Tokens of Wisdom
Blockchain, Web3, crypto what is so fundamentally transforming about these technologies and where do we see value creation emerging over the next few years in this space? Tune in to hear Matrix's POV on this and more.
Rajinder:
Hi and welcome to Matrix Moments. Very excited to do this podcast with the two resident crypto nerds at the firm, Avnish and Aakash. Thank you. i guess we’re in the middle of a crypto winter and it’s kind of timely to do this podcast. The bears will say 3 trillion has gone to 1.2, coin base just lost a billion dollars this last quarter. interest rates are going up, risk off, the bulls will say keep your line of sight on the $100 trillion opportunity, bad actors are gone, great things are starting.
i guess this is about what our point of view in this space is but if we cut out all this noise and if we just focus on block chain, Web3, crypto what is so fundamentally transforming about these technologies and where do we see value creation emerging over the next few years in this space?
Aakash:
i think i’ll start with what is capturing the imagination for everyone, right, i think crypto, block chain, Web 3 has been both a technological force and a cultural force. i think there has been an element of – with the backdrop of people building a lot of distrust with centralized organizations which we saw with data privacy and all those narratives i think block chain brings a transparent trust leisure. And that has been one cultural phenomena or cultural force behind it.
And i think the second one is just the efficiency of what you can do with the distributed ledger, now you combine those two with a strong and fast influx of young developers who are building behind it with extreme conviction and passion you get what you get now, obviously Avi and i can talk about what has been some of the missteps in that journey but that together with i think one more factor which gets enabled by what we call crypto assets, tokens, tokenization which is the first generation of Web started with this passive consumption.
And then we went to a point where consumer started becoming creators, i think the Web 3 narrative is a lot to do with ownership and more equitable distribution of rewards back to these contributors. Now those two things we believe that are going to be extremely transformational, they are going to be pretty much the underpinning of how we look at Web few years from now.
Avnish:
No, i was going to pick up on that but just backing up Rajinder to give a perspective from Matrix standpoint if you guys remember so Aakash joined us about a year ago, you know, we had an offsite in Goa and i think if there’s ever of course it was the height of that digital bubble as well but it was not yet the height of the crypto bubble, it was getting there. And we had extreme FOMO internally on crypto. Personally i’ve not been able to pick up as much on this sector in the previous 2-3 cycles.
Aakash joined, we started chatting and i realized that he’s a original miner from those 2013 days and it is a sector that we either had to say we’re not going to play or we better get smart soon. But if you ask me we got really lucky with -- this is the time best companies get created in winters any way. But whether it’s Google, Uber, Twitter, Facebook, they’ve all -- Apple’s turnaround, iPhone, everything is in a winter. That's when you can make thoughtful choices.
So i think absolutely a very strategic sector for Matrix and i'm still trying to get smarter on it but we have people who are quite smart on it. Coming back to this distributed ownership i’ll tell you first when i started grappling with crypto it took me a while and then literally there was a day when the penny dropped. And that day was when i went back to the journey at Baazee after selling to E-Bay. And there was a – i'm a little foggy on the details but there was like a million member seller march against E-Bay protesting against fees and this and that and i remember thinking this is the community that we live off of and they don’t like us.
And i remember going to discussing it in an exec meeting that we should carve out 5 percent of the company, redistribute it to the sellers, the sellers should self-govern based on certain behaviors how that ownership should be distributed. And we should give them a seat on the board, what does that sound like? Tokens, autonomous organizations, governance, decentralization, all of that. So that really hit home for me and to his point i think this net net Web to value creation being shared more with the community i believe in it.
That said i just think and we’ll discuss some of – it’s just become too much – sadly what happens in these things is people are taking really extreme positions and battle lines get drawn and everything has become about against advertising, against user information, against big tech. Well, what are you for, don’t tell me what you're against. And i think distributed governance may be distributed rewards for sure and i think that piece of the underlying technology and we’ll come to some other use cases. i think that's a very big techtonic shift.
Rajinder:
So what are some of the opportunities that one sees like across different block chain technologies, how much of that transformational promise in your view is already kind of in the works and are you meeting companies that are working on some of these transformational ideas.
Aakash:
i think for block chain and crypto in general in a macro level i think it is still finding its purpose. And as we go through this cycle and we’ve gone through two high cycles now, we’ve probably some would say it’s a winter, some would say it’s not, you do always going back to what Avi was saying these are times when you start seeing some real end utility use cases transformational use cases emerge. What we have seen for now like two which come top of mind in actually being needle moving in terms of real world impact one would be Helium and i think when we first saw that it was as --
Avinash:
People may not know what Helium is.
Aakash:
i'm going to talk about Helium, right, so Helium is basically your distributed WAN, wireless WAN, wide area network. Putting to use if you're talking about the number of connected devices per person going up from 2-6 in the near future if you could take all of that, connect a device, provide connectivity and geo location in a distributed fashion instead of it being limited to a centralized network and which again is a lot to do with the ethos of crypto which is open networks. Helium does exactly that and which was probably the most eye opening real world like you saw.
There is more which we’ve seen also in the world of finance, again and we’ll talk more about it in terms of how block chain allows to reduce rent seeking at multiple steps and unlock more trust by making trust shift from trust brokers to code which is what smart contracts play a role in. i think Goldfinch has been a great example of that wherein they have been able to unlock cheaper liquidity for real world lending downstream to end use cases in emerging markets by tapping into liquidity sitting in geographies where fixed income rates would be maybe 1 percent, 2 percent. So i think there are multiple more but these two do truly stand out.
Avnish:
So i would say, look, wherever there are like Aakash was saying – by the way he goes by Cash, so we can call him Cash here. So wherever there are legacy archaic systems which are extracting rent by virtue of just that legacy position rather than any value they’re adding. So i was shocked, i was in New York City this summer that the closing cost of a transaction – so if you're buying something between the mortgage, the fees, the tax, it’s 12 percent. Now real estate in America doesn’t go up 25 percent a year like it used to here. i mean that means you're basically out of money for two years by just closing.
Why? Why is it so expensive. Right, and it’s all legacy, there’s no tech, it’s all legacy systems. What is a real estate transaction, it’s a contract. Why can’t you have – so the minute you put contracts on the block chain, a smart contract, and the costs are much lower now there are issues that block chains and all need to solve in terms of security and stuff, i think some industries just lend themselves very, very naturally. He was talking about Goldfinch which is lending, cross border payments. Payments in general but cross border payments depending on the size of the merchant can cost anywhere between 4-12 percent. What is the real cost of moving money?
Rajinder:
Maybe less than a 100 bips.
Avnish:
Why even that? i mean you’re saying maybe Forex but why even that. if it’s instant the cost is zero, UPi in india costs zero. Why is there 12 percent being charged, right, so i think some of this will change and they’re very natural use cases. You know, both of us when you can't do crypto without going down the rabbit hole of podcast and watching like a tonne of stuff. There’s this lady, i’ll give her a shout out, Tasha Labs, we should put a link, Salonie.
So she put out 35 use cases but one in particularly which was the first one really caught my eye she said Amazon has all these fulfillment centers, FBA fufilled by Amazon. What if like Airbnb you could do this from your backyard. Actually a model like Airbnb could have really lent itself, now Airbnb has done a fantastic job without the block chain but think about every person in the backyard having a Amazon fulfillment center, it cannot be done without the block chain. And if that network becomes valuable your ownership of that network by virtue of tokens becomes more valuable.
it’s distributed, it’s smart and it’s equalized. Now the challenge becomes, we’re trying to imagine all these cases. So at some point that's where the challenge is but the famous people who said when the computer came out whose going to use it, when a phone came out whose going to use it, when an iPhone came out whose going to use e-mail on a phone. So you never know, these things change and people find use cases.
Rajinder:
i guess one of the fundamental problems for any new technology is that there is an existing infrastructure that already exists and so either you target new use cases or some of the use cases that you all were describing were use cases which are large but excessively rent seeking and then there are other use cases which frankly just don’t exist today in the shape and form. So an example would be GamyFi or the overall creator economy that today exists in a very, very different way, that use case does not frankly – do you see a difference in adoption when it comes to some of these use cases which are well established in Web 2 versus use cases which were just not as well established in Web 2?
Aakash:
i think going back to what we’re speaking about earlier with polarizing views people have around crypto and Avi just spoke about we’re imagining these use cases. i think there’s one fundamental difference between the earlier eras of Web and Web 1 happened. There was this urgency of utility, right, you wanted – there was like a goldrush to say hey, let’s bring e-mails, let’s unlock messaging.
With crypto and Web 3 it’s more a transformation, you're not going after near use cases at least for now and hence the imaginative aspect. And which is why you see most of these narratives which have been around have been gamified which is about saying that hey, can we turn peer to peer economies which already existed in gaming worlds into now a proper economy and marketplace. Can we take DeFi, again the narrative has been more a transformation of how we do finance. There is nothing new that we’re talking about over here.
Avnish:
i'm just sorry to interrupt there, but i think that's a very key point. it’s in the – innovation is being sold often as disruption but it’s not, it’s innovation. And therefore if you expect very disruptive stuff very soon that's where the challenge ends up. Coming back to this GamyFi i would like your views, Rajinder, because i know you’ve been tracking this, you read a lot as well. But if you ask me about GamyFi what’s new, i mean it’s already – you already have digital currencies, why do you need tokens?
Now i could argue that a company like Disney or Electronic Arts or a Behemoth that wants to – what is the biggest bane of a gaming business, hits. if a platform could hook you on to the platform with tokens and it can move from one game to the other it’s actually great for a Disney or a Electronic Arts or one of these. But is digital currency just tokens for that which is why i think some of these Axie infinity at one point even internally we thought to earn would be big. it was a disaster, it was just a complete scam, right. But what is your view looking at the outside on this whole crypto boom, bust, boom, bust FOMO?
Rajinder:
So i think from the outside in the simple answer is where are the end use cases that actually enable a new and better version of doing something that didn’t exist before. So if i look at GamyFi very simple, it sounds like a lot of the play to earn stuff was just people who have lot of time, time rich money poor kind of economy which obviously in india there’s enough of those users but then eventually those games don’t really last or beat the previous generation of games.
Now is it more efficient to discover hits this way, perhaps, but i can see enough examples of the inefficiencies also creeping in. So i'm actually still more on the skeptical side of where are the end utility use cases. The examples of excessive rent seeking that you shared those actually i'm able to relate to a lot more because there i can see where existing participants want to actually migrate to a more trusted chain and transact at lower cost. But a lot of the other examples just seem frivolous and that’s partly where --
Avnish:
And by the way who seeks the most rents from people or who seeks in the world like governments. Who’s the most opposed to block chain and crypto?
Rajinder:
Yeah, yeah. Well, governments.
Avnish:
They lose the power.
Rajinder:
Yeah, fair enough. So on this i guess you’ve touched upon some of the macro thesis that you like Cash and one of the other conversations that you’ve brought up often is that the kind of talent that’s spending time in this space is truly now beginning to become exciting. initially it was a lot of projects – exactly. But now the quality of talent that's coming in is also very, very exciting. Talk a little bit about what that means in terms of what thesis areas people are actually spending time on?
Aakash:
i think the thesis areas now when you start seeing influx of quality talent the thesis area start going back to the fundamentals, right, the fundamentals being you were talking about finance, rent seeking, infra, distributed – i think the one big shift which we’re seeing early signs of is that as more and more Web 2 consumer internet and tech builders come into the space they’re not harping on a zero one on the decentralization spectrum like they understand that decentralization across logic, operations or even any other aspect of how you run and build a venture it’s a spectrum, right, it’s not a pure seed one. And which used to be and has typically been a big pet peeve for Web 3 builders in the past. i think that's one big shift.
And as and when that shift keeps growing and when Web 3 starts adopting some of the goodness of Web 2 you can't build ventures and companies without focusing on consumer experience. You can't build companies and anything material which impacts consumers without focusing on retention. All those things will now come into play and we’re seeing early signs of it and i still stress on the word early. i think we’re still to see more folks who come with that strong founder mindset. But outside of that the inflow of the developer talent which is slowly, slowly embracing decentralized computing, decentralized storage, the decentralized architecture that is getting us to a point where the core underlying stack which is the block chain and the in structure less.
One would believe they would mature and become secure, resilient, enterprise creating i think in the near future.
Rajinder:
And is that an advantage for firms in india investing because the talent in this ecosystem there is a skew towards india just given the number of developers who are entering this ecosystem from india?
Aakash:
So as soon as if you keep going up the stack and the block chain and the infrastructure starts becoming more stable and more scalable. i would say the same way we’ve seen india generate SaaS, middleware sort of outcomes built from india for the globe. There is no reason why it wouldn’t happen again and i think that's one key thesis area for us besides looking at everything to do with the first principle evolution and innovation and finance.
Avnish:
it’s definitely the crypto world is very flat and that we’re seeing, right, a lot of the – some of the top companies are already sitting out of india or Dubai or wherever so now you know india’s regulatory issues so we will likely see company creation in Bangalore and company migration to Dubai, used to be Singapore, who knows some of these --
Aakash:
Maybe even Bahamas.
Avnish:
Maybe, yeah, wherever. What people should realize it’s not for shady reasons, well, the problem is there were enough – 95-98 percent there were shady reasons to do it but even legit where people are trying to create stuff then you generally end up in an area – birds of a feather like to hang together, right. So where it’s a more conducive environment, but i do think that coming back to your talent point although we have i think, Rajinder, you were at HBS at the time and i graduated dotcom bubble everybody from HBS who went to dotcom you knew that they’re tying the market top.
So i see some element of that, right, but i also see small minority but very, very smart people not just developers. Developers, without developers there’s no – i remember when Java came out during internet some of the sharpest developers adopted it and therefore it got a virtual spiral point but even on the business side. Some opportunist but some really, really sharp people. And those sharp people interestingly i'm going back to some of the thesis areas institutional finance and some of that stuff those people are actually doubling down as we speed, because they’re saying this is the time like we would think that this is the time to take a deep breath and invest for the next ten years rather than near term.
i’ll tell you the challenge, the challenge is, is this a ten trillion dollar market cap opportunity or 50 trillion is unclear. The way things were valued if you assume everybody is saying in ten years let’s say it’s 20 trillion for the sake of argument it was already 4 trillion, 3 trillion, that's just a 6x. That wasn't worth the risk reward so i think that's where some of these cycles come in.
Rajinder:
So understand on the cycles but there are also other mega trends that play overall in technology right now and it just feels like this is happening around the same time. So if you look at what’s happening around Ai and software, if you look at what’s happening around just devices and quantum computing it seems like a lot of things kind of falling into place at the same time. Does that then change the reward?
Avnish:
No, so if you ask me this is just insurrections always get more coverage. Because this has been setup as anti-build tech, anti-user data, anti-advertising it’s a movement, that's why it gets more coverage. if you ask me in terms of market cap creation, quantum computing, 5G, AiML, who knows what’s going to be big. if you ask me i'm very excited about those also and i think those could be very big. But they’re not an insurrection, it’s not a revolution and hence i think the narrative – so one should not get carried away by the narrative. i think at the technology level there are equal big disruptions going on in parallel to that.
Aakash:
i think talking about – alluding to AiML is very relevant here, right, i think there was a time, i think Ai has now gone through maybe 4-5 cycles. There was a time when every tech would have that they’re an Ai company. And today we’ve reached a point where we’ve hit maturity where we’re seeing enterprise Ai, where we’re seeing horizontal Ai, we’re seeing the vertical Ai use cases. i think if we always take a step back and i think Avi is very right that the insurrection part of it and that cultural part of it, the cultural phenomena that there is with crypto that gets more coverage but similar to AiML this is again a piece of innovation which is going to transform how businesses happen. And hence that confluence of AiML, cryto, 5G is probably going to be that 50-100 trillion opportunity, in isolation each one i think any one’s guess.
Rajinder:
So you spoke about finance and there are obvious clear use cases especially like the cross border example you shared and i'm sure there are more that we can talk about. DeFi in general had promised massive yields and a lot of consumers adopted it and then the yield story changed, but without getting into that or we can get into that too help the listener just understand how does all of this work, like where are these returns generated, how does this actually work on the block chain, what is our view on this space overall there’s regulation that one can expect as well?
Aakash:
i think fundamentally and principally it’s supposed to work from a simple value flow, right, you have protocol so supposed to generate value. They have a mechanism to distribute this value to positive contributors. And this could be in the form of proof of work, proof of stake, which is effectively people contributing compute to making the system work, instead of a central organization you’ve distributed your input.
Now that's the ideal world of how yield should be generated. What we saw with DeFi and abnormal yield promises was mostly ponsy, there is no other word for it. it was just your own tokens and creating an infinite supply of token and then pushing it back through staking rewards. Now again when you financialize and that's a good and a bad for crypto, it is a financialized innovation which is happening. Day 0 it is financialized, which leads to such outcomes many a times and maybe we might see recurrence of it but i would say most of it is ponsy but, yes, there is – we spoke about Goldfinch, we spoke about tokenized exchanges, exchanges like Binance or tokenized decentralized exchanges which say that hey, the market making aspect of it can be done with code, you can have an automated market maker. And then distribute those rewards back to the contributors. i think there are real cases and more and more will come.
Avnish:
Yeah. So coming back to this ponsy point at a very simplistic level imagine three projects, all have raised the tonne of – first of all how are they setup, they issues tokens to their original investors , founders, whatever at Tencent. Then they did an Airdrop which was at a dollar, so the people at Tencent think they’re 10x in the money. None of this now – but it means nothing unless you're able to trade. So then they will trade it to another project which is doing something else with their own token, so you have a circular economy which is all increasing in value and this is classic bubble and inflating by just moving within and sometimes actually fueled by the VC money.
What was broken, what was broken was that the token generation and value was not tied to the actual PMF of the project, it was tied to financialization and this trading. And by the way there was so much arbitrage when you hear of these crypto millionaires and all of that that's what they were doing, they were exploiting this and there was no perfect information marketplace like there was no exchange, where is the centralized exchange. So it comes with every big change in technology some scam will happen, all of that will happen. The question is, is our token still a fundamentally better way of structuring businesses going forward in certain sectors, absolutely.
i remember Mark Anderson, i mean in some ways he’s the first one who gave us navigation of the internet, right, with Mosaic browser. He puts it very simply and i think very correctly that the problem with the original internet was we forgot to put build payments into it. Block chain is open decentralized internet with payments built in. Will there be used cases, yes, will there be fraud, yes. But that's i think the net, net. Coming back to DeFi by the way right from the start our view internally very early was that this looks like a scam. The better term we used internally that was open file, let’s think about open finance whether it comes with trade finance, this, that, to see how do we make the rent seeking lower and improve the efficiency.
Rajinder:
One of the issues in 2022 was leverage crept into this economy and there was excessive leverage which led to a lot of the bad actors kind of playing up. Can you help the listener understand just how did leverage creep into these transactions, is this the circular economy that you're referring to or did institutions have some role to play, can you just describe.
Avnish:
Let me ask you this, Rajinder, if you were getting 20 percent to stake tokens and what is your – if you had to take a personal loan how much would it have cost you?
Rajinder:
12.5 percent in india, i guess.
Avnish:
Wouldn’t you go crazy taking personal loans and staking tokens, that's what was going on.
Aakash:
That's the answer.
Avnish:
That's the answer. Both in fiat and non-fiat and what was happening was and Aakash will give you – he’s much more knowledgeable on this, the non-fiat, the crypto tokens you could borrow at 4 percent.
Aakash:
You could lever up 20x. Like imagine in our public markets you do 5x, 6x maybe and you will – a retail investor could lever up 20x. So that is the insane amount of leverage which was happening in this and which is why leverage works as long as things are going up and the speculation is continuously getting things up. But the moment you have unwinding, there is not enough market depth and most of these token beyond the top 20. Which is exactly what we saw in the last six months. So short answer is it was just –
Avnish:
And they were all trying to increase value of tokens so they have to keep increasing demand. Because the more the token price goes up the more the hedge is and the VCs want to buy it. i mean it’s so with hindsight it’s so obvious but, well, trillions i guess were lost but genuinely tens of billions of cash has been lost.
Aakash:
i can cite an interesting anecdote. A $10,000 position by on something beyond let’s say the top 150-200 market cap token could pretty much with the kind of depth you have and still limited could move the price up by 200 percent. So this was pure financial fun for some and a lot of people made money.
Avnish:
By the way one thing we haven’t spoken about which Aakash you should add because that was a learning for me is how much collusion happened here and front running that even though – so these are now we’re getting to the pieces of this block chain and architecture and all which all needs to get fixed for this to become big. if every other day you're reading that somebody’s wallet is stolen 4milion yahaan nikal gaya, 7 hundred million wahaan nikal gaya. it’s just not going to work, so that’s just fraud and stealing which goes to security.
But the whole premise of block chain was that you cannot collude. But there are these concepts of whales that would horde a lot of the tokens, they can change the governance of the protocol and there was collusion happening in some of these.
Rajinder:
So it sounds like from the outside that a lot of overpromise and under delivery unfortunately in 2021 and some part of 2022, what should we learn from it and what should we look forward to as investors ?
Avnish:
Yeah, so i think much more was scared last year, first of all zero knowledge. Now at least little bit of knowledge but it’s a constant endeavor. Aakash pushed me to attend a crypto conference and the best thing coming out of that conference for me was my FOMO or the confidence built that I'm not the only stupid person around who doesn’t know anything, there are lots of them. And but that's okay, it’s early stages of a sector, just calibrates you, of course there are no experts out there. Right, you have to figure your own path, stay on first principles. I still think it’s very exciting.
How does it impact Matrix and Aakash you should talk more but for example there are no brainer – everybody talks about this picks and shovels thesis, right, they’re no brainer things to do. Will there be more developers, are we seeing more and more developers coming here, yes. Should we be investing behind dev tools, are the same dev tools that worked in Web 2 work here, no, therefore lies the opportunity. So, net, net short term realistic long term optimistic. And in my view this is a better time to invest for sure than last year.
Aakash:
Yeah, and I think our macro thesis broadly remains around moving up the stack, a, dev, SaaS, Middleware, b, what we spoke about open finance and c, I think capital markets products. Like institutional investors because all of a sudden you're talking about tokenized assets, you're talking about real world assets moving on chain. You're talking about exchanges which are 24/7 across the globe, cross border liquidity. You need new capital market products for these, you’ll also see given that you have programmable money which is what you have thanks to smart contracts you’ll also see new financial products come. So I think those three broadly become our macro thesis.
Avnish:
You know, one of the things we haven’t spoken about is regulations. And I actually consider if you ask me generally in fintech and some of these sectors regulations as a feature not a bug. Because when you're operating in a gray area you should – it’s just not going to happen, it’s touching too many people’s lives. But for the sake of argument I could flip that around and say that India is talking about not allowing crypto and there’s going to be a – but will digital currencies be there, yes.
For a country that has been on the cutting edge and pushed UPI to bring cost of money down to zero or cost of payments down to zero I can absolutely see a top down push coming. Will that open up, is India against block chain, no. So CBDC, Central Bank Digital Currency plus block chain could be transformational, it could just like fintech did with UPI it could just unlock so many use cases and again going to the financial inclusion point which I know has been obviously a big priority for our country. So even local, local applications, I think right now people are negative on but that might change.
Rajinder:
No, no, actually there’s one, so I attended one of these conferences and the Central Bank actually has a committee and their number one application right now is SMB trade finance.
Avnish:
Yeah, there you go.
Rajinder:
So there is an actual intent from the government to drive financial inclusion on the block chain. So we’ll see, I think it’s still early days and there’s a lot of companies, tech companies, that can participate in the success of it but I would say it’s the early days of where UPI was.
Avnish:
Yeah. And with overall I think it’s the mid-1990s of where internet was where people get it wrong is they think it’s 2008-2010, it’s mid ‘90s. It’ll take, it will be much faster because it’s on steroids but it’s still early days.
Aakash:
Like one tailwind we keep talking about and which goes back to reestablish early days is the developer inflow. Yes, it’s been growing at a rapid pace but the last electric capital publishers to report at least till December ‘21. Active developers in Web 3 were still maybe 20K, Amazon alone has 30,000. So in every regard it is still early.
Rajinder:
Good. Thank you. Enjoyed.
Avnish:
Super. Thank you, Rajinder.
Salonie:
Thanks for tuning in. For more Matrix Moments episodes, you can head to www.matrixpartners.in/matrixmoments . You can also follow us on Twitter, LinkedIn, and YouTube for more updates
