With Bitcoin dominance still lingering down in the 40-45% range, meaning its market cap comprises less than half of the total value of all crypto, discourse in the space is as contentious as it has always been.
This time, perhaps more so than in the bull market of 2017, there is a sense that altcoins are here to stay. In some cases, alternative protocols are presented as superior to Bitcoin, while in other cases coins are framed as the opportunity of a life-time “just like Bitcoin was a decade ago”.
But all is not so simple and opinions are divided. So in this article, I’d like to present a few thoughts and some data that investors, more so than day traders or short-term speculators, might want to consider.
The Rise Of Altcoins Versus Bitcoin
Given Bitcoin’s disruptive potency and its attractive risk-to-reward ratio at this early stage in the network’s adoption, it can hardly be surprising that its launch in 2009 spurred on the creation of thousands upon thousands of alternative cryptocurrencies, each initially intent on capturing market share away from Bitcoin or on creating a new niche altogether.
The points of contention between Bitcoin and these altcoins have shifted as the market evolved. Litecoin, Dash, Bitcoin Cash, and yes, Dogecoin – these are all essentially direct copies of the Bitcoin code with a few adjustments around such things as block size, rate of issuance, total supply, confirmation time, and so forth. These were primarily meant as improvements on or alternatives to the Bitcoin protocol.
With the rise of Ethereum and smart contract functionality, a world of possibilities opened up and the space experienced explosive growth around utility tokens, stablecoins, tokenized assets, governance tokens, leveraged tokens, exchange tokens, non-fungible tokens and so-called meme coins.
What’s more, with the emergence of Decentralized Finance (DeFi) we’ve seen unprecedented democratization of financial innovation and capability as well as increased access to the otherwise opaque world of money. DeFi platforms allow anyone to convert their tokens, trade, borrow or lend on a peer-to-peer basis. Additionally, users are able to stake their funds in auto-managed liquidity pools and earn interest rates as high as 500% (APR) or even higher.
But it’s not just new types of tokens and financial instruments that have come onto the scene. The evolution of crypto has also been about innovating at the level of system architecture with different chains using different methods for securing the network and safeguarding the integrity of transactional records.
Bitcoin, famous for using the Proof of Work (PoW) consensus algorithm, requires hardware to perform complex and energy-intensive computational work. As the network grows and the difficulty of these computations is raised, miners will need to keep upgrading their hardware and find cheaper sources of energy to compete with enough of a profit margin.
Other networks require zero hardware, but instead rely on mechanisms such as Proof-of-Stake (PoS), Delegated Proof of Stake (DPoS), Proof of Importance (PoI), Nominated Proof of Stake (NPoS), Byzantine Fault Tolerance (BFT), Tangle, or some combination of these (Hybrid).
The chart below shows the distribution of these protocols in terms of usage among the top 10 cryptocurrencies per year, from 2013 until now. It’s clear that the main point of contention lies between PoW and PoS.
In such a dynamic environment, with so many different use cases, one might wonder if the growth of these alternatives could be spelling Bitcoin’s eventual redundancy.
From Dominance To Redundancy?
Undoubtedly, there are those who regard Bitcoin as an outdated iteration of blockchain technology, now far surpassed on most fronts by newer protocols. Others see Bitcoin as the apex store of value and the final reserve currency where all positions shall eventually be settled. The former profess diversification, while the latter insist on discipline, consistency and focus.
In this context, it’s good to remember that Bitcoin was not just followed, but also preceded by an array of digital currencies, including Hashcash and Bitgold. The main difference between them, and the reason why Bitcoin succeeded where the others failed, has to do with its truly decentralized nature and complete removal of counterparty risk.
In any centralized setup where users of a currency have to trust a central entity to manage the money supply, ensure proper collateralization, or guard against double spending, the growth of the asset itself carries an inherent risk to its own survival – this can come in the form of corruption and greed, external pressure, or plain evil.
“In any centralized setup, the growth of the asset itself carries an inherent risk to its own survival.”
The point that we must bear in mind is that the crypto space today is hardly under any serious pressure. If anything, the prospect of inflation and loss of purchasing power, coupled with a world distracted by a public health crisis, provide the perfect breeding ground for all types of unregulated, seemingly lucrative cryptocurrencies to flood the market and attract capital.
But how will these cryptocurrencies fare in the face of regulatory crackdowns, outright prohibition or high-level network attacks? What would happen if crypto is declared a threat to national security?
What’s The End Game?
The prospect of Bitcoin going to zero is unrealistic.
Indeed, pets.com failed and MySpace is no longer what it used to be, but both still exist and have brand value. What could potentially happen, however, is that in light of other more lucrative opportunities or in the absence of the extreme socioeconomic conditions which are typically regarded as drivers of Bitcoin’s adoption, Bitcoin could slide into relative obscurity. While still operational, its price would be unremarkable, volatility would subside, and apart from a few die-hard maximalists, Satoshi’s vision would be cast into the bin with other good ideas, like Esperanto.
Such an outcome seems unlikely, especially if we consider that many altcoin projects are driven by the same core principles as Bitcoin. Unless some disaster catapults humanity back to the bartering age, there is no reason to anticipate a decrease in interest in digital currencies for at least a few hundred years.
Against the idea that Bitcoin would somehow slide into obscurity stands the argument articulated by Dan Held in his piece on the mass extinction of altcoins. The argument is essentially that a mass filter event – in the form of a serious state-led assault on cryptocurrency – would wipe out most if not all cryptocurrencies, except Bitcoin because of the real-world absence of a single point of failure. This argument is strong, but it is conditioned upon the actual occurrence of such a filter event.
Alternatively, Leo Weese, who is actively involved with the expansion of the Lightning Network, shared the idea that even in the absence of a harsh crackdown, a process of Standard Convergence is likely to play out. This argument holds that it makes no sense for there to be such an abundance of same-purpose protocols and currencies.
In his view, Bitcoin is likely to absorb much of the capital in crypto, but protocols such as Ethereum or some other smart contract platform may be able to retain value and usage, simply by virtue of its differentiating features. From this perspective, Bitcoin’s dominance rises along with gradual developments in the first and upper layers, such as the Lightning Network, and alternative protocols could perhaps be seen as lucrative experimental grounds, with some matured features eventually finding their way to the dominant network, either in the form of an upgrade or a side-chain.
What we need to recognize, however, is that as game theory dynamics continue to run their course, and we continue to see widespread adoption of Bitcoin as a truly decentralized global monetary network that offers unparalleled security, it is also likely that we will continue to see experimentation and innovation in the altcoin space. If Bitcoin were to evolve into a base layer currency with global reserve status, or in the least as the Internet’s base native currency, just as equity is built on top of a USD-based economy, it would make sense for there to be altcoin markets to capture business growth or some opportunity.
Nevertheless, the confidence Bitcoin-only investors have in Bitcoin’s survivability and sustained dominance over the rest of the crypto market is not without ground. While Bitcoin has so far been undefeated as the first mover and number one cryptocurrency by market cap, only a handful of altcoins from the early days can make a valid claim to prolonged success.
This table shows the top 10 cryptocurrency rankings over the past 8 years, as well as current rankings. This table should also serve to moderate current expectations in the market for new projects that promise the world.
While the main areas of consolidation still need to come into focus more, we can see that the top 4 cryptocurrencies embody:
Global Reserve Asset (BTC)
Smart Contract Platform Token (ETH)
Stablecoin (USDT)
Platform Token (BNB)
Each of the currencies that make up the rest of the top 10 and arguably beyond is vying, in some way or another, for any or a combination of these main themes, including second layer solutions that are ultimately in service of a first layer protocol.
Consolidation Ahead
For many in the space, represented by more than 50% of crypto’s market cap, it seems too early to abide by a maximalist strategy with respect to Bitcoin. And fair enough, while Bitcoin continues to trail its historic course, it is surrounded by a flurry of exciting dog coins, high-performing super protocols and persuasive artworks. Even seasoned Bitcoin-only investors might be tempted to speculate on these projects as a way to accumulate more Bitcoin.
But ultimately, survival in crypto will rely on sustained differentiation, against the natural market forces of consolidation.
For a global reserve asset, convergence on a single shared unit is a likely outcome, and for such a network, security and incorruptibility are more important than speed or even cost/energy efficiency. Meme coins and charismatic community leaders may capture the imagination of a crowd for a while, but a strong culture of HODLing is bound to gravitate towards a single scarce asset that continues to withstand the test of time.
For payments there is likely a long term role for stablecoins, perhaps in the form of Central Bank Digital Currencies.
For smart contract platforms, the big word is interoperability – this is another way of saying, a platform for all platforms, and by sheer logic, ultimately, the only platform.
Platform tokens are likely to be among the few token types that could potentially stay around for quite a while, especially if they take on the form of equity.
Second layer protocols can only thrive for as long as first layer protocols are in need of such solutions.
In conclusion, if most of us agree that endless money printing is unsustainable, then surely we can agree that the endless issuance of new coins is not sustainable either.
For diversified investors who are looking for long-term exposure to crypto assets other than Bitcoin, with over 10,000 cryptocurrencies to choose from, now would be a good time to identify thematic clusters of consolidation. What are the great themes in crypto, the main areas of innovation, and where do we see real points of contention and long-term growth?
The great filter event may not be coming just yet, but growth always involves destruction. This is actually inevitable.