Blockchain Big Picture: Q1 2018

The current state of blockchains— December 2017.

More than $500Bn is invested in publicly listed blockchain assets. Bitcoin’s valuation is less than half of that. Beyond BTC, investors have bought 33 crypto-unicorns; new digital assets worth > $1Bn USD each.

We’ve seen the first price correction since high fees rendered Bitcoin unlikely for trade. The utility and valuation of BTC is a matter of purest speculation; over price alone. Niche blockchains are finding efficiencies though applications are immature & unimaginative; most solve old problems better “on the blockchain.” Programmable blockchains promise smart coordination of resources in ways we don’t understand yet. We’re learning by collecting and speculating on the genetically fascinating crypto-kitties phenomenon / collectible asset / living artwork.

It is largely forgotten that traditional asset classes could be better secured and made more globally liquid with this technology. The friction between traditional asset management and the flow of its value to blockchain assets has created a global bottleneck of capital moving into ‘crypto’ that is easily exploited by arbitrage players just as information bottlenecks enabled arbitrage profits before Google levelled the playing field on the internet.

The only thing more misunderstood than a public blockchain is a private blockchain. Its use case doesn’t fit today’s enterprise technology model. Blockchains take the enterprise back to focusing on smart ‘middleware’ at a time when open service architecture has replaced middleware development. Like the surprising rise of the cryptographer in the software developer stack, the business process programmer is suddenly in demand again.

The blockchain industry is a baby giraffe. It is clumsy — moving out of sequence — big for its age — sticking its long neck out. Blockchains will ultimately have a tall impact on our world. The innovation in blockchain technology is to coordinate resources without a need for trust or trusted 3rd parties. Coordinating all global resources is an obviously bigger opportunity than the internet’s coordination of all data and services. This idea should feel weird — its killer apps won’t be version 2 of what we have now.

It is still “day one” — Q1 2018.

If you’re getting your head in this game, you are not too late and it ain’t no party — but it will be. Fresh eyes are your asset and many of the smartest minds aren’t in the room yet. We have new heroes and new villains — you will encounter both. If you’ve experienced a technology revolution, you’ll know what I mean when I say we’re in the necessarily awkward “Dungeons & Dragons” phase of this one. Women are yet to join the industry in equal numbers to men— a huge opportunity — this ratio is currently skewed by a factor 10 plus and it holds us back. There are numerous entry points and gaping opportunities. This list is the big picture, bullet-style, roughly organised into a story that unfolds in 8 major themes. I hope you find it useful. This is my record of one of the most interesting social shifts in our lifetime:

1 Banking Bitcoin’s hidden lessons.

  • Valuable assets can be securely issued, held and transacted without intermediaries. In BOLD, italic and first on the list because it’s the lesson you will be asked to forget — by many of the shiny new solutions that come our way ‘on the blockchain’ in 2018.
  • Global liquidity rapidly attracts value to assets secured on public blockchains. Fear of Missing Out (FOMO) on this growing interest adds increasing currency value to publicly traded assets in a powerful liquidity = value = liquidity growth cycle.
  • The man in the street wants to bet on the blockchain — and he can, with increasing ease. When he wins, he doubles down and his crypto-pot grows. Exposure to digital assets forces him to understand them like exposure to social media compelled him to understand the internet. You should note that money has a far more frequently engaged and valuable audience than Facebook and Skype do.
The golden goose of cryptocurrency. Artist and friend, Rich, at Lovers Press sent me this great illustration. He’s got more crypto-themed artwork.
  • The value stored in a liquid global currency can expand rapidly. During expansion, value becomes speculative and detaches from the capital value assigned to the asset. Cryptocurrency valuations become wild current estimates of potential future stores of capital in those assets.
  • Economics could not predict the value that BTC found in cross-border liquidity and 24/7 trade. Another internet parallel is a blockchain assets’ always-on and on-demand availability. Today’s liquidity models did not plan for this.
  • Bitcoin’s final hidden lesson is to teach us about the nature of our greed. Just like YouPorn made us understand lust and Facebook forces us to face vanity and lies, blockchains will ask us to examine our greed. Some days, it feels like technology is stepping society through its seven deadly sins (and I want to leave the planet before we get to ‘murder’). I won’t go further on this topic of greed but beg you to be conscious of it.

2 Diversification in a Bitcoin-priced marketplace.

  • Bitcoin profits are being diversified into competing, complimentary and niche blockchain projects. In the correction, median BTC transaction values rose 5X to $5,500 — approximately half the average account value. The same 1:1 ratio in ‘diversify vs hold’ behaviour is seen in the total market’s capitalisation split of about 50% to other coins.
  • During the December ‘17 correction, much of the blockchain market became priced in BTC. Large Bitcoin positions were being diversified, re-pricing valuations in competing solutions despite increased demand. Bitcoin is still a monster — Bitcoin sets the value of other assets in market shifts — this market’s valuations are fragile.
  • When BTC did lose large value, the safe money retreated to USD and to a few cryptocurrencies considered safe(r) than others. The banker’s pick, Ripple (XRP), for example, is enjoying the downside of speculation over Bitcoin’s future. When assets behave as expected, their value can increase rapidly. These new safe havens will compete with traditional ‘un-chained’ options for security in times of uncertainty in 2018.

3 The ground zero use case: back to the future of national currencies and old school asset management.

  • The blockchain industry skipped over the opportunity to improve liquidity and security in traditional currencies and other assets. This is the blockchain industry’s ‘ground-zero use-case’. Its story will dominate 2018’s blockchain news.
  • UPDATE: The Cryptocurrency Big Picture, published since this, dives deeper into implications for global and national currencies.
  • Any asset that relies on central governance or on 3rd party agents for security can be secured (and governed) on a blockchain. Traditional assets face opportunity for efficiency, liquidity and total disruption.
  • Coordination benefits alone are claimed to yield 20% to 40% asset provisioning and trading efficiencies. Listed equities and commodities will become blockchain securities. By the time that happens, it’ll feel obvious and overdue. Consensus is a painful process.
Estonia is a beautiful country — Tallinn, the capital. All that’s missing is: you!
  • Where consensus is not required to offer blockchain securities, we will see rapid shifts in society. Governments will replace central banks and administrations with blockchain projects. Estonia leads the way, philosophically, with Belarus, Gibraltar and Mauritius all taking an open, democratic position. The next colonization won’t be a physical land grab — progressive democracies are after capital and human capital and they needn’t set sail to do it. The flip-side of this slippery slope is the hold-out countries where nationalism will force currencies to be held captive. This topic will be a fierce debate at the 2018 G8 summit.
  • This discussion will come disguised in a debate around funding of global terrorism and organized crime. This is not the core issue but will be an effective temporary handbrake while governments buy time to think it through. Blockchain engineers will solve for KYC/AML compliance in 2018 and we’ll move on from discussing this exception to the happy path of legal global liquidity.
  • The 'one to watch’ is Israel. What happens when the best software engineers outside of the US offer a blockchain security to Israeli’s for global trade in their broadly held assets? Israeli startups have mastered global e-commerce, online payments and internet assets (gaming and gambling.) Israeli hedge fund managers are at trading desks from New York to Beijing to Cape Town. The Israeli government is simultaneously investigating regulating Bitcoin trade and issuing a crypto-backed public currency. This anecdote gets its own bullet — it is that important.
  • If open information has forced changes in global governance and politics then open money and nationality will ridicule our current coordination efforts — like Google can tease the Yellow Pages, borders become increasingly meaningless. Power becomes less trivial to wield without influence over our taxes and passports. Influence is now attained via our attention. Open democracies’ public policy will start to read like the list of Google employee benefits. This next war for our minds is beyond my current imagination.
  • On a more productive note; there are entire asset classes that aren’t as contentious as national currencies that could use a global jump-start. 10X plus improvements are to be had when we apply Bitcoin-like liquidity to traditional assets. What if collectible-quality wine could back a global currency? Houses? Undeveloped land? Agricultural land with its seasonal dividends? I am working on reinventing the market for Art in this way. You will be able to store your capital in contemporary African art on my wall and I will bank some profit in the Mona Lisa. The rest of the profits will buy more art and feed living artists. It’s a colourful future.

4 Blockchain’s primary use case — open money.

  • Meanwhile, the blockchain’s original war for our minds rages on. We are back to discussing the global race for ‘the’ cryptocurrency. There is no consensus on which coin it will be. This speculation is increasing valuations broadly across both viable and questionable options. One thing is certain; to the victor goes the spoils of the blockchains’ primary use case i.e. global money.
  • As Google’s search dominance is to the coordination of information, so will phase one blockchain power and profits flow to the project(s) that can coordinate cryptocurrencies best. With those profits, phase 2 will be built.
  • Like information, there will be islands of money that can be ring-fenced by early movers. The Amazon of cryptocurrency will serve financial services verticals where it finds specialised liquidity providers — for loans, insurances, mortgages etc. again, XRP is the current example. The end user interfaces and consumer products are yet to be built. Startups will beat the banks to it. VCs will fund their marketing plans. By 2020, banks with retail exposure are either pivoting to blockchains and acquiring startups or imploding. This trend will obviously cause havoc for financial services equities. Expect the bank lobby to intensify and fin-tech innovation to slow (relative to the RoW) in the US and China.
  • There are 4 points of view on how we will use a global cryptocurrency. The ‘store of value’ argument for Bitcoin is now being priced. Next, the enterprise banking system would seek to control a slice (this may be to their demise as discussed above.) Third; the obvious argument is that most money flows into the wallets of the man in the street; LiteCoin, DASH, ZCash and almost every hard fork of Bitcoin takes this view. It is compelling and will remain a hot debate in H1 ’18. The fourth contender is the smart cryptocurrencies of the programmable blockchains. The what? This is a theme on its own.

5 Smart currency on programmable blockchains points to a much better and totally disrupted future.

  • We do things that are not smart with money without realising it. We pay eBay before an item is sourced in China and (hopefully) arrives at our doorstep. Not smart. We carry currency around on pieces of paper in our pockets. We give money to people we don’t know before they do what we’ve paid them for. We donate money with no guarantee that promises will be kept when it is spent by charities or politicians. We fund failed Kickstarter projects globally and then have to wait for local liquidation by the neighbourhood sheriff. All not smart. All huge opportunities for the crypto-banks of tomorrow. It’s time for banks to start putting their capital liquidity to more valuable use.
  • We have solutions today that protect us from this stupidity. They will be found lacking. Today’s marketplaces trade capital liquidity and arbitrage margins for offering guaranteed security via intermediary services. Popular examples are Amazon Prime, iTunes, Netflix and Uber. Licensees trust these 3rd parties with their content, resources, supply chains and capacity and users trust them with their credit cards. Intermediaries are not required when paying with smart money in apps running on programmable blockchains. Walled gardens are a horrible strategy going into the blockchain revolution (hello APPL).
  • The idea that a Blockchain can secure any asset and that its behaviour on the blockchain is governed by software code was extrapolated further to create smart or programmable blockchains (we are yet to find the right words here). Immutable program code that defines transaction protocols we all use via apps become another blockchain asset — complimentary to crypto-currency and other assets licensed on the network. It will take us a while to grok the power we now have to create productive value without the requirement of a firm. That word already sounds old-fashioned. “Firm” “Bwahahahahaha” — this will be our grandkids’ view of economic history. We will go further down the programmable blockchain rabbit hole.

6 Follow the diamond. Understand Smart Contracts. Secure all the assets. Create new assets. Build tomorrow’s consumer applications.

  • Ethereum, ETH, Ether — gets its own theme. Here’s where we also get new heroes. The purpose of this post is not to blow wind up anyone’s skirt — the leading thinkers in this theme are Vitalik Buterin, Vlad Zamfir, Consensys and Joseph Lubin — they will introduce you to others. For a front row seat in theme 6 you have to be on Twitter. It’s moving too fast for other media.
  • The software protocols that we develop to make transactions smarter are called Smart Contracts on Ethereum. One of these protocols, called ERC20, standardises the issuance, listing and trade of digital securities on the Ethereum network — it’s a use case that’s a tad more complex than my better-eBay example. The ICO (initial coin offering) phenomenon is an alternate route to venture financing that skips the airfares, the boardrooms and the pitch decks. By Q3 2017, ICO fundraising had outpaced VC rounds in total valuations for the year. 39 of the top 100 tradable coins (by value) are run on Ethereum. In the top 100 tokens (crypto-assets on programmable blockchains), Ethereum has an 86% share.
  • Thanks to extreme abstraction, programmable blockchains are potential base-layer solution to all problems and opportunities discussed above. All of them. In 2018, engineers, project teams and startups will take up Buterin’s challenge to build more stuff that makes the world a better place. On the recent event of attaining a half trillion dollar crypto market size, Ethereum’s inventor had this to say:
Followed by: “How many unbanked people have we banked? How much censorship-resistant commerce for the common people have we enabled? How many dapps have we created that have substantial usage? Low added value *per user* for using a blockchain is fine, but then you have to make up for it in volume. How much value is stored in smart contracts that actually do anything interesting? How many Venezuelans have actually been protected by us from hyperinflation? How much actual usage of micropayment channels is there actually in reality? The answer to all of these questions is definitely not zero, and in some cases it’s quite significant. But not enough to say it’s $0.5T levels of significant. Not enough.

7 The only internet analogy that you must understand.

  • There are more internet analogies in blockchain stories than you can shake a stick at. The only analogy that you ultimately must understand is that: unlike the internet, you and I can own the network that enables smart money. This is why only Bitcoin’s capitalization exceeds that of Ethereum. ETH is obviously the lion on the cryptocurrency hill. If you could invest in the protocols that power the internet, would you?
  • The man in the street can own Ether (ETH); the currency of stored value, trade and production on the Ethereum network. In theory, the network’s value increases exponentially with use. The utility value in programmable blockchains is obvious. Ethereum is way out in front but not the only platform solution. Neo and Ethereum Classic are contenders. Niche but hugely disruptive platforms, like IOTA, come at it from a distributed ‘internet of things’ angle. Others enable aggregation and utility of distributed digital resources. Again, all of these use cases can possibly be abstracted to the most base use case of a generally programmable blockchain. With adoption and network scale, Ethereum’s moat is unassailable.
  • The value that lies in Ether (ETH) also being chosen for global trade is less obvious. It is not the primary focus of the Ethereum Foundation and that altruism attracts broad adoption to the platform. The paradox is that Ethereum could achieve ubiquitous utility without ETH attaining global cryptocurrency value. This is Ethereum’s blind spot. As an investor in the next internet, you could either end up owning the next Google (if ETH wins organically) or the next Apache (if Ethereum wins but another coin takes the cryptocurrency crown.) Until speculation over ETH’s future value ends, Ethereum’s market valuation remains muted relative to its potential. If you’re an investor in Ethereum, the story we tell about ETH — the currency, not the platform — is the one to pay closest attention to in Q1, 2018.

8 Is it ready for us? Yes and No.

  • Finally, we discuss the technology. Public blockchains differentiate themselves in technical performance in 3 main areas:
  1. Security. Security of network assets, protocols, transactions.
  2. Privacy. Public network participation without publicity.
  3. Scalability. Transaction throughput and concurrent network usage.
  • These attributes are the ticket to the blockchain game. They aren’t yet solved to the extent that we require for the revolution. An evaluation of all 3 is required to understand a blockchain project’s application and readiness. Trade-offs are made in niche solutions where you can typically only have 2 of the 3 and that’s often good enough for niche innovations. Only the generally programmable platforms seem to excel at all three.

Once these 3 boxes are checked, we will be able to start to value the assets and production capacity of these networks. Until then, their values are an un-ignorably speculative affair. We all have a fear of missing out on the baby giraffe.

If you’ve read this far:

  • Thank you! If you found value here, please share this — it won’t be fresh for long. The next essay in this series is the Cryptocurrency Big Picture: What will we need global money for? We have 5 basic needs of cryptocurrencies: the need to bet, borrow, hide, earn and pay — in descending order of capital value.
  • Update: Thanks for the amazing feedback. The BCBP and other essays will make their way to a book. I am looking for US and SA publishers — if you’re interested.
  • Many sub-plots didn’t make the list. Tell me what you think I should’ve highlighted in the comments. Some things that I wanted to write more about are: — Lazy corporate thinking “on the blockchain” — Steppening towards the Flippening — Group think in enterprise due diligence will consolidate platform offerings in industry verticals — Everyone’s a VC. — and last, because it is my most important omission: “What about AI?” Let’s discuss AI further next quarter.
  • As always, this is not my advice for your investments.
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