Framework Ventures believes blockchain technology demands a new investment thesis.
“Traditional venture capitalists have been buying and holding these [crypto] assets, tech companies have been building applications or protocols on top of these networks, and then hedge funds have been taking these assets and trading them,” said co-founder Michael Anderson. “It requires a combination of all three to invest in and grow these protocols, and really partner with the core teams, as well as the ecosystems being built around these networks.”
Anderson, along with his co-founder Vance Spencer, call this approach to blockchain investment “Network Capital.” Framework Ventures provides network capital to the decentralized finance industry—Defi, for short—in which innovators build blockchain-based competition to traditional financial services.
“Blockchain is about value transfer, and with value transfer in a decentralized network,” he said. “Defi has a real opportunity to be the industry within the blockchain space that grows the most in 2020.” Defi today faces a classic innovator’s dilemma.
“[Defi] is a slower, less efficient, less effective way of doing something,” said Anderson. “But, over time, we’ll be able to move up the value curve and supplant banks in terms of assets left out of some ecosystems, where lending and borrowing is the core thesis.”
For now, though, identity and credit scoring—and everything needed for a loan from a bank—is not yet tied to an Ethereum address. So, there’s no way to know if someone is trustworthy enough to underwrite a loan.
“We’re still working on the nuts and bolts,” said Anderson. “But, to build a full-fledged industry, we’re going to need participants on the underwriting side, the credit infrastructure side, and hedge funds that are providing that lend-borrow capability—that takes time.”
There are a number of networks and projects working to crack the code and bring a decentralized digital credit system to the world.
“The ways that we get from this infancy to maturity is really building out an ecosystem of participants, like we have in traditional finance. And, some of the hedge funds that we’re talking and working with, either specifically in the blockchain space or not, are starting to look at blockchain as an opportunity for Alpha, and an opportunity to provide liquidity where rates are higher than what they would get in traditional finance.”
There’s a huge opportunity in blockchain for hedge funds to drive multiples of what they would get in the traditional finance space. Hedge funds are starting to move into the industry with the intent of providing a full-fledged lending product—a good sign for crypto, says Anderson.
Defi proponents celebrated in February on social media a milestone, as users had locked more than $1 billion in decentralized apps—dapps for short. Framework Ventures doesn’t consider dollar amounts in Defi to be a reliable indicator, however. “We follow the total number of Ethereum tokens locked in the Defi space,” he said. The dollar value is more aligned with the Ethereum price.
Developers build most defi applications with Ethereum, but Anderson also watches Polkadot and Cosmos, two new defi platforms. PolkaDot hasn’t launched yet.
Polkadot, a new protocol for defi, is built to connect private and consortium chains, public and permissionless networks, and oracles. On Polkadot, independent blockchains would exchange information and transactions in a trustless way.
“We’re still waiting to see what exactly that application could be, but there’s definitely a lot of excitement around the different applications that are launching, either using the core technology or using some of the core tenants,” said Anderson of Polkadot.
Cosmos launched in early 2019. Framework Ventures sees developers building on Cosmos, not Ethereum. “[It] allows applications to build their own application blockchains,” explained Anderson. “This enables the ability to have the core monetary policy of the blockchain originate and be derived by the team.” With Cosmos, developers or firms can control the token supply and the monetary policy of their token in ways not possible on Ethereum.
Cosmos differs from Ethereum also in that Ethereum-based token transaction requires the sender to hold Ethereum. Not so with Cosmos. “There are differences in the user experience that we think could enable more consumer applications within Cosmos.”
During the course of Framework Ventures’ investing, Anderson says the team keeps an eye on everything going on in the world, including global macro and politics. “Things like Hester Pierce from the SEC saying there’s a potential safe harbor for tokens or Steve Mnunchen coming out and talking about what it means for crypto assets and how they’re regulated in the US,” he said. “Those are major, major themes that affect our industry.” In general, though, global politics and global macro economics does not affect the blockchain industry.
When it comes to raising funds, for a blockchain project or otherwise, Anderson says founders should be aware of present interest rates. “If interest rates are high, risk needs to accrue for a risk adjusted return for asset allocators that invest in venture funds. That investment into a venture fund dictates how much investment capital is available. Right now, there’s a lot of potential investment capital out there, because interest rates have been so low for a long period of time.”
As that situation potentially changes, venture capitalists view risk adjusted returns differently, but Anderson doesn’t see that changing over the next two to three years. For now, interest rates are at all time lows.
“Right now, it’s a very wide open field.”
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