This is part of an ongoing exploration I'm doing into cryptoeconomic strategy. Here's the first, introductory post for more context. I write these posts to clarify my thoughts, develop strategies and hopefully to connect with other people who are looking for winning ways in this new world.
In the past few days I feel like my interest and focus has really changed within the space.
The biggest shift has been around moving from a mentality of buy tokens to hold them, to potentially buying tokens to put them to work, multiply and eventually to help build and grow cryptonetworks.
This thinking was triggered by an idea I've heard of several times, referred to sometimes as "Generalized Mining" sometimes as "Mining 2.0".
The idea here is that the best investment strategies in cryptoeconomics may not be simply buy to hold, but buy and then put that value to work in various activities on the network.
The idea seemed to emerge in the minds of people at CoinFund and Notation capital.
In their description of the idea, they typically use various ideas on the LivePeer network as examples.
Mining on LivePeer is kind of technical – in terms of computer science and finance – so I don't think it's the best example. Not the best example because I don't understand it yet myself, and may never choose to try!
A more interesting and easily understandable example to work with is the role of Validation on Proof of Stake networks like Loom and Cosmos.
I learned about Proof of Stake through this easy-to-follow post on the Chorus One blog.
I'll give it a quick treatment below but I'd highly recommend spending the time to learn how Proof of Stake (PoS) works because it's shaping up to be a key concept and one that could be very lucrative over the next 5–10 years if wielded well.
So Validation on PoS.
Validation is to PoS as Mining is to PoW.
Validation is the key process which ensures the security and correctness of records in a PoS consensus mechanism.
A Validator deposits money into a smart contract and basically says "the records I'm marking down are legit and correct, and this is how much money I'm willing to put down to back up that claim. If you ever find that I've been playing silly buggers then you're welcome to take a large chunk of it as punishment."
A Validator typically also needs to run some computational infrastructure – a node.
Why would a Validator do that? Well because they earn rewards each time they make a successful validation.
So here in itself is an opportunity for Generalized Mining.
Rather than simply buying tokens on a PoS network like Cosmos or Loom, you could use your tokens perform Validation work.
You stake your monies, run a bit of validation and booya boi – you got some more monies from your monies.
There's a lovely little compounding effect. In fact, maybe not so little – the estimates I've seen so far indicate more than 20% yearly grow.
I'm curious to analyse the various scenarios for compounding in depth later, but if you're interested yourself you should check out another post by Chorus One and use the calculator at the bottom. If you do, set the validator fee to 0 because you yourself are the validator in this scenario.
The problem with the model of validation that I've just described is that it assumes you're able to run the node infrastructure yourself.
There's a possibility that you could do that, and if you're an experienced backend software engineer and have good DevOps knowledge I suspect it's worth looking into.
Here's a document by a chap who went through the process of setting up a node on LivePeer. My rule of thumb would be that if you're not understanding, like, at least 80% of the sentences on that page, you're probably not going to have a lot of luck running a node.
And that's the boat I'm in as well. I have experience slinging frontend code but running a node is a different story.
So what's the deal? Why would I tell you about validation and its beautiful compounding just to throw it back in your face and tell you you're too incompetent to participate?
Well there's another solution. "Staking as a Service".
I'm not 100% sure yet, but I suspect Staking as a Service is one the most interesting new, native business models of the cryptoeconomy.
In simple terms, a Staking as a Service business does the messy part of running a node on your behalf. When the validation is complete they take a cut of the reward pool.
You benefit by receiving compound growth on your capital without doing the work to run a node.
So in a little more detail here's how the process works.
Note that if they're not successful in their validation and are deemed to be playing silly buggers, you may lose a hefty share of your capital.
Here is where I think the most interesting part of Staking as a Service businesses come in though, because they're super, super dependent on trust.
I don't really want to go in to too much depth about that now. If you're interested in looking into a staking provider – a Staking as a Service business – check out Chorus One. I have a lot of trust in them because the 2 founders, Brian Fabian Crain and Meher Roy, were hosts of the Epicenter podcast for a long time. My opinion is that they are both super smart and have a lot of integrity, and I feel like that's all you're really looking for in a staking provider. Or any business partnership, really!
I have some big open questions about the long-term profitability of staking provision as a business model when it is based on such low-level components of the blockchain stack.
Sure, running a node is hard if you're an individual with finite time. And even for a company, based on Chorus One's site it's not quite as simple as just running a bit of code on your laptop. There's security, uptime, geography of node placement etc to consider. But those skills are kind of commodity already, and definitely will be in the long run.
I spoke to Felix Lutsch in the Chorus One community Telegram group, and he explained very eloquently that they will also develop and make available key insight into the functioning of the various networks. He said that they feel this will be particularly valuable to institutional investors who have potential to make significant impact on governance decisions.
I feel that's interesting, but unless I'm missing something I'm not convinced it's that defensible.
I actually think the most defensible piece for a business like Chorus One, and the thing which is most critical to its success, is trust. Which feels quite ironic given the amount of discussion about trustlessness in crypto and how it's one of the biggest boons! I guess there'll always be some element of human trust though.
Anyway, this all leads on to the aspect of staking providers that I find most interesting, and that's how they work higher up the stack.
As far as I can see, Chorus One and its competitors will remain focused on layer 2 and maybe layer 1 (?) networks – Cosmos, Loom, maybe Ethereum etc.
What I'm interested in, and think there may be much stronger defensibility, is for staking businesses in the middleware layers. The Ocean protocols, Augurs and Foams of the world.
As interested in those 2 specific protocols as I am, I don't think this is the time to lay out the details of how they work, or indeed what I find independently intriguing about them.
In the context of the discussion of staking businesses, however, they offer some particularly interesting questions.
These middleware protocols also utilise staking mechanisms, but their staking is both subtly and meaningfully different to the likes of Cosmos or Loom.
The difference revolves around the degree to which the staking is deterministic – that is the degree to which judgement about where to stake your resources differs.
I suspect that it is in these businesses that comparatively large profits will consolidate.
Will this be the main point of consolidation in the whole cryptoeconomy? Maybe – it would feel like a good bet – but it's definitely too early to tell.
This is the angle I'll exploring in coming posts. Do reach out on Twitter if you see any holes in my thinking, anything to augment this line of thought or if you feel there are other, significantly more interesting threads I could hop onto!