Crypto Investing is a Game
Where's the product/market fit in crypto?
I often hear the phrase “don’t marry your bags” shared as common advice for crypto investors. It’s good advice for sure, but why?
When you buy a crypto token what are you buying in a financial sense? It’s not a claim on the current or future cash flows. It’s not ownership of physical assets that can be sold in the market for money. Given this lack of fundamental financial value accrual why pay anything at all for a token? Well, because you expect to be able to sell it to someone else for more money, of course. In traditional finance that’s called the greater fool theory. There’s nothing inherently wrong with that, but you have to know the game you’re playing. The vast majority of crypto token valuations are built on greater fool theory.
Before I go any further I want to separate the crypto economy into things I think have a sustainable product/market fit and things I think can have attention and hype but don’t have a sustainable product/market fit. Here are a list of things that have a sustainable product/market fit —
Bitcoin as a store of value. The digital gold use case. We all know it, it’s why bitcoin has a roughly $800B market cap and represents 48% of the overall crypto market.
Ethereum as a world computer. Again we all know this story. Imagine all the applications that could be built on-chain! We could replace existing financial systems and governance systems! Will that actually happen? Hard to say. Even as many smart crypto folks believe in a multichain future, it’s hard to imagine another chain overtaking Ethereum in market cap. Despite the narrative around Solana’s vastly superior UX and TPS, I don’t really see why Ethereum can’t/won’t catch up over the next few years. There’s good reason for eth to have a $250B market cap, 16% of the overall crypto market, and a large monetary premium over it’s cash flow based valuation.
Stablecoins (better thought of as cryptodollars in my opinion) as a medium of exchange for people in countries with unstable currencies. Tron has been dominating this market lately, but there’s no reason that Ethereum couldn’t dominate if the UX improved and transaction fees were essentially free. There’s real questions about how much the first mover advantage matters here, but I’ll save that for another post.
Here are the things I think don’t have a sustainable product/market fit — everything else in crypto. That’s a bit of an exaggeration. There’s of course things that have product/market fit within the crypto ecosystem itself like audit firms, bridges, DeFi borrowing/lending applications, liquid staking, but in terms of product/market fit that might interest a non-crypto native, it’s just bitcoin, eth, and cryptodollars.
But that’s a view that’s limited to the here and now. Instead of looking at what crypto is right now, let’s imagine a hypothetical future where crypto gets widespread adoption. What would be the big picture use cases? I see 3 broad use cases for crypto.
Crypto as financial plumbing in non-developed countries. Just as many countries jumped straight to smartphones without first needing to set up landlines, many countries will go straight to crypto financial rails instead of trusting the private databases of large incumbent financial institutions.
For the developed world crypto is privacy preserving technology to make cash-like transactions in the digital world. We live in an unusual moment in time where all of our transactions can be viewed and intermediated by giant companies and governments.
Crypto as a platform that allows for individuals to cut out rent-seeking middlemen in a software value chain. Right now, many of the largest software companies business model is to create (non monetary) value for users and take the monetary value for themselves. It’s the foundation of web2 companies like Meta. As the world becomes increasingly digital (hello metaverse…) these software value chains will take up an increasingly large percent of our attention and ultimately financial lives. In this new world monetary value accrues to the individuals who provide their attention, not the middlemen who harvest it.
So now with that out of the way, why is it so wrong to marry your bags? First off, I think if your bag is bitcoin or eth it’s not a problem to marry your bags. Those bags will be fine. No one really marries a bag of stablecoins, but I guess that’d be fine too. The advice comes into play because everything else in crypto is an investment in something that doesn’t have sustainable product/market fit. Not only that, but how many crypto projects seem to be making meaningful headway in any of my 3 broad crypto use cases? Not many.
Getting to product/market fit in those 3 broad use cases could take decades. Privacy preserving technology requires scientific breakthroughs in zero knowledge cryptography and/or fully homomorphic encryption. In the case of cutting out rent-seeking middlemen, there’s generational change that needs to happen. My 67 year old dad recently dropped the bombshell on me that when his friends go out to restaurants they either pay each other back in physical cash or do separate checks, no digital money transfers. Crypto plumbing in non-developed countries will likely happen slowly over time as the people who start out by using crypto rails for cryptodollar transfers slowly expand into using those same products for other financial services.
If the goal of a project is for the founders and investors to make money, why spend all this time trying to achieve a sustainable product/market fit when instead you could simply build a product that attracts crypto native speculators for long enough to cash out some portion of your token allotment over a few years? I’ll have a lot more to say on this point in future posts, but for now, there’s not really a strong incentive for most crypto builders to think long term instead of short term. If the builders think short term, then shouldn’t the speculators also think short term? If the speculators as a community think short term then why should any individual speculator marry their bag? When I put it like this it almost goes without saying to not marry your bags, but so many investors still do.
There’s something that happens psychologically when you see a token you hold dramatically increase in price. Price drives attention in crypto. That price increase drives a ton of attention and interest to the token. All the sudden there’s a flood of people talking about how this product is the next big thing. It’s easy to mistake this frenzy for product/market fit. It’s not. It’s still greater fool theory speculation. Always remember where monetary value accrues in the system! For me, when I have a big return in a token it makes me nervous, like I’m holding a ticking time bomb. That’s because I always come back to the framework I laid out here. In my head I’m thinking “I should convert these paper gains back into things of value like bitcoin, eth, and cryptodollars”.
All of that is to say, investing in crypto is like playing a game. It’s fine to explore new parts of the game, but that exploration should always be in service of stacking up the points that matter - bitcoin, eth, and cryptodollars. Never lose sight of the big picture, never marry your bags!