How DeFi is at the Center of Venture Capital Cycle
Something fascinating is going on in DeFi right now. It’s at the center of the venture capital cycle, hyper-growth projects, and re-investment. This is causing unbelievable innovation at warp speed. In this post, I try to identify what’s so fascinating in DeFi and why everyone from financial advisors to cypherpunks should be excited.
- Stepping back – How DeFi’s early days has set it up perfectly
- Accelerating development – How development is prioritized in DeFi
- New Age – How DeFi is asking the right questions
- Revenue realization – How DeFi jumpstarts innovation
- Investment ease – How DeFi provides immediate liquidity
- Out of nowhere – How DeFi’s cycle won’t stop
A few years ago, DeFi or decentralized finance began, being built by small project teams on Ethereum. The goal of these projects was to decentralize finance. This included many of the banking and investment functions we see today. MakerDAO began laying the foundation. The decentralized autonomous organization (DAO) created the first crypto-collateralized stablecoin DAI, and the Maker token to ensure governance. DAI is now the most used cryptocurrency in DeFi and is essential for basic financial transactions.
The interesting thing about the initial days of DeFi is it has the same focus as Bitcoin during its hay-days when the cypherpunks first started tinkering with it.
DeFi’s pioneers began creating peer-to-peer financial smart contracts for simple things like lending. Then they moved onto stablecoins, synthetic assets, derivatives, and DEXs or decentralized exchanges.
From initiation to growth. DeFi already has a combination of characteristics accelerating development. Open source code-development has allowed distributed teams to work flexibly. Many teams are working 24/7 to solve traditional financial projects in a matter of days. Throw Covid-19 and the restrictions that come with it into the mix- developers can’t really travel, attend conferences, show up at useless meetings. This allows for plenty of time to code and build.
DeFi allows building with very low barriers to entry. Unlike the traditional finance world where regulations and licensing are plenty, DeFi does not stop open-innovation. There is little in the way of KYC, on-ramps, or other restrictions. Developers are free to code, test, code some more. What’s great is they can do so with funds and behavior. Testnets can be launched almost immediately, followed shortly by mainnets.
Since the DeFi space has good liquidity, users can connect their wallets and test as well. However, there is technological risk involved. Often protocols end up in hacks, rug pulls, exploits or leakages. But with each attempt comes learnings. Seeing that the community is so supportive, failures are met with cheers for the next attempt.
There’s a reason DeFi is being built by the youth. These developers, designers, and builders are not encumbered by the – “this is how we’ve always done things” talk. They look at traditional financial functions of banking and finance like savings accounts, bonds, and commodities and figure out how to reach a better, more efficient outcome.
They ask questions that those building the current financial models asked decades ago like – Why can’t I lend to my friend? Why shouldn’t we get together to create an insurance product for my pal over there? Why can’t my buddy and I make a token out of our song?
What this is building up to is programs to solve what they see as solvable problems. This is done through a mix of curiosity, collaboration, and problem-solving.
Through the pre-existing infrastructural tools of Ethereum and DeFi, they just have to do the building. They do not need to worry about copyright, trademark, or even having to license other applications.
Everything is faster when it’s paid for. DeFi shortens the revenue loops. Applications built in DeFi can immediately start earning revenue as they launch. They can even issue tokens specifically for governance or value accrual. These tokens can be traded, or used for liquidity.
We should warn you that this is how initial coin offering (ICO) scams began in 2017-18. But those were companies with no value proposition and more often than not they were outside the DeFi ecosystem. Within DeFi, interoperability with stablecoins, oracles, smart contracts and more provides a type of decentralized internal regulation. However, since every project is tested in the real world, they are vulnerable to scams, hacks, and exploits.
This quick and sensible revenue realization allows capable founders to jump-start what we know of as ‘start-up cycles’ and work at hyper speed.
Contrast this with the traditional cycle in which founders have an idea. They put together a plan and start building. They possibly self-fund, or do friends and family fundraise, which takes time and requires the use of a lot of IOUs. This leads to the creation of a minimum viable product (MVP) while raising a seed round. Not to mention proving product-market fit and a total addressable market. All of this takes time.
Even a pinck of liquidity takes time. It takes several rounds of funding, research, and if you’re lucky implementation.
This DeFi Cycle doesn’t stop here. It’s only accelerating. How?
What we’re seeing now is the second round of DeFi growth. The first wave gave us protocols like MakerDAO, Uniswap, Opyn Protection, and more. These initiators are getting together. They are building DeFi focused funds to invest in their projects.
But they aren’t going about their investment in the traditional manner. They aren’t requiring a team that has built several companies before. No, they are looking at two things – code and need. Code, can they build something. Need, are they addressing a problem with a solution. These investors are nimble and quick to invest in projects. They know iteration and testing can be done quickly.
Liquidity, like for the investors and venture capitalists (VCs) is immediate. Tokens of DeFi projects can be immediately created. These are then put on decentralized exchanges (DEXs) and traded using wallets. Neither the VCs nor the founders have to wait for later rounds of funding to increase or realize their value.
Out of nowhere
DeFi is at a confluence of circumstance, characteristics, and technology. This triad is giving rise to a new financial system. And it is growing so quickly that it will likely take over the old system in less than a decade. The current system took over a century to build. In less than 10% of that time, it might be rendered obsolete.
Over the past few months, many developments in DeFi have seemed to come out of nowhere. But DeFi projects like yield farming and nonfungible tokens (NFTs) are not an overnight development. They were developed by small teams, operating in a system with infrastructure, prioritizing innovation away from the old system, with no liquidity crunch and revenue realization at every stage. This incredible DeFi cycle is why the development in DeFi will not slow down.
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