Posts from crypto

Why Decentralization Matters

As you can see, I am not writing this presidents day weekend. I explained why on friday.

Instead I’ve been posting things that I found worth sharing with all of you.

Today, I want to share a blog post written by my friend Chris Dixon about decentralization.

This is a portion of the post that I like very much.

Decentralization is a commonly misunderstood concept. For example, it is sometimes said that the reason cryptonetwork advocates favor decentralization is to resist government censorship, or because of libertarian political views. These are not the main reasons decentralization is important.

Let’s look at the problems with centralized platforms. Centralized platforms follow a predictable life cycle. When they start out, they do everything they can to recruit users and 3rd-party complements like developers, businesses, and media organizations. They do this to make their services more valuable, as platforms (by definition) are systems with multi-sided network effects. As platforms move up the adoption S-curve, their power over users and 3rd parties steadily grows.

 

When they hit the top of the S-curve, their relationships with network participants change from positive-sum to zero-sum. The easiest way to continue growing lies in extracting data from users and competing with complements over audiences and profits. Historical examples of this are Microsoft vs Netscape, Google vs Yelp, Facebook vs Zynga, and Twitter vs its 3rd-party clients. Operating systems like iOS and Android have behaved better, although still take a healthy 30% tax, reject apps for seemingly arbitrary reasons, and subsume the functionality of 3rd-party apps at will.

For 3rd parties, this transition from cooperation to competition feels like a bait-and-switch. Over time, the best entrepreneurs, developers, and investors have become wary of building on top of centralized platforms. We now have decades of evidence that doing so will end in disappointment. In addition, users give up privacy, control of their data, and become vulnerable to security breaches. These problems with centralized platforms will likely become even more pronounced in the future.

Click here to read the entire thing.

Audio Of The Week: A Decentralized AI Platform

My friend Gordon texted me this podcast and said “AI, blockchain, and homomorphic data. Trifecta!”

I gave it a listen and indeed some very interesting concepts are discussed in this one.

Video Of The Week: Is Crypto the Future of Early Stage Funding?

A lot of people in the crypto sector have suggested that ICOs and tokens are the future of early stage investing and highly disruptive to my business (venture capital).

In this video (yet another from the Upfront Conference), VCs and other investors discuss why that may not be the case.

How To Think About Selloffs

The crypto markets had a good day yesterday but have been down a lot since peaking in early January. Bitcoin peaked at almost $20,000USD in mid December and has gone down by roughly 60% since then. Ethereum peaked at almost $1400 in mid January and has gone down by roughly 40% since then.

A chart that I like to look at, the total market cap of all crypto tokens, has made a classic head and shoulders pattern and is now retracing on the downside:

The total market cap of all crypto tokens peaked at roughly $825bn and is down roughly 50% since then.

But most of you know all of this.

The more interesting question is what, if anything, to do about it.

In times like this, I like to turn to the fundamentals to figure out where things stand and how I should behave.

So how do we do a fundamental analysis of crypto prices. Is $8000 high or low for BTC? Is $800 high or low for ETH?  I see people opining on these things all of the time based on historical prices and that is not a proper way to value an asset. You need to have some fundamental theory of value and then apply it rigorously.

There are plenty of people doing that kind of work in crypto-economic circles and I saw two blog posts in the last week that I thought were quite good.

Here is a post explaining the NVT ratio (network value to transaction ratio).

And here is a post critiquing the monetary velocity approach (MV=PQ) and proposing an alternative.

What you can see from these two posts is that not everyone in crypto land is speculating without thinking. There is some serious economic thinking going on and it is going to be super important in the coming years.

However, the bigger problem in crypto land is that none of the public blockchains have really shown they can scale to the volumes of transactions that would be required for blockchain technology to go mainstream. I have likened this situation to dialup modems in the 90s eventually giving way to broadband internet (and mobile broadband internet) in the 2000s. I am confident that trust-less consensus-based systems will be able to scale to the volumes we need to go mainstream but we are not there yet. The transaction ratios and monetary volumes that drive value in the economic models I linked to above just aren’t there yet to support the almost trillion dollars of value that crypto tokens reached in early January.

But there are some very promising signs out there.

We have the Lightning Network getting implemented in the real world. Lightning is Bitcoin’s great hope for scaling transaction volumes.

We have Truebit going live on an Ethereum testnet this week:

Truebit is off-chain computation for Ethereum.

Neither I nor USV has an economic interest in either Lightning or Truebit. I mention them because they are two of the more interesting efforts out there to scale these big public blockchains. There are many more of them.

The truth is that if you look behind the scenes, you will find quite a number of strong technical teams that are working on scalability and some of the other fundamental challenges of public blockchains. The crypto sector is full of get rich quick schemes and janky token offerings, but it is also full of brilliant computer scientists and strong engineering teams working on solving these challenges. And I am quite confident that they will solve them. When and how is harder to predict.

So given all of that, how does one do a fundamental analysis of crytpo tokens and the crypto sector?

Here is a three step process that I recommend:

  1. Get the Cryptoassets book and read it. The authors do a great job of outlining how one can and should do a fundamental analysis on crypto tokens.
  2. Follow the crypto-economists who are writing regularly about this stuff and read what they have to say. I linked to two of them above in this post.
  3. Understand the technical challenges and follow the progress being made in solving them. As more progress is made, that should be reflected in the prices of the top public blockchains. If it is not, that would be a buying opportunity.

I don’t believe that the recent selloff is a massive buying opportunity, but I also don’t think that anything has really changed in the fundamental analysis of the sector in the past month. I remain long term bullish and short term cautious.

Video Of The Week: The Upfront Summit Crypto Video

The annual Upfront Summit took place in LA this past week. I attended day two and enjoyed it very much.

Prior to the summit, the Upfront team interviewed a bunch of investors in the crypto sector and put together this video.

I think it captures the current investor sentiment very well.

An Addition To The AVC Comment Policy

Yesterday I went to see what the community was talking about and found this at the top of the comment threads:

I thought to myself “oh shit, the token scammers have arrived” and immediately deleted those comments and left a reply saying that I am going to update the comment policy.

So I did that this morning.

There will be no token promotions in the AVC comments, period.

I am fine with discussing the merits of various blockchain/crypto technologies and tokens, but outright promotion is not cool and I won’t allow it.

I hope this is clear and everyone understands why it is necessary.

Audio Of The Week: A16Z’s Alex Rampell

I found this wide ranging interview quite interesting.

Alex has been an entrepreneur and is now an investor.

He is operating at the intersection of traditional fintech and crypto, which is a place USV also often occupies.

Beyond The Bitcoin Bubble

My friend Steven Johnson has penned a long and wonderful piece exploring what lies beyond the speculative market in crypto tokens.

This essay, which will run in Sunday’s New York Times Magazine, but is online now, could not have come at a better time.

All most people know about Bitcoin, Ethereum, ICOs, and alt-coins, is that you can trade them and make (and lose) money on them.

But that is not what interests me about crypto tokens and blockchain technology and it is not what interests USV and the folks in this sector we work with.

What interests us is that “crypto” could well be the architectural breakthrough that we need to move beyond the current Internet market dominated by a few large tech companies.

And Steven, as is his gift, explains this beautifully and easily in roughly 9,000 words.

This is a piece that requires sitting down with a cup of coffee or tea and reading it.

I would suggest you find some time this week to do that.

Taking Money “Off The Table”

One of the hardest things in managing a venture capital portfolio is managing your big winners. A big winner can dwarf the rest of the entire portfolio and you end up sitting on enormous paper profits that you can’t get liquid on. I realize that this seems like a great problem to have, and it is, but it is still a challenging situation.

We faced it in Twitter in 2010/2011/2012, in the years before Twitter went public (which happened in the fall of 2013). We had bought 15% of Twitter for $3.75mm in the first VC round in 2007 and though we had been diluted down a bit in subsequent rounds, we had a very large position that was worth in the neighborhood of $1bn by 2011. Our entire fund was $125mm and so we were sitting on a position that was worth 8x the entire fund. It was a wonderful situation in many ways but I was nervous that macro events or a setback at Twitter could go against us and the position would go down in value, possibly significantly.

The way we managed this issue is we sold a portion of our position in two secondary transactions and in connection with those sales, I stepped off the board, making room for an independent director who would be helpful as the Company scaled and got ready to go public. We sold about 30% of our position in those two secondary transactions for about $250mm and returned 2x the entire fund to our investors.

That allowed us to “chill out” and hold the balance until the IPO, which had a customary 180 day post IPO lockup. After the lockup came off, we distributed the balance of the position, returning another ~$700mm to our investors.

Though we sold stock in the secondary transactions at lower values than the eventual IPO, I have never regretted doing that and believe that it was the right thing for us to do for many reasons.

We have done similar things in many other situations including Zynga, Lending Club, MongoDB, and a number of other investments. We typically seek to liquidate somewhere between 10% and 30% of our position in these pre-IPO liquidity transactions. Doing so allows us to hold onto the balance while de-risking the entire investment.

I was reminded of this topic when I saw the news that Benchmark, First Round, and Menlo sold between 15% and 50% of their positions in Uber to SOFTBANK. I think they all acted rationally and responsibly in doing that. It does not mean that SOFTBANK is making a mistake purchasing the shares. There are many reasons to believe that SOFTBANK made a good deal. But if you look at First Round, for example, they have a position worth $2bn or more at the $50bn valuation of the SOFTBANK tender. I don’t know the exact details, but I believe First Round’s fund that holds Uber is less than $100mm. So they returned something like 8x the entire fund and still hold the majority of their position. That was “well played” in my book. Same with Benchmark. Same with Menlo.

Taking money off the table is smart portfolio management. It is very different from selling your entire position, which could be brilliant but is equally likely to be a mistake. Selling a portion of your position, returning a multiple or two (or eight) of the fund, and holding on to the balance works out for you no matter which way the position goes in the future. If the position blows up, you got a lot out and booked a huge gain. If the position goes up significantly, you make even more money on the part of the investment you retained. If it goes sideway, you got a little bit out early. It is a win/win/win pretty much every way you look at it.

Which takes me to crypto (naturally). If you are sitting on 20x, 50x, 100x your money on a crypto investment, it would not be a mistake to sell 10%, 20% or even 30% of your position. Selling 25% of your position on an investment that is up 50x is booking a 12.5x on the entire investment, while allowing you to keep 75% of it going. I know that many crypto holders think that selling anything is a mistake. And it might be. Or it might not be. You just don’t know.