Last week I was attending a startup pitch event in London. By chance I ran into a Web2 SaaS VC investor who was curious yet skeptical about crypto. It wasn’t long into our chat before he asked me “what does crypto do?”
Of course I proceeded to explain how crypto has already become a key component of world’s biggest asset managers as well as financial institutions. Yet 5 seconds after my confident delivery of stats, facts and news, the traditional VC investor’s puzzled look didn’t change a bit. I questioned myself “How come he still doesn’t get it? Tokenization is going to onboard the next trillions of capital.”
While that may be true, to onboard the next 1 billion users on to crypto, I am going to have to explain crypto better. I will attempt to do the latter in a short and easy to understand way here. Let me know how you would explain crypto in the comment section below.
So what the heck is crypto?
When people talk about crypto, it is often in the context of price. Thus what people are referring to in this context is crypto, e.g. Ether or BTC the asset. Yet to understand what gives ETH and BTC their value, we must first understand the unique properties of the underlying blockchain technology.
The Ethereum and Bitcoin - the blockchains
Right now every company we interact with, be it JPMorgan or Apple, has their own internal databases that are recording and maintaining a myriad of information such as bank account balances or health information recorded by an app.
These databases are
siloed (only the particular company have access to this information)
permissioned (the information is held and belong to the company and not any other entity or you the user)
easily seizable (government or corporate entities can easily seize your assets whatever the database says)
Ethereum and Bitcoin blockchains are two open, permissionless and self-sovereign network of databases. Let’s go through these three terms one by one:
Open means that the information is easily verifiable and can be used to build more interesting things. For example, a lender can build an automated loan marketplace so that if the Ethereum blockchain shows that a company is making $50k a year, this company is automatically qualified to take out a loan up to 80% of its revenue. Now if this company were to go to a bank to ask for a loan, a few things can happen. $50k may be too small a number for most banks to lend you money. The company may be required to fill out paperwork that takes 3 weeks to process.
Permissionless means that anyone can join the network to record and maintain the database. You do not need to ask for permission to start an enterprise where you spin up an Ethereum or Bitcoin node in exchange for network rewards. Currently there are over 766,000 Ethereum nodes and 43,000 Bitcoin nodes. The permissionless nature of these two blockchain networks make them incredibly difficult to compel for any governmental or corporate entity.
Self-Sovereign means that you and only you hold your assets and this is baked into the blockchain network by design. Currently we rely on property laws to ensure people have their property rights protected. But what is obviously true but much less talked about is that property ownership rules can be easily changed for political purposes. Remember how Russian Central Bank has its assets frozen by the US, UK, France and Canada? Or how the government can freeze any and all of your assets whenever it sees fit? On Ethereum or Bitcoin blockchains, no one can freeze your assets because they do not agree with you on your political, philosophical or religious views. We call this property credible neutrality.
While both Ethereum and Bitcoin share the above three properties, they do have a big difference in terms of capabilities. Ethereum is a Turing complete blockchain network while Bitcoin is not.
This means Ethereum can function as a general purpose computer on which various gaming, productivity and social media applications can run while Bitcoin is built more like a calculator, designed specifically to do one thing. In the case of Bitcoin, that is the sending and receiving of BTC the asset.
Ether and BTC - the assets
Now we understand the basics of the Ethereum and Bitcoin blockchains, what about the value of Ether and Bitcoin the assets? The value of these two assets is born as a result of the economic activity and monetary policy enforced on top of the two respective blockchains.
BTC the asset is commonly described as digital gold and used for the purpose of store or transfer of value due to
limited fixed supply (21million BTC)
ease of storage (no need to hold it in a central bank vault and can be carried in one’s head)
self-sovereign nature (no entity can seize it from you)
Each time someone sends BTC, he/she pays a transaction fee to the network. This fee, together with the network’s monetary rewards, is awarded to a Bitcoin miner that is doing the work to maintain and verify constantly the network’s database.
Bitcoin was the first public blockchain to launch in reaction to the massive monetary easing that followed the 2007 Global Financial Crisis. As a result, BTC’s value is inexorably tied to a narrative of anti-inflation hedge as well as self-sovereign monetary asset. This simple narrative has made BTC extremely easy to understand and to adopt when compared to ETH the asset.
Ether shares BTC’s ease of storage and self-sovereign qualities but adopts a more flexible and pragmatic monetary policy to enable a richer set of economic activities and applications to be built on top of it.
Because of this richer set of economic applications, the Ethereum network is generating significantly more revenue than the Bitcoin network. For the past year, Ethereum has generated $1.9bil in revenue while Bitcoin has generated $289mil in revenue. Of the top 25 fee generating crypto projects, 20 are built on top of the Ethereum blockchain.
This economic value is also distributed differently between ETH and BTC holders. The fee revenue of the Bitcoin network is awarded specifically to the Bitcoin miners while the fee revenue of the Ethereum network is distributed to the ETH holders who help to secure the network through an process called staking.
Instead of having a predetermined fixed supply of Ether, Ethereum blockchain network has a flexible monetary outcome depending on the economic activity level onchain to help manage peak demand period.
On a more practical level, while BTC has a limited fixed supply, Ethereum has been deflationary for much of the past year. See the “SUPPLY CHANGE” number below.
Depending on your view of Ethereum’s future revenue generation potential, you can value it in the same way you value a big technology company with metrics such as P/S and P/E multiples. Of course with the added benefit of holding a self-sovereign asset by default vs shares that rely on property laws to enforce your rights.
By contrast, it is impossible to value BTC in this framework as BTC does not generate any cashflow for its holders. However, being the biggest blockchain asset and with the clearest regulatory compliance, BTC the asset is likely to the easiest and first entry point for the massive institutional looking to allocate to crypto as an asset class. Though I do fully expect more capital will be allocated to other more value oriented, innovation centric and cash flow generating assets such as ETH as institutional players get more comfortable and familiar with the nuanced differences between different crypto assets.
Disclaimer: This content is for informational purposes only, you should not construe any such information or other material as legal, tax, investment, financial, or other advice.
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