The Great Protocol Sink (Market Monday)
Market Monday for February 10, 2020
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Dear Crypto Natives,
Today the crypto money stack looks like the above. BTC and ETH is the crypto money at the bottom of the stack—the money settlement layer. ETH and BTC capture value in the form of liquid market cap—a term I’ve come to call economic bandwidth.
The crypto banks (the centralized exchanges) use the bandwidth of the money layer for trading pairs, liquidity, collateral. They offer lending, borrowing, payment, staking—all the money verbs. They issue tokens: stablecoins, and gold, and securities. You know them by names like Coinbase, Gemini, BlockFi, and BitMex.
DeFi protocols like Maker and Uniswap use the crypto money layer too. They’re growing fast—a billion locked in DeFi—but they’re still tiny compared to crypto bank value capture. Just a sliver of trading, derivatives, stablecoins, and loans. An example: DeFi did $700m in loan origination last year—impressive! But the crypto bank Genesis did more originations than all of DeFi in a single quarter.
But protocols have a way of becoming the foundations of things. Their credible neutrality gives them higher density compared to centralized agents. Put liquids in a glass, what happens? The dense liquids sink to the base. The same in money systems—the money protocols become the base layer. They sink to the base.
An example? Binance has BNB token. They’d love if others used BNB as a money layer. They’d like other banks to adopt it as a core trading pair and build on it. But Coinbase never will. Neither will Gemini or Kraken. BNB is low density because it isn’t neutral. BTC and ETH have higher density and thus become the base layer of the money stack.
This is protocol sink. Higher density DeFi protocols sink lower in the money stack and displace crypto banks.
This means we’re headed toward a future more like this:
In this future the crypto banks still interact with the money layer, but less directly and more through DeFi protocols. Instead of using their own lending pool, the banks use Compound. Instead of sourcing their own liquidity, they use Uniswap. Instead of providing their own DAI lending rates, they use the DAI Savings Rate (DSR).
This doesn’t happen all at once. The banks source Uniswap liquidity “just for the long-tail assets” at first. But soon, they’re sourcing Uniswap for everything. And no, the crypto banks don’t die, they can still thrive by wrapping these protocols with their own value-added services. They can give you more than the DAI Savings Rate, they can give you the DAI Savings Rate "plus 10.25% bonus interest if you sign up before March 6!”
Think this is far-fetched?
That last example is live today on OKEx. Why? Crypto banks like OKEx can’t compete with the risk/return of the DAI Savings Rate—they don’t want to—it’s better for them to wrap the protocol inside their offerings. They compete with banks, not protocols.
But each time a crypto bank adopts a DeFi protocol and feeds it capital the protocol gets stronger. The protocol accrues network effect. And value. It gets fatter.
No, Coinbase won’t create a competitor to the DAI Savings Rate. Coinbase will adopt the rate, add it to their offerings, and continue to compete with OKEx and Binance who’ll inevitably add the DAI Saving Rate to their offerings too.
It’ll take time. The DeFi protocol sink will play out over years and decades.
But protocols will displace banks just as crypto money systems are displacing fiat systems. You could sum up the entire crypto money thesis as this: crypto is higher density than fiat, thus, it sinks to the base layer of human society and inevitably becomes the foundation for everything.
This is the great protocol sink.
It started 10 years ago with Bitcoin and it continues with DeFi today.
I didn’t make any predictions for 2020 yet but here’s one. At least one A-rated crypto exchange will adopt the DAI Savings Rate sometime in 2020.
Longer term it’s more interesting. Eventually the high density DeFi protocols become our base banking layer—the protocols displace the banks.
And the banks either adapt or die.
Scan this section and dig into anything interesting
ETH popped to $222 from $189 last Monday
BTC shot up to $9,850 from $9,278 last Monday
DAI stability fee steady at 8% with savings rate steady at 7.75%
(Lend) but crypto.com offers 10% on USDC w/ 50 MCO staked (get $50 MCO)
(Trade) What’s the lowest cost way to go from fiat to DAI? 🔥🔥
Dex.ag has a new UI (test mode only—keep the trades small!)
Eth2 AMA - Vitalik, Justin Drake, Danny Ryan & other researchers
What is Modern Monetary Theory 🔥- Noam Levenson
WHAT I’M DOING
Check out a few opportunities I’m capturing right now with my crypto money
Gave DeFiSnap a try. Someone mentioned it in Friday’s Open Thread. DeFiSnap is a DeFi activity aggregator, similar to myDeFi and Zerion. Overall impressed! Though here’s the thing about DeFi aggregators—they’re having a hard time keeping up with the newest DeFi protocols. None of them have all the protocols. Most are about three months behind the newest features. I get the sense we’re still waiting for our killer app in this category.
Looked through Chris Blec’s DeFi Custody spreadsheet. Many DeFi protocols still have developer access to funds—they are not fully non-custodial. Most often this is not due to malicious intent, these protocols are so early in their life it would be imprudent to fence off developer access—who else would fix the bugs? Still, transparency and education on this is lacking and Chris did an excellent job surfacing current state to the community. (Watch video too)
What’s the coolest thing you did last week in crypto?
Finally moved some cash savings out of 1.6% traditional finance high-yield savings into 8.75% DSR - @econoar
Deployed an open source high frequency trading strategy onto a $20 billion market in 5 minutes. - @jbrukh
Make time to complete this assignment before next week
Send DAI on a timer. A super cool DeFi app called Gelato came out last week—it’s like an If This Then That (IFTTT) app for Ethereum. We’re going to use it to create a timer to send 2 DAI to someone in 24 hours.
What you need: MetaMask, ETH for gas, and DAI
Risk: High-risk—suitable for test amounts only! App is in alpha mode.
What you do:
Go to gelato.finance & connect MetaMask
Change the “Condition” box to “Time”
Change the “Action” box to “Send Tokens”
Click “Instruct Bot”
Set Condition: Pick a date and time (try tomorrow)
Set Action: Select DAI, add recipient address, click Next
Transaction 1: Deploy the bot (7 cents)
Transaction 2: Approve Gelato to move DAI (5 cents)
Transaction 3: Submit instructions to bot (12 cents)
Your instruction has been sent—view it on the dashboard.
This tool could be used to sell assets at a certain price or buy assets when a token balance gets too low—I expect we’ll see many IFTTT-style recipes in the future.
Extra Credit Learning
(Beginner) VIDEO: What is DeFi? - Chris Blec
(Beginner) Get 7.75% DAI interest using Argent
Read my takes but draw your own conclusions
Tweet me your question—I reply to one per week
Question from Twitter:
Would you recommend storage devices over exchanges? I’ve been thinking about buying a Nano and have been researching storage devices/cold storage.
I’ll assume you’re talking about cold storage. The part of your crypto holdings you don’t intend to store for longer periods of time, not for daily or weekly use.
For this it depends on your proficiency. I recommend baby steps:
Level 1: store everyone on exchange (a good one like Coinbase—use their vault)
Level 2: store some on hardware (just small amounts on a Ledger)
Level 3: store most on hardware (multi-device, social recovery, w/ restore)
Each level requires a proficiency leap. Jumping straight to Level 3 is a mistake, but staying at Level 1 limits your opportunities.
Don’t even think about moving from Level 1 to Level 2 until you’ve learned and practiced seed phrase storage, recovery, transacting on Ethereum, transacting on Bitcoin, and using Ledger software. Always start with small amounts.
I expect we’ll get to all these topics in time on the program. But there are many resources you can hunt down and self-learn in the meanwhile.
Everyone moves at their own pace!
Some recent tweets…
Execute any good market opportunities you saw
Complete weekly assignment: send DAI on a timer using Gelato
Not financial or tax advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. This newsletter is not tax advice. Talk to your accountant. Do your own research.
Disclosure. From time-to-time I may add links in this newsletter to products I use. I may receive commission if you make a purchase through one of these links. I’ll always disclose when this is the case.