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July 16, 2020

Episode 012

BlockFills, SFOX & MakerDAO


Liquidity in the Crypto Markets

One way to gauge the maturity of the cryptocurrency markets is to compare its growth to that of the traditional financial markets. Daniel Kim, head of revenue at SFOX, and Neil Van Huis, director of sales at BlockFills, are both alum of the traditional financial markets and have witnessed first hand the growth of liquidity in the crypto markets. SFOX’s Kim noted,

“From three to five years ago to now, liquidity has grown tremendously. What we’ve seen is heck, if you tried to buy 100 bitcoins two-to-three years ago, you’d move the market instantly.”
“But today people say if you try to move bitcoin or ether, it’s fully liquid; it’s a lot more comfortable.”

Crypto Leverage

The derivatives space has seen an explosion of growth in unregulated cryptocurrency derivatives markets and the emergence of products like perpetual swaps, giving traders an opportunity to take on significant leverage. The regulated and unregulated worlds tend to operate in silos.

Van Huis explained how it’s an interesting landscape. At Blockfills, they only work with institutional investors, not retail folks, as a result of which their view into the market is one-sided. He explained:

“When we talk to pro traders, hedge funds, institutional traders, etc. they really tell us, ‘We’re not really looking for another perp out there in the world. We’re not interested in 100x leverage to take a position. We’re just market making.’ And so I think if you look at those highly levered positions, the demand is at the retail level or the low-level professional that is looking to try to outperform.”

Early Days for DeFi

Decentralized finance, or DeFi, is an area that has taken the cryptocurrency industry by storm, as market participants look to reconstruct traditional assets into a decentralized version. According to SFOX’s Kim, however, there will be growing pains along the way.

“DeFi right now is becoming very, very popular. It’s a thing that everyone believes in and wants to get into. That liquidity, it’s there. But it’s still very early, right? Like everything that starts off as a new product, the idea is always great but there are always still certain flaws that need to be checked out. And unfortunately there will be accidents that do happen,” said Kim.

Van Huis harkened back to the traditional capital markets, where the saying “liquidity begets liquidity” originated, saying that it is the dynamic in the cryptocurrency markets too.

(16:26) He argues that while DeFi is an “incredible concept to build for the future,”accidents will happen, just as they did in crypto’s early days. Van Huis expects that there will be security measures implemented as a result of oversubscription and mass adoption, saying:

“I think that’s the thing that I dislike most about DeFi right now, is platforms that try to grow too fast too early and don’t have the right security in place…It’s one thing to get hurt on a trade. It’s another thing to get hurt from not having the right technology and security in place….While DeFi is very immature, we hope that it expands. It has a way to go in our opinion.”

DeFi Is on Fire

It’s clear that DeFi is all the rage in 2020, with the market cap of this segment having more than doubled year-to-date to currently hover at USD 2.5 billion. (18:48) Matthieu Jobbe Duval, head of financial products at Coinlist, said it’s a “very impressive figure,” adding:

We breached USD 1 billion back in winter 2020. And people said, ‘you know, it’s because of ETH, USD rally…Now it’s hard to put that argument forward because ETH has been just like bitcoin — very stable in the last couple of months.”

The growth, Duval says, has been two pronged, spurred by stablecoin Maker, which has gone from a USD 100 million market cap to USD 200 million, and Compound (COMP), which has grown its asset base by a couple of orders of magnitude.

“People who come on Compound really come for that COMP token being airdropped to them and not necessarily for the actual use case of the smart contract, which is lending and borrowing.”
In the coming weeks and months, investors should keep their eye on COMP token. The COMP price has fallen from USD 250 to USD 165 since launch.

I think COMP is a bit of a victim of its success. Everybody is looking to the COMP token as the barometer to DeFi health. COMP has gone down steadily every single day, it’s currently at USD 165. The intrinsic value…is around USD 20-30. So you still have a good amount of room there. So COMP is No. 1 thing you want to look at.”

Investors should also keep their eye on liquidity pools to see if yields hold once volume starts picking up again.

DeFi Building Blocks

MakerDAO, which was started five years ago, runs on Ethereum. From the get-go, the team said that it has to be a multi-collateral protocol. It’s still early days for the Maker project. Di Prisco explained,

Right now, there’s about seven different assets I think that you can generate dai against; but with the exception of the other stablecoins, almost all of them are very correlated to crypto. So bitcoin is our second largest after ether, we use wrapped BTC from Bitgo, and after that it’s a bunch of stablecoins and after that it’s a bunch of ERC-20 tokens.”

On the debate as to whether MakerDAO is a decentralized project, De Prisco said,

“It’s quite decentralized, I can tell you that first hand. Because a lot of the things that I want to happen, don’t happen,” said Di Prisco.

March 12 is a day that will live in infamy in the cryptocurrency markets, as not only did the BTC price crash but the market structure essentially broke.

“If March wasn’t stressful, then i don’t want to be around,” DiPrisco said of the stress test.

A takeaway from BitUSD was the importance of diversifying into multiple forms of collateral because by having one, you can’t simply account for all of the risk.

The DeFi space is a lot like legos, so many assets wrapped inside other assets, etc. Di Prisco explains how to understand the risk factors.

If you went back to the Great Financial Crisis I think it really separates into two camps of people for where to point the fingers: you have people who think that it was the complexity of the products that were the problem, and people who think it was the opacity of the products that was the problem. I firmly fall into the latter camp.”

Di Prisco goes onto explain that “complexity is only bad when it’s hidden,” adding:

“In DeFi, everything is by default transparent almost to its core. That to me makes the big difference.”

DAO end users are mostly retail currently, but the credit side is institutions.

“We, the entire Maker community, need to make our products work in a way that they can use without too much of a difference between what they do today.”

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Gerelyn Terzo
Gerelyn caught wind of bitcoin in mid-2017 and after learning about the peer-to-peer nature of Satoshi's creation has never looked back. Previously she covered institutional investing and fintech for several major trade publications. Gerelyn resides in Verona, N.J.

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