Gaming is different. Game designers have to tackle ancient mysteries like the construction of “fun”. Well designed games tap into our dreams and most secret desires. They invite us into worlds that let us forget about reality and be better, larger versions of ourselves. One cannot simply slap a governance token on a game and be done with it. In fact, one might destroy a carefully designed game by doing so.

Back in Summer 2020, DeFi felt very much like the arrival of something we had long been waiting for. Web3 gaming right now feels like the preparation for a crazy journey to an unknown destination.

So, put on your thinking hats, make sure you wear your big girl pants and don’t forget your rollerblades. We are about to introduce you to Web3 gaming. Ahead, there is no certainty bar the certainty that it’s going to be an awesome ride.

The Promise

Digital Asset Ownership

Many successful games have spawned meta-economies that reach far beyond core gameplay. Highly coveted cosmetics for the tactical shooter CS:GO are known to fetch 6 or even 7 digit prices. MMORPGs like EVE or Entropia Universe seem particularly well suited for real-world-connected economies, allowing a chosen few to roll high on in game assets, and sending many more to toil in the digital mines, hoping to make a living.

Game assets have been carrying real-world value for a long time now. But who is the real owner of that 50’000$ gun skin, or of that 330’000$ space station? As many have learned the hard way, game assets are wholly owned by those who run the game, and our right to use them is governed by the terms and conditions that we accepted without reading when we first started up said game.

Blockchain tech promises to change that. What if we could truly own our most valuable game assets? Be certain about some of their properties? What if we could carry them between games? What if we could incorporate them into creations of our own? Extend them? Give them a history?

There are many questions still to answer regarding game asset ownership. Can assets of a game that is no longer popular continue to carry value? Is there at all a way to transport gameplay value of assets between different games?

Without any doubt, there are new forms of play, of wonder and excitement to be derived from irrefutable ownership of digital assets. The first successful Web3 games will take ownership of game assets seriously and simply by doing so lift those assets into new spheres of value.

An Accessible, Transparent 24/7 Global Marketplace for Digital Assets

Traditional game developers are reluctant to accept the connection of their game-economies to the real world. Valve, the monopoly holder in PC gaming makes it all kinds of awkward to trade game assets against real world money — unless you buy directly from Valve that is. 3rd party marketplaces for game assets often operate in a legal grey zone, which again attracts unsavory actors and makes game asset trading almost as shady as the shadiest corners of crypto.

This too will change with the introduction of blockchain tech. Ownership and trading of digital assets comes naturally in our world. Beyond ownership and trading, clear contracts can be enforced on important topics like creator royalties. Transparency can be ensured regarding asset rarities, liquidity, trading activity or ownership distribution.

The Pain

Money vs. Fun

Successful games are carefully crafted refuges from the real world. Because there’s nothing more real than money, hooking up games to the real world economy is a tricky endeavor. All too quickly, real world greed kills the fun and fantasy space we are looking for in games.

CS:GO skins are valuable because the tremendous fun of the game’s PvP battles outweights the destructive power of greed enacted by those who want to amass skins at any price. WoW still exists because the excitement so many derive from its worlds outweights the boredom created by people and bots endlessly repeating the same acts to farm for gold.

So far, no Web3 game managed to find a way to use real-world greed as a spice for in-game fun. We have really good games with really shitty Web3 integrations, or really shitty games with brilliant Web3 visions.

Most likely, the first successful Web3 games will not even enter the money vs. fun mine field. They will simply be good games in the conventional sense that use Web3 rails for their most valuable digital assets. Most likely, those games will not promote themselves as “Web3” either. They will be carefully designed to let new players experience the game first, and only those who keep hanging around and dive deep will eventually discover that there’s a whole new meta around valuable game assets.

A Conservative Industry

I’ve never wanted anything to change.

Barbie

What do you get if you put together a lot of people who want to create the perfect, fun refuge from the real world?

Making games fun is hard enough without real world constraints. That’s why game creators have traditionally focused on gameplay alone and consider game monetization and especially innovation in game monetization one of those nasty things the evil people on the top floor of the building do to finance the next game.

Gamers regularly get their pitchforks out when a game creator dares to openly innovate on how they make money off their game. To this day, many gamers have a hard time accepting the two decades old monetization innovation of free to play. And many game designers keep dreaming of a world where the creation of games is a purely artistic endeavor, far away from any monetization constraints.

In an industry that is incredibly timid when it comes to economic innovation, it will take a long time until the big brains direct their attention towards Web3. In the meantime, we are stuck with washed-up DeFi founders from 2017 who pay damages for pain and suffering to 3rd grade game designers, while boasting about the tremendous amounts of money they raised. The outcome in terms of fun can easily be predicted.

Let’s face it, mainstream gaming, creators and players alike, loathe Web3 with a passion. They simply don’t see Web3 as a tech to consider for future games. The first Web3 gaming success will happen in spite of that. Will it come from a traditional creator that dares to defy mainstream thinking, or will it come from a Web3 crew that managed to understand what makes successful games tick?

The Money Trail

If there’s one thing we blockchain people have always been good at, it’s sniffing out the money, while patiently waiting for the fundamentals to grow and legitimize our eye-watering gains.

For a brief period in time, we pumped “play to earn” so hard that serious people started believing it’s an actual thing. We got them to “move to earn”, another very sustainable Web3 idea. On vague gaming and metaverse promises, we raised so much money that traditional gaming studios grew pale with envy and started issuing public condemnations left and right.

It’s hard to not be cynical in the face of how the Web3 crew has approached the magical world of gaming so far. But certainly, there must be a way to follow the money trail in a more positive spirit?

Shovel Makers

The fixture of the traditional gaming world that is most obviously ripe for disruption is ownership and trading of digital assets.

Often monopolized, always intransparent and with take rates of 35% or more profoundly unfair towards those actually creating games, reality has clearly out-grown whatever digital asset rails traditional publishers created for their games.

All it takes is one desperate indie or one ballsy incumbent to create a successful game on Web3 rails and whoever provided those people with the necessary tools will be a winner.

For that reason, we are bullish on projects that provide infrastructure for digital asset ownership and trading in the context of games. A single, hugely successful game project using Web3 rails for its assets could chime in the next phase of blockchain mass adoption.

Some projects that we are following:

• Immutable ($IMX) is a plausible winner among the gaming-oriented scaling layers. Immutable’s easy onboarding, transaction- and marketplace infrastructure and dedicated services for game developers (like Unity or Unreal SDKs) managed to attract many serious builders. Over 150 games based on Immutable are in the making.
• MeritCircle ($MC) was born out of an Axie scholarship organization called Axie 420. The DAO has since matured and grown into a serious force in the blockchain gaming space. Merit Circle is organized in verticals: Investing, Gaming, Studio and Marketplace/Infrastructure. Their recently released Beam ($BEAM) scaling layer is based on Avalanche and takes a direct stab at the big infrastructure players like IMX. Beam already seems to be gaining some traction with builders.
• Enjin ($ENJ) has been around for a scary long time, but recently upped their game by launching their own, substrate based chain. We will be looking for signs of traction here. $WAX, another ecosystem player with its own chain seems to have been able to retain a bit more interest than Enjin. $GALA is another entity in this area that impressed us with the enormous prices they charge for the right to run a node on their barely existing chain. We’ll add $RONIN here too, Axie’s chain that by now has managed to attract several other projects focussed on player owned economies. Honorable mentions in this category: Ultra ($UOS) and Bluzelle ($BLZ).
• Nakamoto games ($NAKA) is taking more of a game publisher approach to the blockchain gaming challenge. It has a distinctly blockchain OG vibe, a niche area where play to earn how they understand it might still fly.
• Echelon Prime Foundation ($PRIME), the makers of the Parallel TCG have recently shown ambitions to grow beyond Parallel. Thanks to the attention that Parallel already managed to attract, this could lift them into the shovel maker sphere.
• Oasys is a newcomer that we’ll be watching mostly because their founding team has serious heft.

Who Will Crack the Code?

Making games is hard and takes a lot of time. Following game creators and predicting their success or failure is even harder. We believe that as a broadly oriented investor in crypto, we do not have the time and brain power to follow individual Web3 games while they are being developed and to react to the constant changes in game asset economics that are an essential part of the development process. We therefore believe that betting on individual games within a general purpose crypto portfolio is futile and we won’t do it.

That said, we fundamentally believe that one day, somebody will crack the code and pull just enough sizzle from the wild world of crypto into a new kind of game that will provide an entirely new depth of fun and merrily distracting competition.

While we wait for this miracle to happen, we will try to squeeze as much fun as possible out of the current offering. Here’s a hand full of Web3 enabled games that we already like playing or are looking forward to play in the near future:

• Dr. Disrespect’s Midnight Society is working on Deaddrop, what they call a “vertical extraction shooter”. Their first published game snapshots show promise and progress. Midnight Society’s approach to Web3 has been lackluster so far, not even giving their original “founder’s pass” investors any advantage on new item releases. That said, the Dr. is one of the few core gaming people who still dare to even utter the “B” (Blockchain) word, timidly, from time to time.
• Sharpnel impressed us with a very well thought out economic paper and with some deep thinking on gaming/web3 avenues for the future. Their game, another extraction shooter, seems to be coming along nicely, but we haven’t gotten to play it yet.
• The Parallel trading card game’s artwork captured our attention long before the game even existed. And it seems that we are not alone. Unfortunately, the actual experience of playing the recently released game has been rather lackluster.
• Looking at the price, and the funding, and the price, and the funding, and the founder’s pride, there must be something there, but we still don’t get it. We are talking about Illuvium. Guess we’ll have to keep playing.
• Phantom Galaxies has shown some promising early gameplay a while back and promising early access trailers more recently. We do have doubts whether the unbelievably ambitious goals this team set themselves can actually be reached.

Wait! No Alien Worlds, or Splinterlands, and what about good old Axie? It’s not unlikely that play to earn will have a revival in this upcoming bull market. Play to earn might even be the topic of a separate MAV article one day. We do however believe that play to earn games lack crucial components of what defines a game, most notably they lack fun. Play to earn isn’t a game in our eyes but a separate, 3rd thing like DeFi yield farming. While play to earn might again attract a lot of attention in the crypto community one day, those models are ultimately not sustainable and cannot have the kind of mass appeal that we are looking for here.

Conclusion

Without any doubt, Web3 tech will disrupt game monetization and maybe even help create completely new ways for us to find fun in games. However, nobody has cracked the code yet and much-hyped early attempts have been pitiful from a gameplay and/or crypto integration perspective. We here at MAV bet on those building the rails for the future of gaming, all while, in the late afternoons, trying to squeeze as much fun as we can out of the games that are already being made.

Cover image: Scene from Death Stranding (not a Web 3 game)

The post Web3 Gaming: A Trip appeared first on Mountains and Valleys.

A single project, led by one man, has grown from insignificance to almost half a billion US$ locked within mere weeks. This same project decentralized its own governance in a surprise move. The governance token reached a valuation of 70M US$ in less than a week.

Rumor has it that some Ethereans haven’t slept once since DeFi bust onto central stage in spring 2020. Yet many in the crypto sphere still go De…WHAT? Cutting through the hype behind the latest crypto craze, there’s quite a bit of substance to be found. Let’s untangle DeFi, and put it back together according to our own terms, shall we?

De… WHAT?

In a nutshell, Decentralized Finance (DeFi) is about bringing financial instruments to the blockchain. The Internet digitized information and anything related to information (remember newspapers?). Blockchains digitized money, and are now digitizing anything related to money (remember banks?).

Financial instruments like shares, loans, options, or insurance contracts get a digital life thanks to DeFi. New digitally native instruments like flash loans are being invented. The platforms where these instruments trade, flourish: decentralized exchanges, lending platforms, peer to peer transaction systems.

The following core attributes define products and services in DeFi:

• They are non-custodial and permissionless. Like with blockchains in general, DeFi users trust the code they use over people. They remain in control of the funds they own, and they don’t have to ask anybody for permission to use a service.
• They are open and composable. DeFi services (more precisely, DeFi protocols) can be stacked on top of each other — sometimes within a single Blockchain transaction. This is the principal reason for the current explosion of possibilities happening in DeFi.

Let’s dive into some concrete examples. Starting with the curse of the modern individual: debt.

DeFi Products and Services

Lending

Thinking about taking out a loan to buy a car, that new flat screen TV, or even a house? Easy. Go to a bank (hurry up while they still exist), show your salary statement, have your credit history checked, sign a contract. You are now ready to live up to your duties as a consumer again.

This type of lending transaction: giving and receiving credit based on social proof, is hard to reproduce on the blockchain. The necessary information and connections: your salary, the likelkyness of you repaying a loan, the legal measures available if you don’t, are not (yet?) available in the blockchain context.

For that reason, blockchain lending platforms mostly cater to the needs of people who want to keep exposure to a certain asset, while gaining exposure to another. You have a lot of ETH and believe that the price of BAT relative to ETH will go down soon? Easy. Deposit your ETH into Compound, take out a loan in BAT, sell that BAT on the open market for more ETH. You are now effectively short BAT. Your speculation added up? You’ll be able to re-buy the BAT you sold for less ETH than you sold it for, repay the loan, and keep the leftover ETH from your trade as profit. You successfully shorted BAT in a non-custodial and permissionless environment.

The Inner Workings of A DeFi LenDing Protocol

In the background, the ETH you used as collateral to borrow BAT for your trade got locked in Compound’s smart contract system. Also, you were only allowed to take a certain %-age of your collateral’s value as a loan to protect the system against a sudden drop in the value of ETH.

Compound put mechanisms in place to watch your collateralization ratio. The system will warn and eventually liquidate you if the value of the ETH you deposited were to fall below a certain threshold. Concretely, a liquidation would mean that the ETH you deposited would be sold on the market to cover the costs of your BAT loan. Leaving you with the BAT, and maybe a small rest of your ETH deposit. It’s not Compound that would spring to action in this case. Other free market actors, like this guy here, made it their job to watch for undercollateralized loans and liquidate them for profit.

Meanwhile, another mechanism was charging you interest on the BAT you took out as a loan, and rewarding you with a smaller interest payment for the ETH that you deposited. Due to this interest mechanism, some will simply deposit funds in Compound, without taking out a loan, to earn a part of the interest charged to borrowers. The snappy DeFi term for this is yield farming, but more on that later.

When you supply funds to Compound, you receive the corresponding cToken in exchange. cTokens represent deposits in Compound and accrue interest over time. You can freely move them around, or use them to reclaim the funds you supplied, including the interest you earned.

Beyond Collateralized DEBT

As mentioned above, lending without forcing people to deposit collateral first is hard in a blockchain context. But it’s not impossible. Recently, Aave, another lending protocol on Ethereum, introduced credit delegation: One blockchain user can give another user permission to borrow assets backed by his collateral. There is trust associated with this process. The person delegating credit to another person must make sure, via social means, that the loans taken out against his collateral will be repaid in due time. Protocols like Teller are planing to bring real-world trust, for example your real-world credit history, to the blockchain.

An even more fascinating invention by Aave is the flash loan. A truly blockchain-native type of credit that can be taken out, against a small fee, under the condition that it will be repaid within that same blockchain transaction. If there is no repayment, the credit transaction will fail and with that, the entire blockchain transaction. Use flash loans, for example, to create arbitrage transactions. DAI is at 1.02 against USDC on one decentralized exchange, and at 1.00 on another? Take out a flash loan over 100’000 USDC, buy the “cheap” DAI, sell the “expensive” DAI, pocket 2% profit (minus fees and transaction costs), all without having to provide your own collateral. With flash loans, everybody can be a crypto whale for a few seconds!

Here is an example of one of the first flash loan transactions on Ethereum. The initiator, ArbitrageDAO, took out a flash loan over 3137 DAI. It then sent that DAI to the maker SAI-DAI migration contract to obtain 3137 SAI. Those SAI were sold on Uniswap for 3157 DAI. 3148 DAI were then used to repay the flash loan including fees (fees were higher back then). The DAO pocketed a small profit of roughly 9 DAI before fees. 2 DAI remained after the Ethereum transaction fees. This all happened within a single Ethereum transaction!

The Things You Can do with a bit of Collateral

Collateral deposited in a smart contract system can back new asset types. Deposits serve as a guarantee for the value represented by those newly minted assets.

Stablecoins

Maker, the “OG” DeFi protocol on Ethereum, developed a complex mechanism that allows users to deposit ETH in a smart contract, then use that ETH as collateral to mint DAI. DAI is in turn pegged to the US dollar. The Maker depot created to mint DAI is called a “collateralized debt position” (CDP). Recently, Maker added the possibility to use additional tokens as collateral for DAI. Maker has been around since 2016 and is among the protocols that laid the foundation for the DeFi revolution.

While the US dollar peg might occasionally be a cause for concern, Maker’s mechanisms effectively back the value of DAI with the value of ETH. If push comes to shove, and as long as the overall system remains sufficiently collateralized, DAI could simply be liquidated for ETH, and nobody would loose too much money. Here is a post explaining Maker in some more detail. And here is one that explains the token model. Looks super simple, right?

Maker currently remains the dominant DeFi project on Ethereum in terms of total value locked, but others are closing in fast. Kava brings the Maker idea to the Cosmos ecosystem, and Acala does the same for Polkadot. mStable iterates on the stablecoin theme itself by integrating stablecoins, lending and swapping into one standard.

Derivatives And Insurance

Many projects build on the core idea of creating assets backed by collateral deposits. Most notably Synthetix, a project that brought a great variety of synthetic assets to Ethereum. Synthetix helped pioneer liquidity mining on Ethereum by distributing its native token, SNX, to liquidity providers.

dYdX is an exchange protocol that allows for trustless leveraged trading and the creation of perpetual contracts (perpetual swaps).

Augur enables the creation of prediction markets around the outcome of real-world events. Another “OG” DeFi project founded in 2015, Augur always got a lot of attention, but so far attracted only minimal capital flow.

Opyn implements a protocol that enables the creation of options, for example put or call options on a publicly traded token. On-chain options can be used to trustlessly protect a portfolio against declining token prices, volatility or flash crashes. Opyn takes this system a step further by providing insurance options on Compound deposits. In a typical DeFi manner, Opyn implements a two-sided market, matching those who want to buy protection with those who are ready to provide protection in the hope of earning yield.

Nexus Mutual brings human judgment to the on-chain insurance process and can therefore cover a broader array of DeFi related risks. Members of “the Nexus” eventually decide whether an insurance claim is legitimate or not.

DECENTRALIZED EXCHANGES

For some time, decentralized exchanges (DEXes) were the place to trade ICO tokens that were not yet available on any “real” (centralized) exchanges. A number of recent developments have given DEXes an entirely new significance, and impressive trading volumes.

The Rise of AMMs

Ethereum is too slow and clumsy to host a full-fledged decentralized exchange operation. Especially the orderbooks we know from centralized exchanges are hard to bring on chain. There’s simply not enough affordable storage space. In this context, so-called Automatic Market Makers (AMMs) have found a growing niche. Sounds scary, but actually isn’t: many already traded on Uniswap, the “OG” AMM on Ethereum.

Uniswap works by keeping pools of liquidity: assets that people have deposited into the Uniswap smart contract system. Uniswap is always able to quote a price for these assets. Uniswap’s pricing mechanism is quite simple (go here for a better understanding). However much you want to buy, Uniswap will quote a price so that, after the transaction goes through, the product of the assets amounts it holds in the corresponding pool remains constant. In practice, this means that the more you want to buy relative to the pool size, the less favorable the quoted price will be. AMMs are a success story on Ethereum, because their inner workings are lean. No order books, no complex mechanisms to match trades. This results in cheap and fast transactions, as long as traders define reasonable trade sizes relative to the pools they use.

And those depositing money in the pools? They earn a fee charged on each exchange transaction. Another possibility to farm yield in DeFi.

Image: trading on Uniswap is simple. Make sure to take a look at the “price impact” information. This trade would only suffer from a small price impact because it is tiny compared to Uniswap’s ETH-DAI pool. The price impact of a trade is normally called “slippage”. Uniswap helps you avoid costly trading mistakes by limiting slippage in the settings.

Other projects have since iterated on the Uniswap idea. Balancer Labs works with more complex pools that are able to quote prices on a variety of asset combinations. Curve is able to offer cheaper swaps on assets that should normally have almost the same price (like USDC/DAI), by applying a different price curve in the AMM mechanism described above. Bancor is a pool-based exchange system that predates Uniswap.

ORDERBOOK DEXES

A number of DEXes have come up with ways to solve the orderbook and order matching conundrum. The 1st generation of orderbook DEXes used to rely on centralized orderbook and order matching service, settling trades on chain via smart contracts. Some will remember Etherdelta, now Forkdelta. The probably best known orderbook DEX that works in this manner, Idex, is currently rolling out a more decentralized solution, where dedicated nodes handle orderbook storage and trade matching. Due to its partially centralized nature, Idex took a heavy hit when the project had to introduce KYC procedures.

The orderbook DEX model has since evolved. 0x settles trades on chain, while orders reside off-chain in whichever format or database the developer chooses. Kyber uses a combination of liquidity pools and distinct limit orders. Loopring evolved the Layer 2 approach to orderbook storage and trade-matching by introducing the 1st Ethereum-based DEX working with zkRollups.

Contract-Callable Liquidity

DeFi protocols have mechanisms in place to act on the open market. Often, they motivate free market participants to act on the protocol’s behalf. For example to liquidate undercollateralized loans, or to help rebalance a user’s portfolio. To efficiently execute these transactions, DeFi protocols need on-chain liquidity. Their smart contracts cannot reach into the liquidity pool of a Layer 2 DEX like Loopring. Centralized liquidity pools are even further away. On-chain liquidity is sometimes called contract-callable liquidity, because it is liquidity that is available to smart contracts. Another advantage of pool-based DEX systems and AMMs is that they easily provide contract-callable liquidity. On-chain liquidity and the DeFi ecosystem are part of a feedback cycle. Successful DeFi products lure liquidity on chain, and at the same time, more liquidity improves the experience provided by those products.

DEX Aggregators

DEXes do not always offer optimum liquidity for each pair they have listed. To mitigate that, a niche market of DEX aggregators has sprung up. DEX aggregators like 1inch, Paraswap or dex.ag gather price information from multiple DEXes. They offer their users an overview of the available DEX liquidity and price spans.

Their utility to the end user has turned DEX aggregators into gatekeepers for the multitude of DEXes that exist on Ethereum. Consequently, those platforms are trying to get their own share of the available dealflow, offering limit orders, aggregate trades across various DEXes, custom market making and other goodies like gas price rebates that improve the available prices, or lower transaction costs.

Tokenize all the Things!

With so much action around financial instruments coming on chain, tokenizing real-world assets — from houses to company stock — has attractive prospects. We already spoke about the possibility to create synthetic versions of those assets on chain. Platforms like Polymath want to bring the real deal to the digital world, by establishing new token standards and by implementing various regulatory requirements associated with the tokenization of real-world assets.

A special tokenization case are non-fungible tokens (NFTs). On Ethereum, NFTs are represented by the ERC721 standard. Non-fungible tokens cannot be divided into smaller sub-units and are commonly used to represent things people want to own. Works of art, badges and rewards, rare in-game items etc. Visit Superrare to see an example of a trading platform for NFTs. With a daily turnover in the mid 5 digits on Ethereum, NFTs are an emergent asset class that is worth a closer look.

Other DeFi Protocols and ServiCes

Over time, a vast array of DeFi related services sprung up. Here’s a short overview:

• Portfolio management: TokenSets enables the creation of on-chain portfolios with regular automatic or manual rebalancing. Melon goes further, essentially bringing the entire operation of a (hedge) fund on chain, in a complex protocol that took several years to build.
• Robo-advisors like Ray can help people earn optimum yield on their on-chain asset holdings by regularly rebalancing assets into the systems that currently offer the highest yield.
• Yearn offers a complex array of sometimes quite experimental services in the DeFi space, all based on the impressive composability of DeFi protocols.
• DeFi-focused wallets like Argent, InstaDApp or Pillar provide easy access to the nerdy DeFi universe and its dApps.
• DeFi-dashboards like Zapper or Zerion nicely wrap DeFi-services into simple to use browser interfaces.
• Flexa focuses on instant payments. Immediate and cheap payment confirmation, even before the next block on Ethereum arrives, guaranteed by funds deposited into the system. Those funds earn a small yield in return.
• A number of services provide data and product insights for the DeFi universe. DeFi Pulse compares DeFi protocols by their total value locked. DeFi Market Cap offers a similar service with a broader, but less detailed coverage. Not focused on DeFi alone, DappRadar gives a good overview of the available dApps on various chains. DappRadar also shows that actual usage numbers in DeFi are still small. Pools.fyi compares the yields of various staking pools.
• The recent DeFi frenzy on Ethereum caused a lot of projects to rebrand or pivot to DeFi. Throughout this article, we aimed to avoid the “everything is DeFi in the end” trap. Services like Chainlink’s decentralized oracle system are eminently important for DeFi, but must not forcibly be considered DeFi themselves.

Towards a Multichain Universe

It’s impossible to overlook that most of the DeFi action is currently happening on Ethereum. Other chains have little to no DeFi activity. Their small number of DeFi products are either iterations on Ethereum-based products (like the above-mentioned KAVA), or outright ripoffs (like many DeFi products currently being set up on Tron). Still, it’s worth trying to imagine how a multichain DeFi universe could look a few years from now.

The Cosmos blockchain is slowly gaining developer mindshare as a technology which makes it easy to create a system of interoperable blockchains. Polkadot is following a similar adoption path. Many emerging chains are directly bridging to Ethereum to gain access to Ethereum’s liquidity, or they use bridging technologies like Ren to achieve the same goal. Due to the limited programmability of the base layer, DeFi on Bitcoin is an uphill battle. Still, projects like the Lightning Network should be considered part of the DeFi universe.

It is worth keeping close tabs on these developments. If DeFi is really here to stay — which we strongly believe -, DeFi concepts will eventually find their way onto other chains. The dominant chains will become more densely interlinked in their quest to gain access to DeFi’s lifeblood: on-chain liquidity.

Defi Themes

Let’s touch on a number of themes that frequently pop up in the context of DeFi.

Governance

DeFi protocols are supposed to be, well, decentralized. The same must apply to their governance. A protocol’s core parameters and its overall evolution should be determined by its users. Users should define the appropriate reaction to critical situations, and resolve disputes. For that reason, various protocols started to issue tokens that represent protocol ownership and facilitate the governance process. Often, governance tokens are distributed to protocol users for free, based on usage patterns. The market’s greed for “free” governance tokens like COMP, BAL, MTA or YFI triggered a rush of money into DeFi protocols. Protocol tokens gave life to the “yield farming” meme in DeFi.

Yield Farming

DeFi protocols are often multi-sided. People deposit money for others to borrow. Or they offer security by betting against a particular price movement, for others to use as a hedge. Participants are motivated by interest or fee payments charged to the “takers” of these services. In that sense, depositing funds in DeFi is often an opportunity to earn yield. Yields in DeFi are typically higher than the yields you’d expect in traditional finance. The emergent nature of the market is a cause of this, and the higher risk for depositors.

DeFi yields went off the rails when governance token distributions became a common occurrence. For as long as supply lasts (no joke), DeFi yields reach(ed) astronomical heights, up to 1000% APR or more. This sparked a new meme, “yield farming”, complete with its cyber-agricultural jargon, like crop rotation (moving funds between DeFi protocols to optimize yield), or liquidity mining (the process of providing rewards to users of DeFi protocols to increase liquidity). The yield farming meme has brought the spotlight on DeFi, but it is unlikely that APRs of this magnitude will persist for a long time. Furthermore, many yield farmers are in for a rude awakening, when network fees, or protocol hacks, eat their hard-earned profits.

Risk

DeFi protocols come with their own risks. Technological risks come from bugs and hacks in the complex smart contract systems. Weeks without a major DeFi hack are still rare. Economic risks lie in badly designed protocols that can be drained, or otherwise tricked into unexpected outcomes by increasingly sophisticated attackers. Centralization risks exist when a protocol has central backdoors, for example a central “admin” address used to change protocol parameters or deploy new contract versions. Regulatory risks lie in whatever regulators might see in these novel protocols. Were there central points of contact or central actors? How will new asset types be classified, who or what is responsible for their issuance through complex technical systems?

Defi People, DeFi Memes

DeFi brought us a rich harvest of hilarious new Twitter accounts, fomo-inducing memes, and the occasional profound analysis. You do the wading:

• @DegenSpartan OG DeFi alpha hunter, will shill his takes until you can’t hear them any more.
• @DeFi_Dad, approaches DeFi from an early adopter end-user perspective.
• @bneiluj, engineer with a background in finance. He will liquidate your CDP if you don’t pay attention, or he’ll teach you how to liquidate others.
• @Weeb_Mcgee, developing highly specialized tools for those already a little too deep into the yield farming meme.
• @AndreCronjeTech, the madman behind yearn.finance. Most dangerous smart contract developer in DeFi.
• @StaniKulechov, the sharp tongued founder of Aave.
• @lemiscate, Aave’s also sharp tongued tech evangelist.
• @kaiynne, the equally sharp tongued founder of Synthetix.
• @hiFramework, a VC with an exclusive DeFi focus. Make sure to follow their two founders, Vance and Michael.
• @zhusu, CEO of Three Arrows Capital, another VC with a strong DeFi focus.
• @Arthur_0x, thesis driven DeFi investor.
• @SBF_Alameda, firmly rooted in CeFi, Sam recently posted a number of interesting and mildly contrarian thoughts on DeFi.
• @Rewkang, crypto trader with a strong focus on DeFi. Don’t challenge Andrew to a snakeoil selling contest, he’ll win.
• @safetyth1rd, another crypto trader with a strong DeFi focus.
• @Daryllautk, Coingecko research analyst with a strong DeFi focus.
• @nocturnalsheet, DeFi permabull, OTC broker.

Since you’re a weeb, joining DeFi’s inner circle will come naturally to you. DeFi’s official accessory is the waifu pillow. Tending your DeFi crops to optimize yield is hard, but honest work.

OKOK, Just Show me the Money Now

Mountain and Valley’s strategy on Iconomi features a number of DeFi tokens. For a pure DeFi exposure on Iconomi, choose their DEFI strategy. Digging a bit deeper, but still remaining within the “index” theme, you could look into the sDEFI synth on Synthetix.

As an alternative, start researching the projects mentioned in this article. Then, if you feel like it, start making individual investments into those projects. If you’d rather stay on the cutting edge of the cutting edge, research the nascent DeFi ecosystems on other chains. We recommend to check out Cosmos (example: Kava), and Polkadot (example: Acala, Laminar).

Use the existing DeFi products to get a feel for what’s going on. Maybe you’ll even farm some of that honest yield. Why not bridge your Bitcoin to Ethereum with Ren and stake it on Curve to earn some yield? It’s exciting!

As mentioned before, DeFi, and DeFi investments come with substantial risk. Do not interpret any of the recommendations in this introduction as an invitation to blindly risk your money.

Any value locked in DeFi is truly yours. Until the underlying smart contract gets hacked.

Cover image: Berca Mud Volcanoes, Romania, by Giuseppe Milo.

The post The DeFi Guide appeared first on Mountains and Valleys.

On a quest to make the project’s promises more tangible, Ren have changed their promotional narrative over time (but not so much the project’s inner workings). The current narrative: trustless cross-chain value transfer and liquidity, is a good starting point to explain what Ren does and why the blockchain space needs it.

How to Bring Bitcoin To Ethereum

Over the past 12 months, we’ve seen a tremendous rise in liquidity on decentralized exchanges (DEXes), and the most active DEXes are on the most liquid chain, Ethereum. This poses a major challenge: only ETH and Ethereum based tokens can immediately be traded on Ethereum based DEXes. What if I want to hold part of my portfolio in BTC or even ZEC, but trade on Ethereum? How do we bring value on other chains to Ethereum?

The Custodial Approach

Somebody, let’s call him Carli Custodian, decides to offer a “Bitcoin on Ethereum” service that works in a very simple way: you send Carli some Bitcoins. Carli will keep those for you, and will in turn send a Bitcoin backed token called ccBTC to your Ethereum wallet. You can then freely use your ccBTC on Ethereum, even send it to somebody else. If you want your native Bitcoin back, you send Carli some ccBTC. Carli burns those and sends the same amount of native Bitcoin to your Bitcoin wallet.

This naïve model isn’t far from reality. Apart from an obviously more complex custody system, custodial Bitcoin tokens like WBTC work in exactly this way. While easy to implement, this model breaks the core promise of the blockchain: trustless and permissionless value transfer. No matter how refined the custody system, Carli can run with your native Bitcoins, rendering ccBTC worthless. Or Carli could, to the same effect, start issuing “unbacked” ccBTC tokens in great numbers. We could catch Carli by looking at his BTC holdings and the amount of ccBTC issued. But at that point in time, it would already be too late.

The Debt Based Approach

Another way to bring Bitcoin to Ethereum is to recreate it on Ethereum via debt. Somebody deposits a certain amount of ETH, or of an Ethereum based token into a smart contract vault. This in turn allows him to “mint” a certain amount of Ethereum based Bitcoin. A smart contract system, in constellation with the open market, ensures that any Bitcoin minted in this way remains pegged to the price of native Bitcoin. The system also makes sure that the vaults used as a basis for the minting process remain adequately collateralized. Synthetix works a bit like this.

The debt based approach brings back the advantages of blockchain tech: it is trust- and permissionless. But it comes at the price of quite a bit of complexity. It is also not very capital efficient, as it typically requires about 150% of the value issued to be locked in a vault somewhere.

The Multichain Approach

This approach comes closest to what Ren does, but it is not the same. To transfer value between multiple chains, an additional blockchain can be established that — via its nodes — tracks value on all involved chains and issues or redeems tokens as necessary. This is, grossly simplified, what Cosmos offers. The multichain approach is promising, as it allows much more than “just” value transfer. It is also complex to establish as it requires the creation of an entire ecosystem around the intermediate chain. Just like the crosschain approach, the multichain approach requires its own solution to lock value on one chain and issue it on another.

The Crosschain Approach

What if we could lock up Bitcoin on the native chain, then issue it on Ethereum, all in a trustless and permissionless fashion? That is exactly one of the use cases of Ren.

To transfer Bitcoin, we need a private key. Ren allows a decentralized network of computers to generate and store a private key, but prevents that malicious actors can assemble that key and run with the associated coins. The process necessary to achieve this is called secure multiparty computation (sMPC). sMPC enables a group of nodes to jointly execute calculations on a set of data, without revealing the inputs or outputs, while also remaining certain of the dependability of the result. It can do this even in the presence of malicious or unreliable actors. sMPC has been under research since the 70s of the last century, but its application to blockchain tech poses additional challenges like fault tolerance, the necessity to reach consensus among network participants, or the detection and elimination of bad actors. Ren established a network of nodes, called Darknodes, that solves these problems and that can form the basis for various sMPC applications — like bridging Bitcoin to Ethereum.

So, how does Ren bring Bitcoin to Ethereum? In the simplest possible way: a user initiates the transaction by telling the Ren network that he needs a Bitcoin deposit address. The network generates the private key for that address, without ever revealing it to any of the participants. It then sends a public address corresponding to that key to the user. The user deposits Bitcoin to this address. The Ren network detects the deposit. It waits for a certain number of confirmations, then issues the appropriate amount of renBTC tokens on Ethereum. The opposite way works too: renBTC tokens get burned, the Ren network sends native BTC to the user who initiated the transaction. This all works in a secure, permission- and trustless environment. Nobody can ever run with the deposited BTC. Nobody can issue more renBTC that have been deposited. Nobody can stop these transfers from happening.

Anybody can test out the process of bringing Bitcoin to Ethereum on https://wbtc.cafe/. wbtc.cafe trustlessly transfers Bitcoin to Ethereum and then converts it to, somewhat ironically, trusted but well established WBTC tokens on the open market. Alternatively, renBTC can also be used directly on Ethereum, cutting out any trusted 3rd party.

Other Applications

Trustless and permissionless cross-chain value transfer is an obvious and very present use case for the system that Ren offers. However, blockchain based sMPC is by far not limited to a single use case. On the contrary, blockchain based sMPC is the missing link to make public blockchains useful. Especially in business, the cases where every in- and output to a transaction should be world-readable, are rare. For individuals, the “all public” approach raises substantial privacy concerns. sMPC systems solve this by allowing for dependable, but secret storage and computation, while preserving the core promises of the blockchain based approach. This gives Ren potential far beyond cross-chain value transfer.

Ren is not the only project offering sMPC on the blockchain. Other projects include Keep, Enigma, and iExec. Among those projects, Ren seems to have progressed the most, both in terms of development of the core protocol, and in terms of nascent developer adoption.

Network and Token Economics

As mentioned above, Ren runs its own network of nodes called Darknodes. Fees reward Darknodes for their computation work and for the storage they provide. Each Darknode requires a deposit of 100’000 $REN as a bond to keep the node honest.

If Ren turns out to be a success, running Ren Darknodes could yield exceptional rewards, even for crypto standards. Estimates based on the assumption that Ren will not only be responsible for cross-chain value transfer, but will also be able to capture a part of the decentralized crypto trading volume, range from 62 to 300K US$ of revenue per Darknode per year in 2022, dependent on the emerging fee structure and market capture. Since REN is required as a deposit to run a Darknode, this gives the REN token an exceptional outlook on a high timeframe.

The REN network has been released to the public. Any person holding 100’000 REN can join it, provided that she is willing to maintain the necessary technical infrastructure to run a Darknode.

In our tests, operating a REN Darknode was very easy. Likely the easiest node setup we ever tested.

Conclusion

The Ren project offers exceptional fundamentals and has shown an outstanding quality of delivery since its ICO back in early 2018. From a fundamental perspective, this is one of the most exciting projects to come out of the 2017 ICO craze. It checks all the necessary boxes for a possible long-term success:

• competent team
• high quality of delivery both in code and project communication
• strong product with highly plausible product market fit
• working product is available and testable publicly, generating relevant turnover
• strong blockchain use case
• strong token value link, token mechanics and monetary policy
• fair valuation (relative to ICO), with lots of growth potential for the token price

Like with any early stage project, all these positives do come with the big caveat of “if it works out”. Various associated risks:

• impossibility to solve the chicken and egg problem of bootstrapping liquidity
• centralized team that could run out of funds before the project sees success
• centralized starting point makes the project vulnerable to regulatory action
• token-value-link could be forced to break, e.g. competition could force the Darknodes to run at or near profitability, instead of running at the extrapolated wild profitability
• network could be forced into centralization or a permissioned model, e.g. via a buyout of the company
• team could fail to generate relevant traction in the market, e.g. due to a strongly technical orientation
• on a shorter timeframe, the retail market could fail to recognize the value of the project due to its B2B/professional nature

Over the past months, Ren continued to establish itself as a project and remains one of the most valid bets on the success of “DeFi” as an array of blockchain based products with real adoption, and as a marketing based meme. Our very positive assessment of this project remains unchanged.

Sources

• https://renproject.io/
• https://github.com/renproject/ren/wiki
• https://medium.com/renproject
• https://www.reddit.com/r/RenProject/comments/etf8le/renvm_ama_answers

Cover image by Sarah Meyer.

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A good argument can be made for an unstoppable global marketplace. With the advent of the www, content and human knowledge transitioned into the digital space. Why shouldn’t the Blockchain allow us to finally tear out the physical roots of money and commerce?

Project Goals and Progress

Origin intends to build a universal, decentralized protocol for commerce, based on Ethereum and IPFS. The whitepaper still mostly targets the sharing economy, but some of the project’s more recent activities go towards conventional trading of goods online, as in: buying coffee mugs, headphones or t‑shirts.

In its current iteration, Origin offers a protocol layer with marketplace and identity functionality, a set of tools to build user-facing marketplaces, as well as some user-facing products (a marketplace, a Chrome plugin to get discounts on Amazon, a mobile app).

Future plans include a specific node system for Origin, and the use of the project’s native token, OGN, as a governance token.

Origin is notable for its team with a strong background in the Silicon Valley founder scene (YouTube, Paypal etc.), for having a diverse set of VC backers, for having over 160 contributors on their open source repos, for having actual, tangible (and good-looking) products out there. At first sight, there’s a lot to like about this project.

The OGN Token

Origin, and their token, have been around for a while. An initial token sale happened back in November 2017, at the price of $0.0685/OGN (3M raised), another sale in early 2018 at $0.1200/OGN (28.51M raised), and yet another sale in mid 2018 ($0.1364/OGN, 6.6M raised). The token issuance schedule for OGN isn’t as aggressive as for other tokens of this type, full supply will only be reached somewhen in 2026. Currently, 6.7% of the tokens are circulating.

OGN can be staked to obtain discounts on Amazon or on the project’s native “deals” platform, and it can be obtained as a reward for completing various tasks in the Origin app (e.g. inviting new members). Planned use cases are: OGN as sales commission, as a stake for node operators, as a means of payment, and as a governance token.

OGN has an excellent listing situation and the token’s price isn’t too far removed from its lows in the very short public trading history.

Scratching the Surface

This all sounds fantastic, right? Amazon, Uber, Airbnb, TaskRabbit, all rolled into one, and the value of the core protocol accrues in a crypto token that anybody can buy and hold. Except, maybe, it sounds a bit too good to be true. What are we missing?

Commerce on the Blockchain

A decentralized, unstoppable marketplace is an excellent idea. Let me trade whatever I want, with whomever I want, and nobody can take out commissions in-between! Except, that Amazon doesn’t just sit out there, fat and ready, grabbing its commissions whenever you make a trade. A significant part of e‑commerce is logistics, vendor relations, marketing, trust building, legal wrangling, dispute settlement and much more.

Could such an organization run on top of a decentralized infrastructure? Of course! And it certainly will, one day. But the hard thing isn’t building the back-end infrastructure, it’s building the whole set of activities a big e‑commerce organization needs, and Origin doesn’t solve that at the moment. Origin’s “deals” platform is “currently available to US-based customers only” and “products ship directly from Amazon”. Some irony in there. I took Amazon as an example, but the same line of thinking applies to other marketplace verticals that Origin aims for, like Uber, Airbnb or TaskRabbit. Not to mention that some of these projects currently lose massive amounts of money.

Will Origin solve the puzzle of truly digitizing e‑commerce and the sharing economy? It definitely could, but the adoption curve for a change like this will span decades, not years, and until then, the protocol will just be handing out tokens for new subscribers, hoard user data, burn money on discounts (they deny that), and maybe lock up tokens again to make them seem useful.

There are already platforms where you can trade whatever you want, with whomever you want. Some of my readers might know them, and the kind of products that are being traded on there. What would happen if a thriving, highly usable couch sharing marketplace for the extreme right would be built on top of Origin (to take the above, hilarious example from the whitepaper)?

Rewards Tokens

The token-value link between the Origin protocol and the OGN token isn’t as compelling as it seems, at least not right now. Why would there be a need for an additional token if I want to trade whatever I want with whomever I want? Sure, token utility can be shoehorned into such a project, but past experience tells us that once a project recognizes that its token adds friction, the token will mercilessly be shoved into the background. Until there are truly compelling reasons for the token to exist, OGN will remain a rewards token, handed out as an incentive to join the network, and hopefully locked up again instead of immediately dumped on the open market.

Conclusion

A compelling bet at first sight, Origin didn’t look as good any more once we scratched the surface a little. As true blockchain enthusiasts, we dream of an unstoppable marketplace where we can trade whatever we want, with whomever we want, and we wish that this project will build just that.

Beyond those dreams, adding OGN to a portfolio is an extremely bullish bet on crypto (based on the “future Amazon/Uber/Airbnb” narrative, or on TA), and we are not in such a market phase yet. For the moment, OGN will not find its way into the Mountains and Valleys strategy.

Sources

• https://www.originprotocol.com/
• https://research.binance.com/projects/origin
• A big thank you to CryptoMaestro for sharing his thoughts on this project with me

Cover image by cloud.shepherd. Monument Valley, Utah, USA.

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Like on Maker, the underlying financial vehicle is called a CDP, a Collateralized Debt Position. The user will deposit crypto assets worth more than the stablecoins he mints, and can later redeem those assets by paying back the stablecoins. Should the value of the deposited assets ever fall below a certain threshold, the user will be asked to deposit additional assets, or his CDP will be liquidated. A process similar to a margin call on a margin trading account.

Very much unlike Maker, Kava is crosschain compatible by design, due to it being built on top of the Cosmos SDK. Kava will therefore be able to accept other cryptocurrencies like Bitcoin, Atoms, Binance Coin or Ripple as deposits into CDPs, while Maker is limited to ETH and ERC20 tokens.

System Construction and Risks

Maker’s idea of pegging a coin to the US dollar via debt positions and mechanisms designed to guide the behavior of market participants has been the target of ridicule early on. However, Maker’s USD stablecoin, the DAI, has since weathered many storms, and while it sometimes came close to being in danger, it survived, and mostly stayed close to 1 US$ per DAI in value.

Unfortunately, Kava does not describe in detail how exactly they plan to implement their system. Information has to be gleaned from their dev updates and the open source code on GitHub. The following is partially based on the assumption that Kava’s inner workings will be pretty similar to those of Maker, a fact that Kava keeps emphasizing.

The feedback mechanism for price stabilization and CDP management demands accurate and timely market data. Kava brought Chain Link’s oracle system to Cosmos for this reason — certainly a good choice. Price oracle systems, even well constructed ones, can be manipulated, or they can fail. We’ve observed various such problems during Maker’s life cycle. Ethereum blocks running full and prices no longer getting through to Maker, source prices being manipulated, oracles being attacked. While this field is relatively well explored by now, we can still expect new, potentially portfolio destroying issues to pop up, as the current, naïvely designed crop of oracle protocols slowly becomes battle hardened.

Crypto prices remain highly volatile. In a CDP system, this can lead to liquidation cascades. CDPs with low margins getting liquidated, liquidations in turn accelerating price drops, those price drops tearing additional CDPs into undercollateralization. Low liquidity of the underlying assets can increase the risk of such cascades happening, and crypto liquidity has a tendency to come and go, and to be manipulated to a large extent. Mismanagement of this situation can put the entire system in danger, as observed on Maker during the March 2020 flash crash.

Buy-in from market participants is required to keep a stablecoin stable. There must be enough belief in the system’s stability for arbitrageurs to sell a stablecoin once it goes above its peg, and to buy it once it goes below. With great volatiliy, crypto experiences bank run-like situations, where people want to exit crypto in panic and are ready to overpay for stablecoins, as well as the inverse, where people want to enter crypto at all price and sell their stablecoins, even at a discount.

Furthermore, some of the parameters of a Maker-like system need to be actively adjusted, and part of this responsibility will lie with the community, on Kava like it does on Maker. Addressing the community, informing people well enough to allow them to make the right decisions is another challenge.

How Kava handles the delicate balance of all the components will be crucial for the project’s initial rollout and later success. It is also not guaranteed that all the required components for a thriving CDP system will fall into place on Cosmos. Liquidity could stay low (Kava will initially not have access to Ethereum’s liquidity pools), users could remain disinterested, required market actors like arbitrageurs or CDP watchers and liquidators could stay away.

KAVA TOKEN

In October 2019, Kava raised 3M US$ in a Binance IEO at the price of 46c per token. Those IEO tokens, constituting 6.52% of the total supply, plus a number of early private sale tokens and treasury tokens are currently circulating. Circulating supply will increase aggressively, reaching 100% in October 2022, with private sales participants partially sitting on more than a 10x relative to their initial purchase price. At the current price of ca. 81 US cents, this gives us a fully diluted market cap of 81M. The much more established MKR is currently worth more than 0.35B.

Kava’s price explored new lows in March 2020 and experienced another dip to the IEO price in May, but has since gone on a bit of a run, likely due to the imminent launch of the platform slated for June 2020.

$KAVA has a similarly close relationship to the project’s success as $MKR does. It will be a governance token, allowing holders to vote for new collateral assets, as well as to adjust the CDP stability fee. Furthermore, and unlike MKR, KAVA will be a staking token on Cosmos.

Team AND PROJECT PROGRESS

Kava remained relatively intransparent as a project for a long period of time. The situation improved recently with more code becoming available on GitHub, with the testnet release and the upcoming mainnet. We’d still love to learn more about Kava’s inner workings and the project’s challenges, or read one or the other dev report free of rocket emojis. Touting “earning millions” and up to 118.5% APY further contributes to the shilly and superficial impression of the project.

That said, Kava is run by a solid team and advised by respectable members of the Cosmos and broader blockchain community. With some delays, the project is also delivering — on quality it seems.

CONCLUSION

Like any young (and somewhat intransparent) project, an investment in Kava comes with increased risk. In this particular case, this is matched by a higher upside potential too, the project tapping into the MKR/DeFi/CDP narrative and into possible “bored” venture money in the thriving Cosmos ecosystem. Those factors made Kava an ideal “dark horse” bet at a perfect price point when we added it to our strategy back in March 2020. So far, price action confirmed our assessment, but we’ll keep a close watch on the token’s aggressive release schedule and on the quality of the first mainnet components coming online.

SOURCES

• https://research.binance.com/projects/kava
• https://www.kava.io/

Cover image: Wasdale Head, England. Photo by Henry Burrows.

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Blockchain scaling is a complex subject, and Matic’s ambitions even go beyond helping scale Ethereum. We’ll need to unravel several concepts until we can fully understand what Matic does and why the project is important.

Understanding Matic

Plasma

Plasma is a blockchain scaling solution initially proposed by Joseph Poon and Vitalik Buterin. At its core, Plasma enables big, slow and expensive chains like Ethereum to scale via the creation of smaller, faster, often purpose-specific child chains that anchor their state in the big chain. This gives us best of both sides: the security guarantees by the base chain (the “big” chain), the speed, feature set, price and scalability of many nimble child chains.

Grossly simplified, a plasma implementation could look like this:

• A user wanting to use a plasma solution deposits some ETH in a smart contract on Ethereum.
• The plasma child chain detects this and mints an equal amount of ETH on the child chain, attributing it to the user who made the deposit.
• The user now uses one or more dApps on the child chain with the ETH he deposited, profiting from speed improvements, or other features the child chain might have to offer.
• Occasionally, the user balances on the child chain are summarized and this compressed summary is committed to a block on Ethereum.
• Somewhen later, the user wants to stop using the dApp in question and goes to the original smart contract on Ethereum, making a claim to withdraw the ETH he holds on the child chain (those might now be more, or less than he originally deposited due to his activities on the child chain).
• The original smart contract can verify the user’s claim thanks to the child chain summaries it has access to and let the user withdraw his holdings. The tokens on the child chain are burned.

There are a number of issues that could come up during the above process. For example, the operators running the child chain could be malicious and try to steal the user’s funds, or the child chain could be malfunctioning as a whole, or the behavior of those carrying information between the child chain and the base chain could be malicious, or the user himself could try to game the system. To combat these issues, plasma implementations have a number of additional mechanisms, e.g. they allow to “prove” fraud on a child chain to the base chain via so-called fraud proofs, or actors on the child chain are bonded by a child chain token that can be slashed in case of malicious behavior.

Ensuring consistency between the base chain and the child chain, even for something as seemingly simple as token balances, is a hard problem to solve. Ensuring consistency for all state changes that can occur during smart contract execution is, as they say, “a research problem”. Meaning: “we are not sure whether your bags will still be alive once we solved it”.

Matic’s mainnet release is currently rolling out. In terms of the Plasma framework, it will support token transfers for ETH, ERC20 and ERC721, asset swaps and a number of custom plasma functions. In its current state, Matic is an account based Plasma implementation and does not attempt to represent more ephemeral states of its child chain on Ethereum.

One of the big potentials of Plasma, even without complete representation of child states in the base chain, is that the model is not forcibly bound to one base chain. Matic could very well anchor itself in multiple chains and thus, for example, offer cross-chain asset exchanges. The team seems to already have forged relationships with independent blockchain scaling projects like Elrond.

Child Chain/Side Chain

To provide the securities required for Plasma, a plasma implementation needs to operate its own blockchain. In the case of Matic, this is a Proof of Stake blockchain built on top of Tendermint. Matic’s chain separates the block production from the validation process. So-called checkpoint nodes are responsible for validation and for the anchoring of the child chain on Ethereum.

To provide its own smart contract functionality, Matic offers an EVM on the child chain.

While the mainnet currently rolling out will feature one EVM based side chain, Matic will not be limited to one side chain alone in the future.

Use and Usefulness

It can be guessed from the above description of the inner workings of Matic and the Plasma framework that such a solution does have a multi sided adoption challenge:

Developer Adoption

A Plasma project has to convince developers to build on it. This is cleverly solved in the case of Matic through the use of the EVM on Matic’s child chain, making it easy for developers to switch their dApps over to Matic’s faster infrastructure. Add to this the known scaling pains on Ethereum, and initial adoption of Matic among the sizable Ethereum developer community appears likely. The fact that notable Ethereum projects are already experimenting with Matic seems to confirm this. Beyond Ethereum, Matic is interesting to new blockchain projects that might want to plug into the system to get indirect access to Ethereum’s liquidity, users and developer base.

User Adoption

Users of a Plasma based system have to deposit a part of their holdings into the system, like they would deposit them on a Layer 2 exchange or a dApp with its own smart-contract based wallet. Whether users will be ready to do this depends entirely on the added value Matic based dApps can provide, compared to Ethereum-native dApps.

The pain on Ethereum is real, both in terms of sluggishness and in terms of cost. Still, adoption for Matic will likely have to happen through dApps with intense use first. Depositing tokens on an exchange to later make multiple trades makes sense, but users are unlikely to deposit a token into a new system first to then later be quicker in purchasing a coffee at the coffee shop. How will intense-use dApps look like? We don’t know yet. Without user adoption, blockchain scaling remains a textbook example to a certain extent.

Operator Adoption

While a Plasma based system does inherit a lot of its security from the base chain, there still need to be operators for the child chain. Matic will incentivize their operators via the distribution of Matic tokens, and projects building on Matic will be motivated to run their own nodes too. Over time, the network will need to gain sufficient adoption and actual use to adequately reward node operators.

PLASMA, FINALLY?

If Matic does manage to roll out and stabilize this complex system, if devs do migrate to it, users flock to the new dApps, their activities handsomely rewarding the network operators, Matic does have the potential to be a tremendously useful scaling solution with very little barriers of entry for those currently suffering under Ethereum’s clogged blockchain. Matic could eventually offer consumer level speed and transaction count — up to 10K TPS have been observed on testnet — at greatly reduced costs. And that’s a lot.

Plasma is hard. History teaches us that if you stick around long enough trying to implement Plasma, you’ll eventually be called a scammer. As it happened with Omise Go or Loom Network, two other Plasma projects that many now consider failed. Matic is the best shot yet at Plasma for Ethereum, and building a scaling solution so close to the only smart contract platform with tangible adoption is a more likely path to success than building your own scaleable blockchain ecosystem from scratch.

Will people, thanks to Matic, start gaming on the blockchain because they can be certain to actually own their in-game assets? We doubt it. On the other hand, the whole roster of DeFi applications now being built on Ethereum — trading, lending, options, synthetic assets, stablecoins — is suffering under slow block speed and high gas prices too, and should offer plenty enough potential to make Matic grow.

Will Matic be the first viable Plasma solution for Ethereum? Let’s hope so. Ethereum needs any scaling solution it can get.

TEAM AND PROJECT PROGRESS

Matic has a solid, but not a “blockchain all star” type of team. Most team members seem to come from a consulting/service provider background and joined the blockchain space in late 2017 or even later. Maybe precisely because of that, Matic has so far been making the right decision, building diligently, delivering on time and bonding with the community. Many things can go wrong in a project of this complexity, but the only way to really judge the quality of what’s been built here will be to closely watch the upcoming step-by-step mainnet release, the issues that will come up, and the team’s reaction to them. Plasma is hard.

$MATIC Tokens

As far as project tokens go, $MATIC is tightly bound to the project’s success. MATIC tokens will be required as a bond for those participating in consensus, they will be distributed as a reward to those providing services to the network, and the project hopes to establish the token as a medium of exchange on the child chain. MATIC tokens will also be used to pay network fees, with an additional abstraction layer between dApp specific coins and MATIC, so that individual projects don’t have to worry about holding MATIC tokens. While scenarios could be imagined where the token looses significance over time — Matic’s architecture could also be built without a separate token — the above aspects give $MATIC a tighter token-value link than many other projects.

$MATIC is currently trading at $0.023, up roughly 10x from the seed stage/Binance launchpad price of $0.0026 back in April 2019. Matic has a comparably aggressive token release schedule. 100% of all tokens are supposed to come into circulation until October 2022 (current circulation: 40–60%). Current token valuation of Matic sits at 79M US$, but given the aggressive token release schedule, the full supply valuation of $234M should be taken into consideration too.

Quite typical for Launchpad projects, Matic’s price has been on a wild ride ever since the token’s release back in 2019. It reached a high of $0.041 shortly after launch, in May 2019, and took out that high by a small margin, reaching $0.043 in December 2019. During the March 2020 crypto dump, the token went as low as $0.0081.

CONCLUSION

$MATIC is currently part of our Iconomi strategy. All things equal, $MATIC looks like a plausible bet on Plasma-based scaling for Ethereum, but until mainnet has been fully rolled out and gained some adoption, it will also remain just that: another bet on Plasma. Sentiment-wise, $MATIC seems to be in a good position to profit from a time favorable to alts, as it can capture a number of attractive narratives and possibly profit from risk-seeking capital on Ethereum. Beyond bullish times, we would put the project on “watch very closely”.

Sources

• https://www.learnplasma.org/en/
• https://research.binance.com/projects/matic-network
• https://medium.com/matic-network/what-is-matic-network-466a2c493ae1
• https://whitepaper.matic.network/

Cover image by Tony, https://www.flickr.com/photos/triplea4/.

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