note: As seems typical in the blockchain world, the term “stablecoins” is used for a wide variety of different coins… a) coins that are collateralized with fiat currencies, b) coins that are collateralized with other cryptocurrencies and c) coins that aren’t collateralized by anything but price stabilization is attempted by manipulating supply and demand.
These coins give up the major benefits of Bitcoin — decentralized governance, the ability to make money mining new coins and coin price appreciation. In exchange, they have the price stability which is necessary for many financial applications.
The most popular stablecoin is Tether (#9 above). The US dollar version of Tether coin (USDT) is supposed to always be worth $1 USD. Tether is built on top of the Bitcoin network and at times can make up to 80% of “Bitcoin transaction volume”.
Controversy seems to surround Tether and its creator Tether Limited. Specifically, Tether is accused of not maintaining a 1:1 backing of dollars, manipulating the Bitcoin market and being used by Chinese to circumvent laws related to Bitcoin ownership and trading.
From NewsBTC…
“In its white paper, there are details on “Proof of Reserves” backed by the US Dollar, this means that for every Tether in circulation, there is also $1 held on account. The problem is, no auditing firm has ever signed off on this claim. Matters are made worse by an apparent change in policy in that the company now states that other assets may be substituted to make up that value — all without full disclosure on the nature of those assets.”
Forbes recently wrote… “Until this year, Tether had always insisted that every USDT was backed by an actual dollar. But in March, Tether admitted that it did not have sufficient dollar cash reserves to back all the USDT in issue and was, in effect, acting as an unregulated (and unusually risky) fractional reserve bank. Why it changed its stance was shrouded in mystery — until now.
It seems Tether transferred funds from its own reserves to (cryptocurrency exchange) Bitfinex. This, of course, destroyed its one-for-one reserve holdings. From that moment on, Tether was no longer a full-reserve token issuer. And according to the NYAG, from that moment on it was also involved in a fraud.”
Another interesting fact about Tether… one report suggests that 50% of the price rise of Bitcoin in 2017 was due to manipulation using Tether. Recent articles suggest it is happening again.
Lastly, it is believed that during the last few months Tether has been used heavily by Chinese citizens to circumvent laws prohibiting trading Bitcoin and other cryptocurrencies. Full article here.
Fortunately, there are newer stablecoins that are more reputable. We’ll look at four: Gemini, JP Morgan’s JPM, TrueUSD and the recently announced Facebook Libra coin.
Gemini
A more reputable but far smaller (and newer) stablecoin is Gemini (#218 by market cap).
Gemini’s dollar reserves are held by the reputable State Street Bank, audited by Deloitte and regulated by the New York State Department of Financial Services.
Know Your Customer (KYC)
Departing from Bitcoin a step further is JP Morgan’s new JPM coin and Trust Token’s TrueUSD.
Like Gemini, JPM dollar reserves are held at a reputable bank (JP Morgan), audited, and regulated.
TrueUSD (#38) claims it’s “the most traded, trusted stablecoin backed 1-for-1 with US dollars”, uses escrow accounts and is audited by Cohen & Company.
But unlike Gemini which can be purchased by anyone, JPM and TrueUSD can only be purchased after passing Know Your Customer (KYC) requirements. In other words, JP Morgan and Trust Token know quite a bit about anyone owning or trading their coins, which helps satisfy anti-money laundering regulations and thereby has a greater chance of being integrated into the existing financial infrastructure.
Facebook Libra
Perhaps the most exciting cryptocurrency of all is the recently announced Facebook Libra coin, due out in 2020. Sporting many of the virtues of JPM and TrueUSD, Libra has the backing of over a dozen big-name companies like Facebook, Visa, MasterCard, PayPal, Uber, and Stripe.
Libra has the potential to create a global network, be accepted by merchants worldwide and thereby become a world currency, achieving the original Bitcoin vision of global digital cash.
But whereas Bitcoin intended to “put power into the hands of individuals rather than governments and corporations”, Libra uses a centralized version of the blockchain to retain profits and control for a group of corporations known as the Libra Association.
Specifically…
- The Libra coin will be backed by a basket of fiat currencies such as the US dollar, the euro, etc. The Libra Association will invest this money and use the profits to run the network and pay dividends to themselves.
- Libra will be issued in blocks to approved companies who can charge fees to users for trading in and out of Libra.
Naturally, governments have taken notice…
Bank of England Gov. Mark Carney said that
“Libra has the potential to be a critical part of the global financial system given the social media giant’s reach and as such will need to be scrutinized by regulators and central banks”
The Wall Street Journal reported that “leaders of the Federal Reserve and an influential Senate committee saying they will scrutinize (Libra’s) rollout.”
Regulators will have to be satisfied before Libra can achieve its potential.
Global Payment Networks
Most cryptocurrencies can be exchanged for any fiat currency around the world through exchanges. However, some altcoin creators are going beyond that to build networks of banks and other financial institutions that will integrate their coins into global payments networks for remittances, business-to-business payments, and maybe even point-of-sale purchases.
Facebook & Co will attempt to build a global payments network around Libra and they have the horsepower to do it quicker than most. In the meantime, the leader in this space is Ripple, who has signed up 200+ financial institutions including banks and payment providers to become part of their blockchain-based network to exchange money.
They also have their own decentralized cryptocurrency XRP (#3 above) which is used as an intermediate currency on their network. XRP isn’t a stablecoin so its price fluctuates. This volatility will make it very tough for XRP to compete with stablecoins like Libra.
Ripple just invested $50 million into MoneyGram which will help them advance market adoption in cross border transfers and further evangelize their XRP coin.
The Big Announcement Nobody Heard
While Facebook has grabbed all the attention with their Libra announcement, IBM recently announced a new global payments network based on the Stellar Luman (#10 above).
Like Ripple’s XRP, the Luman has a volatile price which will likely prove to be a competitive disadvantage to Libra.
Nevertheless, IBM claims their Blockchain World-Wire is “the new financial rail that simultaneously clears and settles cross-border payments in near real-time… in 72 countries, 47 currencies, 44 banking endpoints.”
Who’s Making The Most $?
As previously discussed, there’s a lot of money being made in cryptocurrencies. Without a doubt, the people making the most money are cryptocurrency creators…
- Dan Larimer and Block.one’s EOS coin has already been mentioned.
- Satoshi Nakamoto, the creator of Bitcoin, holds $5 billion worth of Bitcoin.
- The creators of Ripple’s XRP originally awarded themselves 100% of all XRP that will ever exist, and now hold an estimated 70%+ of all existing XRP coins.
- The founders of ZCash are awarded new ZCash every month valued at $300,000 each.
- Founders of the new Facebook Libra coin will invest all the assets backing the coin and keep the proceeds to maintain the network and pay themselves dividends.
There are exceptions… Jackson Palmer, the creator of Dogecoin (#32 market cap) — a cryptocurrency created as a joke based on the once popular doge meme — is reported to hold less than $50 in dogecoin. So not everyone is raking it in…
Bitcoin Price Support/Manipulation
Cryptocurrencies can be purchased with other cryptocurrencies and thereby exert influence on prices. When the last trade of Bitcoin was at a price of $5,000, it‘s possible there were no dollars involved, but instead $5,000 worth of XRP or Tether. Maybe with coins that have never been traded, or stablecoins without sufficient fiat currency backing them up. And because none of this is regulated, it falls to the crypto community to figure out what’s going on.
The ability to buy cryptocurrencies with other cryptocurrencies, combined with a lack of regulation may provide price support for cryptocurrencies for the foreseeable future.
UPDATE: Since writing the above, the price of Bitcoin has surged from under $5K to over $11K. There’s some possibility that the price is being manipulated using cryptocurrencies, Tether in particular. If so, will manipulators step back and pull the legs out and watch Bitcoin crash again? Time will tell.
Coming Up
Next, we’ll explore other applications of blockchain beyond cryptocurrencies, discuss the controversy around which products should use the term “blockchain” (and why it matters), and try and wrap everything up.
Investigating Blockchain — Other Applications (coming soon…)
