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Has the speculative bubble of encryption burst? An examination of investment in the crypto world from first principles
The biggest problem in the encryption field is not talent or capital, but the lack of first-principles thinking, leading to the industry being deeply trapped in short-termism, extractive culture, and low integrity cycle.
Original Title: "First Principles - Compounders, L1s, IR, Buybacks"
Author: 0xkyle__, Member of DeFiance Capital
Compilation: ChatGPT
Editor's note: The author believes that the biggest problem in the encryption field is not talent or capital, but the lack of first-principle thinking, leading to the industry being deeply trapped in short-termism, extraction culture, and low integrity cycles. The author analyzes the reasons why the compounding factor is difficult to emerge, and proposes the need to promote long-term thinking from the top and focus on building revenue-generating products. At the same time, criticism is directed at the inefficiency of general Layer 1 blockchains, suggesting a focus on specific areas and the creation of an ecosystem to give tokens value. Additionally, there is emphasis on the establishment of investor relations roles for liquidity token projects to enhance transparency, rather than solely relying on buybacks and destruction. It is advocated to use funds to expand products and consolidate long-term competitive advantages, in order to break the current nihilistic dilemma and achieve sustainable growth.
The following is the original content (for ease of reading and understanding, the original content has been slightly reorganized):
The biggest problem in this field is neither talent nor capital. Simply put, it is a lack of first principles thinking. This is a culture that must be changed. The 1% of people need to start driving this field forward.
If you have been following my Twitter recently, you will find that I have been shouting frantically about some extremely low-hanging fruits, which seem to have a high leverage effect and appear very easy to achieve, but it seems that no one 'understands' or executes well. Here are some points I have made:
The real question is: why don't more chains use their funding programs to incubate their own dapps and build dapps that are clearly consistent with the chain, instead of hoping that these dapps won't abandon the chain within two years?
The industry's current price trend is largely due to everyone thinking, "You must sell because one day it will go to zero." The reason is that no one has really built a good product that people want to continue to dollar-cost average. ( needs compounding.
In the encryption field, 'marketing' is often not consistent with the product. If you are not a consumer-facing product—such as an income platform, why market to retail users at all? The best marketing is often price hikes. And the best at this are liquidity funds.
I will discuss each topic in this article, namely:
I will name this article "First Principles" because all these views came to me during simple thinking exercises on how to change today's industry with common sense.
This is not profound. Madness is doing the same thing over and over again, but expecting different results.
We have gone through three cycles, doing the same thing over and over again - essentially creating a void, zero-value accumulation, maximizing token and application extraction, because for some stupid reason, we have decided to open the casino in this fanatical way every four years, attracting capital from around the world to gamble.
Guess what? After three cycles, ten years later, people finally realize that the house, scammers, manipulators, and those selling you overpriced food and drinks in the casino are taking all your money. After several months of hard work, the only thing you can show is how you lost all your history on the chain. An area built on the foundation of 'I'll come in, make my money, and leave' will not lead to the establishment of any long-term compounding.
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This place used to be better, once a legitimate place for financial innovation and cool technology. We used to be excited about novel and interesting applications, new technologies, and 'changing the future of France (finance)'.
But due to extreme short-termism, maximum cultural exploitation, and low integrity individuals, we have fallen into this perpetual financial nihilistic self-devouring cycle, when everyone thinks that continuously investing in random scam tokens is a good idea, this cycle collectively triggers itself, because 'I will sell before he scams me.' (Honestly, I saw someone say they knew 'SBF Token' is a scam, but they will sell before being cut to 'quick profit'.)
You can say that I have no construction experience - that's true. But this is a small field, and it hasn't been around for long; I've been working in this field for four years, collaborating with some of the best and brightest funds, which has given me a deep understanding of what is effective and what is not.
I want to emphasize again: madness is doing the same thing over and over again, but expecting different results. As a field, year after year, we experience the same thing - feeling this nihilism after the inevitable collapse of prices, thinking that all of this is worthless. When NFT collapsed, I had this feeling (Oh my god, it's all a scam), and now people also have this feeling after the recent meme coin disaster, and people had this feeling during the ICO era.
Changing the status quo is simple: we just need to start doing things differently.
Compounding, culture, short-termism
Compounding, simply put, is an asset that only rises and does not fall over many years - think of companies like Amazon, Coca-Cola, Google, etc. Compounding is the potential for sustainable and long-term growth companies.
Why haven't we seen compounding in the encryption field?
The answer is more subtle than this, but basically--extreme short-termism and misalignment of incentives. Indeed, there are many problems with the structure of the incentive mechanism, which Cobie's private capture and phantom pricing article covers well. I won't delve into this because the focus of this article is, as individuals, what can we really do now?
For investors, the answer is obvious - Cobie points out here: you can choose to exit (you may want to do so)
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Indeed, people have chosen to opt out: this cycle we have seen the decline of 'CEX tokens' as retail participants choose not to buy these tokens; although individuals may not have the ability to change this systemic issue at the system level, the good news is that the financial markets are quite efficient—people want to make money, so when existing mechanisms do not generate profits, they do not invest, making the whole process unprofitable and forcing mechanisms to change.
However, this is just the first step of the process— to truly build compounding, companies need to start instilling long-term thinking in this field. It's not just that 'private market capture' is not good, but the entire chain of thinking that led us to this point— like a self-fulfilling prophecy, founders collectively seem to believe 'I will make my money and then leave', no one is really interested in playing the long game— which means the chart always looks like the M shape of McDonald's.
The top layer must change: a company is only as good as its leaders. Most projects fail not because of a lack of developers, but because of the decision of the top management to leave. This industry must start to regard those founders with high integrity, high energy, and long-term thinking as role models, rather than idealizing founders who engage in 'short-term pump and dump'.
The average quality of the founders in this field is not high, which is no longer news. After all, this is a field that calls those who bind pumpfun tokens as "developers" - the threshold is really not high. As long as you have a vision that surpasses the token launch for the first two months, you are already ahead of others.
I also believe that the market will start to incentivize this long-termism economically, and we have already started to see this. Despite recent sell-offs, Hyperliquid has still quadrupled from its initial issuance price, which is something that very few projects can boast about in this cycle. It is usually easier to make the argument for 'long-term holding' when you know that the founder's vision is aligned with the long-term growth of the product.
The natural conclusion is that founders with high integrity and high energy will start to occupy a majority of the market share, because frankly, when everyone is tired of scams, they just want to work for someone with vision and who won't quit the scam - and there are too few people who do that.
In addition to having a good leader, the establishment of a compound interest depends on the assumption of whether the product is good. In my opinion, this problem is easier to solve than finding a good founder. The reason why there are so many empty products in the encryption field is that the people who create these empty products also have the mentality of 'making money and then leaving'—thus they choose not to take on new problems, but simply fork popular things and try to make money from them.
However, the fact is that the industry does choose to reward such ethereal ideas—such as the AI proxy frenzy in the fourth quarter of 2024. In this case, after the dust settles, we will see the usual McDonald's M-shaped pattern—thus, companies must also start focusing on building profitable products.
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No income path = No long-term believers / holders = Buyers with no assets, because there is no future to bet on.
It's not an impossible task - the business in the encryption field does make money. Jito's annual revenue is 9 billion, Uniswap 7 billion, Hyperliquid 5 billion, Aave 4.88 billion - they continue to make money even in a bear market (just not as much).
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Looking ahead, I believe that the ephemeral, narrative-driven speculative bubbles will become smaller and smaller in the future. We have already seen this—2021 games and NFTs priced in the hundreds of billions, but this cycle, the peak of memes and AI agents is only in the tens of billions. It's a macro-level euthanasia rollercoaster.
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I believe everyone should be free to invest in what they want. But I also believe people hope their investments will bring returns - when the game is so clearly marked as 'this is a hot potato, I must let go before it goes to zero,' the roller coaster will go faster and faster, the market size will shrink as people choose to exit, or lose all their money.
Income solves this problem—it makes you as an investor understand that people are willing to pay for the product, therefore it has some long-term growth prospects. When something has no revenue path, it is almost uninvestable in the long run. On the other hand, the revenue path leads to the growth path, attracting buyers who are willing to bet on the continuous growth of assets.
All in all, building compound interest requires:
Universal L1 is dead, change is necessary
If you sort the Coingecko homepage by market value, you will find that blockchain accounts for more than half of it; except for stablecoins, Layer 1 holds significant value in our industry.
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However, the chart of the second largest digital asset after Bitcoin looks like this: )
If you buy Bitcoin in July 2023, you will increase by 163% based on the current price.
If you buy Ethereum in July 2023, you will increase by 0% at the current price.
This is not the worst yet. All the bubbles in 2021 have triggered a wave of 'Ethereum killers' - new blockchains that aim to surpass Ethereum in some technical way - whether in speed, development language, block space, etc. But despite the hype and massive capital investment, the results have not met expectations.
Today, four years since 2021, we still face the consequences of that wave - 752 smart contract platforms have launched tokens on Coingecko, and there may be more that have not been launched.
Not surprisingly, most of their charts look like this, making Ethereum's charts look decent by comparison:
Therefore - despite four years of effort, billions of dollars in funding, over 700 different blockchains, only a few L1 have decent activity - and even those have not reached the 'breakthrough level of user adoption' that everyone expected four years ago.
Why? Because most of these projects are built on mistaken ideas. As Luca Netz pointed out in his article 'What is consumer encryption,' many blockchains today follow a common approach, with each blockchain dreaming that they will 'carry the internet economy.'
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But it takes a huge effort, which ultimately leads to fragmentation rather than penetration, because a product that tries to do everything often can't do anything well. It's an effort that takes too much money and time – and frankly, many blockchains struggle to answer even a simple question: "Why did we choose you instead of Blockchain 60?"
L1 domain is another case where everyone follows the same script but expects different results - they compete for the same limited developer resources, trying to outdo each other in funding, hackathons, developer houses, and now it seems we are still making phones (?)
Let's assume an L1 succeeds. Every cycle, some L1s can break through. But can this success last? The winner of this cycle is Solana. But here's a view that many of you won't like: What if Solana becomes the next Ethereum?
In the previous cycle, a group of people were so convinced of the success of Ethereum that they invested most of their net assets in Ethereum. Ethereum remains the chain with the highest TVL, and now there is even an ETF—however, the price remains stagnant. In this cycle, the same type of people are saying the same things—Solana is the chain of the future, Solana ETF, and so on.
If history has any indication, the real question is - can today's victory ensure tomorrow's relevance?
My point of view is very simple: instead of building a general-purpose blockchain, L1 should focus on a core focus. Blockchain does not need to be all-powerful for everyone. It just needs to excel in a specific area. I believe the future is not about the blockchain— it just needs to excel, and the technical details will not be so important.
Today, builders have already shown this sign - the founders of building D-apps are mainly concerned not with the speed of the chain, but with the distribution of the chain and the final user consumption - is your chain being used? Is it necessary to have the necessary distribution to make the product appealing?
44% of web traffic runs on WordPress, but its parent company Automattic is valued at only $7.5 billion. 4% of internet traffic runs on Shopify, but its valuation is $120 billion - 16 times that of Automattic! I believe L1 will also have a similar end state, where value will accumulate to build applications on the blockchain.
Therefore, I believe that L1 should take innovative measures to build its own ecosystem. If we use cities as an analogy for blockchain (thanks to Haseeb's 2022 article), we can see that cities start because specific advantages make them viable economic and social centers, and then over time focus on a dominant industry or function:
L1 is also so - demand is driven by their attractiveness and activities; therefore, the team must start to focus more on doing the best in a vertical field - planning the kind of attraction that attracts people into its ecosystem, rather than building various exhibitions in the hope of attracting users.
Once you have the kind of appeal that attracts people into the ecosystem, you can build a city around that attraction. Again, Hyperliquid is an example of a team that has done a great job and iterated on first principles in this regard. They have built a local sustainable DEX order book, spot DEX, staking, oracle, multi-signature—all built internally, and then extended to HyperEVM, which is a smart contract platform for people to build on.
Here's why it's effective to simply break it down:
This 'attraction first, city second' model reflects the success of web2 platforms (for example, Amazon started with books, then expanded to everything else). Solve an exceptionally good problem, and then let the ecosystem expand organically from that core value.
Therefore, I believe that blockchain should start integrating its own products, building its own appeal, and having a stack; as a captain, you are a visionary person - this enables you to align your blockchain with your larger, long-term vision for L1; and ensure that the project will not be abandoned immediately when chain activities start to decline, as everything is built internally;
Most importantly, this process brings monetary value to your tokens - if the blockchain is a city, tokens are the currency/commodity people trade with; by driving value to the tokens through use - people need to purchase your tokens to do interesting things on the chain. It gives value to your currency and gives people a reason to hold it.
Oh, but it is important to remember that just because you specialize doesn't mean there is a demand for it in the market. Another hard truth is that L1 must work in the right way at the right opportunity. Blockchain must develop products that people want—sometimes, people don't really want 'web3 games' or 'more data availability'.
Liquidity Tokens and Investor Relations
The next topic is about how I think liquidity token projects should develop in this field. It's simple - liquidity token projects need to start establishing Investor Relations (IR) roles and quarterly reports, so that investors - whether retail or professional investors, can clearly see what the company is doing. This role is not new or revolutionary - but it is severely lacking in this field.
However, very little has been done in the field of IR. I have been informed by several project business development responsible persons that if you have some kind of "regular phone call to promote your liquidity tokens to the fund", you are doing 99% more in this field than other projects.
The development of the business is cool in attracting builders and ecosystem funders, but it is better to tell the public what the role of IR tokens is - it's really that simple. If you are a token that wants to attract buyers, you need to market yourself - and the way you do this is not by renting the largest booth at a conference, not by advertising at the airport, but by marketing yourself to capital-rich buyers.
By updating quarterly growth, you start to show investors that the product is legitimate and can accumulate value—allowing investors to speculate on the long-term prospects for the product's potential good performance in the future.
As for how you should go about it - a good starting list is:
Repurchase and destruction are not bad, but not the best either
The last thing I want to discuss is the repurchase and destruction in this field. My point is: if this money has no other use, I think repurchase and destruction is a good use. In my opinion, encryption has not yet reached a scale where the company can rest assured, and there are still many things to do in terms of growth.
The first and most important use of income should always be to expand products, upgrade technology, and enter new markets. This is consistent with driving long-term growth and building competitive advantage; a good example of this is the acquisition frenzy of Jupiter, which has been using cash to acquire names, to acquire products, and important talents in the field.
While I know that some people like buybacks and burn, and will call for dividends, my view is that most encryption operations are similar to technology stocks, because the investor base is of a similar type: investors seeking high returns hope to get asymmetric returns.
Therefore, it doesn't make much sense for the company to return value directly to token holders through dividends - they can do so, but they would greatly benefit from the product if they use cash reserves to build a larger moat that will serve them in 5 to 10 years.
encryption is now at the stage of entering the mainstream—so slowing down now makes no sense; instead, cash should be invested to ensure that the next winner stays ahead for a longer period of time, as despite all prices falling, institutional adoption of encryption has never been better—stablecoins, blockchain technology, tokenization, etc.
Therefore, repurchasing and destroying, although much better than taking money and leaving, are still not the most effective way to utilize capital, considering how much work still needs to be done.
Conclusion
This bear market has already made people realize the necessity of building revenue-generating products as a path to profitability, and the inevitable need to serve as a legitimate investor relations role to showcase token performance.
There is still a lot of work to be done in this field. I remain optimistic about the future of encryption.