Why I'm betting BIG on Ethereum
The engine of the future economy
(Updated Jun 2021)
[Why Ethereum?] [Blockchain security] [My Ethereum investment thesis]
Intro
Ethereum is a blockchain that’s relatively unknown outside the crypto community.
Among those who have looked into it however, the consensus is quite clear: Ethereum stands head and shoulders above most other blockchains.
After doing my research, my view is that Ethereum is going to be one of the best performing investments over the next 3 years... but NOT for the reason most people think.
Yes, it’s game-changing technology; And yes, it’s likely to process trillions of dollars in transactions in the coming years…
But that's *not* why I’m betting on Ethereum today.
The reason I’m investing in Ethereum right now is because - in addition to the value it will bring to the global economy - there's going to be an incoming supply shock and a demand surge.
To understand what this means, let me quickly explain from the beginning.
What is Ethereum?
Ethereum is a blockchain platform that runs decentralized applications (dApps), similar to how the internet is a platform that runs centralized applications like Google, Amazon and Facebook.
Centralized applications
With centralized applications, all data is stored on computer servers managed by a single authority. This means that the servers can get hacked, experience technical downtime¹, and get shut down; They are are a single point of failure.
Also, the owners of centralized applications can ban or restrict user access for any reason², or change the rules at any time.
dApps
With dApps, all data is stored on the blockchain (a global peer-to-peer network of computers) and is outside the purview and control of a single authority.
The only way to hack, censor, or shut down dApps is to take over 51% of the global network. This is extraordinarily difficult to pull off and is practically impossible, especially for a blockchain as widely supported as Ethereum.
dApps are permissionless, meaning anyone can create, run and use them without anyone’s approval. They are applications that run exactly as programmed without any possibility of downtime, censorship or fraud.
Fun fact: Ethereum is the name of the blockchain; Its cryptocurrency is called Ether (ETH)
Smart contracts
The core innovation of Ethereum is a thing called a ‘smart contract’.
It's basically computer code that automatically executes the terms of agreement between two or more parties.
For example, a smart contract could spell out something like:
- Account X puts up 1 bitcoin (BTC) as collateral.
- Account X receives a 10 ETH loan from Account Y on 15 June 2021 at 1pm.
- For every 24 hours that Account X does not repay the full loan, 0.001 BTC of collateral is sent to Account Y as interest.
- Once Account X fully pays back the loan, all remaining collateral is released back to Account X, and the contract is closed.
- Once a total of 5 ETH interest is received by Account Y, the remaining 5 BTC of collateral will be sent to Account Y, and the contract is closed.
This is an example of how a smart contract can be executed between strangers automatically, cheaply, transparently, and without any authority’s permission, millions of times per day.
There are a practically infinite number of ways to design smart contracts, each with different rules and use cases to carry out the requirements of the job.
The cool thing is that it's not even necessary for the contract parties to know (or even see) each other. Ethereum removes the need for trust between parties as they both trust the Ethereum blockchain and the smart contract code that runs on it (which are both 100% transparent).
dApps are essentially a bunch of smart contracts that work together to perform different functions.
Ethereum use cases
The most popular use case of Ethereum so far is that of decentralized finance, known as DeFi.
The finance industry is - unsurprisingly - the first to be distrupted by blockchain technology as it is highly inefficient; Traditional banks have had an unassailable monopoly for many decades, and they have grown sluggish and complacent.
Think about it: Why are bank branches still closed on weekends? And does a simple wire transfer really have to take 3 working days and cost 30 dollars?
The banking industry is far behind others because they have no incentive to improve; The bankers are shielded from competition due to government regulation (surprise: they are friends), so they can be inefficient and charge high fees because the citizens have no alternative. Did you know that many banks still use outdated computer systems³ from the 1970s?
With no strong operational advantage, the banking industry is easily disrupted by decentralized blockchain technology.
Decentralized Finance (DeFi)
There are billions of people today who can’t open bank accounts, and countless others who have their payments blocked or restricted through no fault of their own. At the same time, there are many who have no access to low cost loans or insurance services.
Ethereum solves all of these problems because it doesn't discriminate. With Ethereum's DeFi systems, everyone plays by the same rules; You won't be refused service based on your employment history or the color of your skin. It's a fair system with distributed power that's 100% transparent and is therefore trustworthy.
With an internet connection, anyone can have access to banking services faster and cheaper. Notably, people will be able to borrow and lend money based on interest rates not artificially manipulated by central banks.
What this effectively means is that 90% of the financial industry is becoming irrelevant. The vast majority of the services it provides can be done faster, cheaper, and more securely by DeFi.
Here are some examples of the financial services/applications that have been built on the Ethereum blockchain:
- Stablecoins (cryptocurrencies that proxy the USD): Dai, USDC
- Borrowing/lending: Aave, Compound
- Insurance: Etherisc, Nexus Mutual
- Prediction markets: Polymarket
- Decentralized exchanges: Uniswap, 1inch
- Asset management: TokenSets
- Portfolio dashboard: Zapper, Rotki
- Margin trading: dYdX, Bitmex, Bitfinex
- Crowd funding: Gitcoin grants
- Payments: Sablier, Tornado Cash
It's difficult to overstate the paradigm shift that is coming to the financial industry. Legacy institutions are so lacking in innovation that it would be trivial for a talented five man team to get ahead of them.
A simple example would be a payment system that charges/pays by the minute, or even by the second. So instead of paying a fixed "unlimited" phone bill each month, you could only be charged - in real time - only for each minute (or second) that you use⁴.
Virtually every industry will be improved by the financial innovation enabled by Ethereum.
One more example: Imagine you're an outdoor event organizer. Every time it rains your event has to be cancelled/postponed which means money down the drain. With decentralized prediction markets, you can hedge against bad weather by buying "weather futures", just like how corn farmers hedge against price drops by buying corn futures. If the weather turns out bad, your "weather futures" will be in profit and offset your costs.
There are many more examples of DeFi that I won't get into here, but the possibilities are mind boggling. Future DeFi entrepreneurs will come up life-changing DeFi applications that we can't even think of today.
In the words of billionaire Mark Cuban, "Banks should be scared."⁵
Non-Fungible Tokens (NFTs)
The Ethereum blockchain is also used to create and track NFTs.
NFTs are a special type of digital token, in that each one is unique (as opposed to most other tokens/coins that are undifferentiated).
They represent ownership of a specific asset that can be transferred or traded. Think of NFTs like a (digital) certificate of ownership.
The NFT industry is still in its infancy and is currently used for ownership of digital art⁶ and sports video collectibles⁷.
Eventually though, almost everything of unique value - both digital AND physical - will be represented by an NFT.
Ownership of cars, property, education/professional certifications, books, music, movies, computer game items, virtually everything of value will be represented (tokenized) by an NFT.
The programmability of NFTs enables people to do things that were not possible before. Some examples:
- A painter can sell NFTs of his art and automatically get paid new royalties every time it's re-sold
- An exotic car owner can tokenize ownership to 40% of his car collection and use that as collateral to take out a loan
- A computer game player can trade an in-game item in one game, for another item in a different game
- A football team can be co-owned by 10,000 people at at a price of $10,000 each.
In the coming decades, everyone will have their own NFT, just like how everyone today has an email address. Imagine being able to invest in a young man's future; You buy his token when he is young - just like how you'd invest in a startup - and as he builds his reputation over time, more people buy his token, pushing the price up.
This is not just about a new way of investing; This is a whole new way of looking at the world.
What else? Here's one more example.
High end investments previously only accessible to the rich (fine art, prime real estate) can be made affordable to most people, with each NFT representing a percentage ownership. So instead of a wealthy individual investing $10 million in prime real estate, you can have 1,000 people each investing $10,000 in the same property, with each person holding 0.1% ownership and proportionate rights to the rental income.
The possibilities are endless.
NFTs will open up new markets and unlock trillions of dollars of economic value.
If you'd like to learn more about NFT's, check out Andreesen Horowitz’s NFT Canon.
Decentralized Autonomous Organizations (DAOs)
DAOs are organizations that are fully owned and managed by members.
With no centralized leadership (no CEO, no board of directors, etc), DAOs are entirely run by member votes; Anyone can buy and sell tokens that confer voting power, similar to the shares of a public company.
Unlike public companies however, all rules and actions of the DAO are 100% transparent, run automatically and cannot be changed unless the members vote for it.
Some examples of DAOs:
- A co-sharing office where every member can vote for the facilities they wish to have in the office
- An asset management fund where members vote for which assets to invest in
- A charity that decides which causes to donate to based on member votes
DAOs enable people from around the globe to work together without needing to trust each other, because DAOs can only run exactly as they're programmed, which can be verified by anyone.
With DAOs, people no longer have to worry about a rogue CEO or manager doing something illegal or against the interest of the organization.
The most prominent example of a DAO is MakerDAO. It's a decentralized, autonomous organization that governs a cryptocurrency called Dai.
MakerDAO controls the demand and supply of Dai via interest rates that are determined by its members. In this sense, the power to regulate interest rates is distributed across a variety of stakeholders, rather than a small group of elites (like with central banks).
At the time of this writing though, DAOs are a relatively niche offering. It remains to be seen if they become a widely used vehicle for running organizations.
Who controls Ethereum?
Ethereum is decentralized, so there is no single person or closed group of people that controls it.
To make changes to the Ethereum blockchain, one must first propose the change to the global network of Ethereum developers.
If there is a consensus agreement, the change is implemented. Otherwise, the change is not implemented.
In this way, the power to govern Ethereum is distributed across the developer network across the globe, leading to generally fairer outcomes.
The next-generation economy
In the future, almost everything you exchange for value on the internet will go through the Ethereum blockchain.
This is the new economy that:
- Is entirely run by code (i.e. automated)
- Requires zero trust among participants (i.e. trustless)
- Cannot be restricted or controlled by a central authority (i.e. permissionless)
- Is open to everyone (i.e. equal opportunity)
Industries will be disrupted in ways we cannot yet imagine, just like how 20 years ago we’d never have guessed we'd be shopping on the internet today.
Back then, if you wanted to invest in the internet revolution, you couldn’t just invest in the internet itself; You had to pick the right companies: Yahoo or Google, Facebook or MySpace?
Today, you don't have to invest in any company or application per se because you can invest in the digital structure (blockchain) itself.
Ethereum's recent growth
Ethereum is without doubt, a game-changer.
But this doesn't mean it's necessarily worth investing in right now. After all, good investing is all about timing.
So to help with that decision, let's take a look at how its been growing over the past 12 months.
James Wang has written up a good summary¹¹ that I'll duplicate here:
Ethereum | Q1 2020 | Q1 2021 | Change |
|---|---|---|---|
Total transaction volume | $33bn | $713bn | +2,000% |
Total transaction fees | $8m | $1.7bn | +20,000% |
Daily active accounts | 364k | 607k | +71% |
Decentralized exchange volume | $2.3bn | $177bn | +7,600% |
DeFi total value locked | $0.8bn | $52bn | +6,400% |
Stablecoin value on Ethereum | $7.1bn | $41.9bn | +500% |
As you can see, the Ethereum blockchain and the ecosystem around it has had tremendous growth over the past 12 months.
This is a signal that things are kicking into high gear, and the time to start investing is near.
There are a few reasons why I'm investing in Ethereum now rather than later, and to understand these reasons you'll have to grasp the basics of how the Ethereum blockchain is kept secure.
Next: Blockchain security