February 2025 Crypto Notes
Power Laws & Compounders in Crypto, Retail-Led Narratives, & a note on macro
It's an interesting time in crypto these days. We're just about 8-12 weeks removed from pure euphoria and have continued flows of news that the thing everyone complained about within crypto, which was the government, has now decided to embrace the asset class and technology broadly. And despite that, we are in a level of depression that I haven't seen for some time.
The perpetual joke of “devs do something” is now empty. The “devs” did something by basically signaling a much more free market and removing many different “limits” and attacks on crypto, and so now the only people left responsible for the industry is candidly, ourselves.
So what’s going on? Who knows, but here are a few things on my mind this morning.
Macro
I'm not going to recount the past few months of crypto in detail1, but I will say it has been interesting watching market psychology around both our president and what will move markets change/soften.
In 2024, a lot of people made money on a proverbial Trump trade; specifically betting that assets were mispriced because the market was mispricing the likelihood that Trump would win and the shifts that would come from that. I think now it is clear that the Trump trade was overbought both broadly in markets on a mid-term time horizon as well as more specifically in crypto on a short-term time horizon. Trump getting elected (and the few weeks that followed) was perhaps an ultimate "sell the news" event, as the strong rally of BTC from the 70,000 range to 106,000 occurred just after his election. Like many things in crypto, the entire market got ahead of itself.
I'm not going to opine on market directionality too much here, but I recommend following Smac and reading his recent post on volatility and more. I think I'm probably net a little more bearish than Smac on a mid-term time horizon,2 but he's probably smarter than me, so go read him.
Now on to other thoughts that aren’t entirely about prices.
Stop Outsourcing Narratives to Retail
This may sound strange but I believe Crypto has outsourced speculation and narrative building largely to the smallest players (individuals) and the people farthest out on the risk curve. This leads to a chain reaction of perhaps less sophisticated and maximally gullible participants being the ones leading the charge on what narratives projects embrace across the echo chamber pockets that exist across crypto (CT, trader TGs, US vs. EU vs. Asia, etc., with institutions largely coming last). Part of this is because a subset of the sizeable institutions also behave and analyze as if they are retail investors.
These narratives drive material price swings in either direction and suck up capital, especially in moments where there are not meaningfully new market participants. Capital rotations happen seemingly on a week by week basis and tokens go parabolic before being dumped 80%+. This is not a healthy market dynamic to sustain long-term investment nor to inspire net new participants to view crypto as a viable asset class to allocate to outside of BTC, and it is certainly not one to sustain long-term building in.
What I would argue is that people instead need to be more speculative in how they position their products within crypto. Put another way, one must attempt to create narratives that do not exist.
We can make the argument that the only thing people care about in crypto is gambling or swapping one token for another in the hopes of making more money. But even with that constraint, there are ways in which people create narratives around that core principle.
Often, the largest projects (L1 and L2) follow those narratives in a hope of driving short-term TVL and then ideally converting it. The problem is, large ships take longer to reposition than small boats, and thus by the time a given large project pivots towards a narrative, that narrative is often dead. I think we've seen that most recently with the AI and crypto narrative as the majority of value was captured by TAO 0.00%↑ at the beginning which helped create the narrative, and then only “small” projects that were weak GPT wrappers that helped destroy the narrative.
We have seen it in other areas that capture retail imagination of “x + crypto” such as NFTs (art + crypto), investment DAOs (investment funds + crypto), RWAs (tradfi + crypto), OHM (morons + crypto)3 and more.
We most recently at large scale saw it with memecoins (speculation on “culture” + crypto and the meta game of narratives + crypto), and I would imagine we'll see it over and over again.
All crypto projects at some point aim to build a core userbase (which we call “community” for some reason) that is aligned ideologically and financially with their project. What this dynamic means is that if you're building a project, you should try to build a community that early on acts as a propaganda house. Your job as an organization, or foundation, or collective of individuals with far more money and far more reach than smaller groups of people (you know, cause you launched a token or because you raised money) should be to create a narrative that you believe in and propagate why that narrative matters and why your project will own it. It should explicitly not be to try to capitalize best on an existing narrative that is already at some level of market awareness. Competition is for losers and competing for existing narratives is especially difficult.
Speculate on the futures you believe in and become the Schelling Point Protocol for that future.
Power Law & Compounders
As someone who invests across everything from venture to crypto to public equities, I find it really interesting how wildly different consensus is. Of course, a lot of people like to compare public markets with crypto, but there's one fundamental misunderstanding that actually reflects a lot of what's wrong with crypto today and why some people (maybe only me) are disappointed.
In public markets over the past 5 to 15 years, people “discovered” the idea of at scale compounding ROI at the company level and specifically that large companies will get far larger and accumulate more value than anyone ever appreciated. These companies have many properties but they typically take advantage of multiple waves of technological shifts and have broad scopes of ambition from the beginning. This ideology effectively means that you are better off investing in high-quality companies that can compound for long periods of time, with fairly minimal or moderate drawdowns relative to the rest of the market, than investing in highly volatile companies that can spike aggressively but might draw down 80+%.
In public markets this has made the job of hedge funds very difficult. The Mag7 and a subset of other Compounders have created so much upward momentum in the core indices that it is very hard to outperform them without taking material risk. This is why there are a large number of managers that now run long-only, concentrated books that often carry some sort of mag7 exposure while in theory pitching lesser drawdowns in years like 2022 (in reality, many of these managers just fanned out into speculative tech and got rekt).
Crypto hedge funds have a similar difficulty with Bitcoin; an asset with (imo) incredible risk/reward and a compounding dynamic across a few core themes of “new money” to “inflation hedge” to “crypto index” and more.4 Bitcoin often acts as a baseline performance index for any liquid crypto asset strategy. The results for many crypto hedge funds are similar to their public equity peers; outperformance with effectively levered longs that have high correlation during market upcycles and brutal drawdowns and underperformance in risk-off years, often resulting in cumulative underperformance of the benchmark.
Historically in crypto Compounders have not been existent outside of L1s like ETH and SOL as the scopes of ambition of infrastructure are far easier to execute on horizontally. There are hints of it with certain teams today, however there is an open question whether or not with existing token structures one can do this instead of building a company from the ground up with this idea in mind (perhaps another reason why projects shouldn’t launch their token too early).
We have many thoughts here but either way we suspect this dynamic to change within crypto as a select number of founders look at their projects as possible compounders with meaningfully more horizontal scopes of ambition than in prior market cycles. This should bring a sense of rationality and core benchmark amongst market participants in crypto that today does not exist due to their not being a collection of assets that seem like great risk-adjusted alternatives to shitcoining and heavy rotations.
Closing Thought
There is some irony to be thinking about this perhaps idealistic and utopian view of building lasting value in crypto as bitcoin and the market broadly takes a multi-day slow walk down from ~$95k to ~$80k, in seemingly the most orderly sell-off I’ve seen in awhile. That said, when you’re stuck looking at an industry rotating out of conviction, I would argue it leaves opportunity to establish fresh heuristics, new narratives, and original fundamental views in the relative ashes or pullbacks that shake out low conviction participants.
I already did that on twitter and had a bunch of angry people tweet at me
Though this sell-off has been more aggressive than I anticipated
I’m sorry I had to and am 99% joking.
Smac would maybe say this is actually incorrect and why bitcoin is successful is that it has only 1 core narrative, agree to disagree