Price is a measure of value, and value is utility. In the short term there are variables that distort the price. In the long run, price follows value.
A product is in demand if it is useful to many people. The blockchain industry may be in demand if, as a disruptive technology, it offers people a useful solution to their lives.
Bitcoin’s proposal, according to its creator Satoshi Nakamoto, is Bitcoin: A Peer-to-Peer Electronic Cash.
Cardano’s proposal, is more ambitious, according to its founder Charles Hoskinson, said in a tweet in August 2020: “Cardano is an open platform that seeks to provide economic identity to the billions who lack it by providing decentralized applications to manage identity, value and governance”, i.e. RealFi. At the end you have an article on the subject (1).
The different cryptocurrencies had a rapid rise in price, and market capitalization due to adoption, in the last 4 years. This adoption was not only by people, but also by institutions, with their investment funds and financial products. But not all adoption is motivated by value, but in many cases it is only for stock market speculation.
Price manipulation with bots and a lot of money (the well-known whales) is becoming more and more noticeable, and although it is not a strategy created for the crypto market, it has a greater impact given its shallow depth, and although the total capitalization is ~$1.4 Trillion as of 10 May, and the concentration of money is the relevant factor in these whale movements.
The Exchanges play a crucial role in price management, since they move the greatest liquidity and are the ones that determine the prices in the market. The exchange balance of these crypto banks, as I like to call them, is key, and that is liquidity.
CoinMarketCap ranks and scores exchanges based on traffic, liquidity, trading volumes, following 308 platforms with a total volume of $260.77 billion in 24 hours, at the time of writing.
What is an exchange balance?
It refers to the amount of cryptocurrency held on an Exchange platform, which is generally held in several separate, proprietary wallet addresses. If the amount of funds is high, it means that there is a lot of liquidity to buy and sell tokens, and it is easier to trade cryptocurrencies in a liquid market, since trade orders are filled more effectively due to the higher volume. Conversely, when the amount of funds is low, there is less liquidity.
A less liquid, shallower market means price volatility is greater, making it riskier as there are fewer buyers to prop up prices if there is a sudden decline, and fewer sellers to hamper breakouts if there is. a strong rally.
Cryptobanks Print Cryptocurrencies
An Exchange is a crypto bank, as I said before. Sell and lend your money for commission earnings. Exchanges need you to keep your cryptocurrencies in their custody. Why? Because they need liquidity to operate, but they also use the fractional reserve banking system.
Let’s say you buy and leave 1 BTC (Bitcoin) on the Exchange for 1 year without touching it. The Exchange lends (or sells), for example, 0.9 of your BTC to Bob, and another 0.8 of your BTC to Alice, who also keeps them on the platform. On the books they still have 1 BTC in debt with you, and you are satisfied because you will get an APY (Annual Percentage Yield) after a year. Bob and Alice repay their loan (or buy) BTC, and the process is repeated over and over again.
In simple terms, they print BTC, because in my example, out of 1 BTC, 1.7 BTC were lent. All this is possible if nobody withdraws the BTC from the Exchange, because they are only records in the internal ledger of the Exchange.
If you keep your newly acquired Bitcoin on the Exchange (custodial system), you are not reducing the supply, in fact, you are giving the Exchange more liquidity to create more fractions. This pushes the price of Bitcoin down. The opposite happens if you withdraw your Bitcoin to your wallet (non-custodial system).
The price of Bitcoin is determined through supply and demand. When there is a shortage, the price goes up, and when there is an abundance, the price goes down. When crypto banks print, they raise the supply, that is, they make it more abundant.
Bitcoin: The Dominant and Dominated Cryptocurrency
For most of its existence, Bitcoin has been untethered from the markets. In other words, their movements were not tied to the stock market or general business cycles.
However, this fact has recently changed, hand in hand with an increase in ‘crypto’ transactions in the trading hours of the US market, and that the consonance with the Nasdaq and the S&P500 has reached highs in January.
As of 15 May, Bitcoin’s dominance is ~44% in the crypto market, is at the lowest levels in its history, (it was 70% in December 2020), but it equally drags down the rest of the cryptocurrencies. The entire market responds as a single asset, and appears algorithmically aligned following BTC, which would appear to be market manipulation with bots.
Wall Street continues to impact the price of BTC, with more financial products, trading derivatives in traditional markets, and thus the co-optation of Bitcoin takes shape, starting from the price.
Kaiko shows that the 30-day correlation between Bitcoin, Gold, the S&P500 and the Nasdaq Index reached its highest correlation in November 2021, but remains high still. The closer to 1, the stronger the correlation.
It is no coincidence that the recent strong sell-off of Bitcoin coincided with the crash of technology stocks, since for institutional investors, who concentrate large sums of money, Bitcoin is an asset like PayPal, Meta or Block (Square). From the beginning of the year to the date of this writing, those companies are down ~40% to ~50%.
Stablecoins: UST, the Stablecoin Without Value. And DJed?
Stablecoins are cryptocurrencies issued to maintain parity with some fiat or commodity currency, such as gold, to avoid volatility and to be used as a unit of measurement. At the end of this article you can read more about stablecoins (2).
The recent volatility in the market is a battle test for the strength of algorithmic stablecoins.
There are three types of backup: fiat, collateral, and algorithmic.
In the case of fiat, coins are issued according to the support that is deposited, the case of USDT (in theory doubtful).
For collaterals, the issuance depends on the securities that are given as collateral. DAI is collateralized with a basket of cryptocurrencies: ETH, BAT, USDC or even wBTC.
The last of these types of backups is the algorithmic one, whose value is established through different code stabilization systems, such as UST. Let us see this case that deserves special attention.
UST, (Terra USD), is a stablecoin created by Terra, a supposedly decentralized, consensus Proof of Stake (POS) smart contract platform built by Venture Capitalists to offer “programmable money for the internet.”
UST is an algorithmic stablecoin, which means it is not backed 1:1 by US dollars. Use the LUNA coin as a stabilization value. UST can be minted by burning LUNA, and vice versa in a 1:1 ratio. This unites the two currencies and, in an ideal world, means that as long as LUNA has value, the UST currency will maintain its parity due to the arbitrage opportunity available at any given time.
There are incentive mechanisms to help maintain the bond, but they clearly failed, as the return it paid (19.5%) to block LUNA was too high and unsustainable relative to the loan collection rate.
In just one year it reached a market cap of USD 20 billion, minting an equal number of UST tokens. Financial engineering without support of economic design, or real use.
All stablecoins have suffered a loss of parity at some point, both below their anchor and due to overquotation. A margin is admissible, but based on market experience, it should not oscillate more than 5%, and quickly recover its anchor. Let’s see a summary.
In the case of Cardano, Djed is the stablecoin designed by Input Output Global (IOG), currently on testnet.
Djed is designed to maintain its 1:1 parity with the USD, regardless of market turmoil. How is Djed different from other algorithmic stablecoins?
ADA reserve funds are not managed by market makers, but by users who mint Shen’s reserve currency, a function of adding ADAs to the reserve pool, locking those ADAs. This provides a decentralized aspect to the Djed mechanism. Shen holders are incentivized to provide liquidity through rewards arising from Djed fees.
Since Djed can be over-guaranteed (up to 8 times and not less than 4), the risk of Djed losing parity is lower. This means that for every 1 Djed minted, there are 4 to 8 Shen in the reserve fund.
If the ratio falls below 400%, users will not be able to mint Djed and Shen holders will not be able to burn their Shen. So, in the event of a market crash, there is a safety cushion for Djed holders, which guarantees its sustainability.
The minting of new Shen is also monitored to keep balances stabilized and to ensure that there is always enough ADA in the reserve pool to provide an equivalent dollar value to the Djed when burned.
You can read the Djed whitepaper: eprint.iacr.org/2021/1069.pdf
The biggest challenge facing the crypto industry is to develop technological products that are in demand, and are economically profitable for their development and maintenance, but a second challenge is added, which is financial, from the listing of crypto assets in the markets. markets.
The fundamentals of development and its business focus are key when evaluating a blockchain system. Analyzing the metrics of the blockchain is relevant to measure its health, and the network consensus is the main one, but not the only one. That metric is, for Proof of Work (PoW) the hash rate, and for Proof of Stake (PoS) the amount of cryptocurrencies in delegation in the nodes.
Today, the Bitcoin hash rate is near all-time highs. Just like Cardano delegation, with ~73% of circulating ADAs in delegation. This shows good network health for both blockchains, although of course the analysis must be deepened to have a complete diagnosis.
Adoption ultimately depends on utility, but price plays an important role in the short term. Everyone wants to earn money when they invest, in addition to being able to obtain real use, such as a payment system, loans, digital identity and others.
The balance between price and value is key in adoption, and a development will only be sustainable in the long term if it withstands the onslaught of the market, since the network effect that increases the number of users (Metcalfe’s law) will cause price follows value.
An interesting reflection of “ADA whale” on Twitter: “After breaking the bull market with force, wrecking a stable coin, if now the forces who we are at mercy of can cause Saylor + El Salvador to default, they will have checked all boxes of the hypothetical crypto attack I would have devised if I worked for an alphabet agency. Just wargaming things, not saying this is what actually happened of course. Don’t assign to malice what can be explained by stupidity etc. Maybe it’s just bear market things. But my spidey senses have been tingling.”
(1) Cardano Proposes to TakeDeFiOneStepFurther: RealFi — Part 1 (part 2 linked at the end of the article)