That title is designed to echo “10 days that shook the world” a thrilling eyewitness account of the Russian revolution (that happened 100 years ago this month).
Yes, ICOs are revolutionary. Today they are only revolutionary in the world of “innovation capital” (the funding of innovation from VC to IPO/Trade Sale), but the implications are broader. Software is eating the world and we need capital for innovation to solve mankind’s biggest problems; so this is also a big deal for all the 7 billion plus people on our planet.
That is why the Bancor ICO on 12 June 2017, which kicked off the long hot “summer of ICO”, was “3 hours that shook my world”.
Where were you when that happened? I recall were I was. I was in my office talking to @efipm and she said something about the Bancor ICO raising over $150 million in 3 hours.
It was a strange moment. I had been predicting a change along these lines for a long, long time. The current system was clearly broken and I could see the technological pieces (Internet + CryptoEconomics) that would enable change. Despite that, the Bancor ICO raising $153 million in 3 hours, took me totally by surprise. I used to think of $150 million as the capital raised in an IPO or in a mega growth round. To raise $150m in 3 hours without even a product to demo was unthinkable. My instant reaction was simply, “that’s crazy”.
Luckily in my Top 10 Predictions for 2017 I had put in No 10:
“This one left blank for the big surprise. The big surprise may be triggered by macroeconomics and politics (as if we didn’t have enough of these in 2016), but will have a bitcoin element to the story.”
Of course! Change does not happen in a linear fashion. We have long periods of linear, relatively predictable change, punctuated by an occasional earthquake level change after which everything is different.
The Bancor ICO, with $153 million raised in 3 hours, was that earthquake level change. Like the Russian Revolution, this could end badly; it has certainly started badly with a lot of money being burned. Or it could end well. I think it will end well and this post outlines why. The Bancor ICO was like the Napster moment that kicked off the digitisation of music (that led to legal and profitable digital music services like iTunes, Pandora and Spotify).
Why ICOs are revolutionary even though 99%+ ICOs are crap
Andreas Antonopolus, a talented crypto commentator, has suggested that we keep two opposing thoughts in our heads because both are true:
Thought 1 = ICOs represent a revolutionary change to the world of venture capital and stock markets. This disrupts everything. Look at the image at the top of this post. The amount raised by ICO has now passed the amount raised by VC. That data is only for Blockchain ventures, but many of these use Blockchain but are Cleantech or Healthtech or Fintech ventures. In the future, saying “we use Blockchain” will be like saying today “we use the Internet”. Funding via ICO (or whatever we call it when we shift to the next phase) is no longer a fringe activity. Shift Happens (hat tip to Lykke who use this line in their pitch).
Thought 2 = 99.99% of ICOs are crap. Note: I think the number may be 99%, but that is a quibble and there is no question that almost all ICOs from the long hot summer of ICO were crap and will return zero (other than to those who play the pump and dump game with great skill).
Sidenote: what is about Greeks and this world? Another very famous Greek who has almost the exact opposite point of view to Andreas is Jamie Dimon (born to Greek immigrants in America) and the Daily Fintech author nationality skews Greek heavy (with both Efi Pylarinou and Ilias Louis Hatzis)
A brief timeline of the ICO disruption
Three big events have defined this market so far:
- Event 1: Ethereum ICO in 2014. From 20th July to 2nd September 2014 they raised 31.5k BTC, worth $18.4 million at the time. This defined what was possible. With nothing more than a White Paper, they raised over $18m for a proposition that would not have got the time of day from traditional early stage investors (massive technology risk for what was still an unproven need). In ye olde world they would have maybe raised $180k from friends and family and failed in obscurity. Despite this massive risk, Ethereum has also proved to be a success for investors; anybody who bought at ICO is now rich. Although Ethereum is now seen as the gold standard, the risks at the time (technical, market, legal) were intensely high. Ethereum won against all the odds.
- Event 2: Bancor ICO in June 2017. There were other bigger ICOs that came after Bancor (notably Tezos) and there were other smaller ICOs in the years following the Ethereum ICO, but the Bancor ICO put this new method of capital raising “on the map”. We went from $18m million in 42 days (Ethereum) to $153 million in 3 hours.
- Event 3: SEC shot across the bows on 25 July 2017. This was much anticipated and the SEC had been tracking ICOs since Ethereum three years earlier, but somebody must have sent a memo or made a call after the Bancor ICO that made this a priority. Since then we have had crackdowns in other jurisdictions (eg in Switzerland by FINMA) and the legal battles around the Tezos ICO has been exposed by journalists (initially by Reuters).
Expect the Empire to fight back – a little
Yes, I love Star Wars – along with millions of others. It has taken decades for Financialisation to dominate our economy (to a level where 40% of corporate profits come from finance). A permissionless, decentralised, value exchange system (which ICOs herald) is a threat to that dominance. So grab your popcorn folks, this will be an epic.
Although the forces of incumbency will fight hard to protect the highly profitable status quo, there is no unified Wall Street entity. Individual firms are working out how to position to serve this new world and individual talent is flocking to the companies that add value. That is how a free market should work. For example, if JP Morgan spurns cryptocurrencies, Goldman Sachs will seize the day.
The race to legal ICO like services – IXO
I say “ICO like” because there is no word that yet defines what is coming. The word ICO has the mindshare today even if it is “past its sell by date”. Maybe it will be ITO (Token) but that tends to exclude security like interest. In the absence of a market consensus, I call what we are transitioning towards IXO (where X is still TBD).
There will continue to be some ICOs as we know them today – currencies and tokens that could not be mistaken for a security by a lawyer or regulator and that add value as currencies/tokens. These will have to meet a higher bar than the “Minimum Viable White Paper” that was enough during the long hot summer of ICO.
However the mainstream will shift to something that is clearly both a security (investors get equity, share in profits etc) AND legal without losing the three big innovations coming from the ICO disruption:
- Innovation 1: Permissionless. This gets rid of an artificial distinction between accredited (aka “wealthy”) and unaccredited (aka “muppets” or retail investors who can only invest in traditional stock markets). Designed originally to protect retail investors it is often seen as a way for professional investors to get the good deals and let retail take the lousy deals. Getting that balance right is hard, but it is probably better to make certain activities illegal at the issuer level and then issue a big “buyer beware” notice to investors.
- Innovation 2: Instant Tradeability. In traditional crowdfunding, investors have to wait many years (usually about 10) to have an option to exit (or try to sell in a private negotiation where the other party has better information). The ability to track price and sell if you want to in an early stage venture is fundamentally new. This is not the same as Liquidity, but it is a good step in that direction.
- Innovation 3: Investors who are also early adopters and domain experts. This is why the Ethereum ICO worked. The people who bought ETH in 2014 were mostly computer science experts who could evaluate the tech risk – is it feasible and is the team good enough to build it? These early adopters/investors could also build the DAPPS that used Ethereum as a platform. Now imagine scientists investing in a cleantech or biotech venture or doctors investing in a healthtech venture. The issuing mechanism matters less than that the “crowd” is smarter than the financial professionals because the crowd includes domain experts who help make the venture successful and can evaluate risk/return better than somebody who only looks at numbers.
From Tradeability to Liquidity – watch an ecosystem form.
One of our mantras at Daily Fintech is that “bits don’t stop at historical category boundaries”. Entrepreneurs using the new technology to serve some real but previously unmet need break across these boundaries.
We have been tracking the move to real time settlement in capital markets, for nearly two years (see this post from December 2015 and other posts with the tag “real time settlement”). This move obliterates post trade processes. For a visual view of this, see this graphic from Lykke which is one of the key players in this space.
The back office processes will be eliminated – this is what we call “Business Process Elimination” (in contrast to what we do today which is Business Process Optimisation).
However it is not just the back office processes that get changed. The value adding front office processes will not disappear but they will change and new firms will arise who are IXO native. Intermediaries that help an entrepreneur raise capital or that help an investor make good investments will undergo transformational change in this new world.
The front office processes will remain because they are relationship driven and as the old saying goes “relationships are the one thing that will never be commoditised”. This is the world today of Investment Bankers, Merchant Bankers, Brokers, Sell Side Research and Accelerators/Incubators. However, rather than focus on labels from the past, we like to focus on the fundamental needs of issuers and investors:
Issuers need to rise above the noise. You can issue an ICO today as easily as writing a blog post – and fade into obscurity. When the supply increases dramatically but demand is relatively unchanged, issuers need to work harder to get noticed. The bar is not as high as an IPO, costing millions and needing at least $2bn market cap. Nor is it $150m in 3 hours on only a Minimum Viable White Paper. We are seeing a back to the future world of merchant bankers who both put in their own capital early (enabling a professional IXO) and network to investors who fund the venture at IXO.
Investors need a quality filter. How does an investor find the higher quality opportunities. It might be through the new crypto hedge funds that are coming to market so fast. There is also room for new style research and copy/follow/mirror models and trading signal providers.
There is a race on to become the NYSE or NASDAQ of this world. There is room for more than one, but it won’t be many as this is a network effects game leading to the fastest path from garage to liquidity. The winners will attract great issuers and great investors and they will attract the ecosystem of intermediaries who help issuers and investors. In short, ecosystems lead to liquidity and in capital markets liquidity is the game.
That is “fundamental liquidity”. It works because a real need for capital meets the real need of an investor for good long term risk adjusted return.
There is also “trading liquidity”. This is also needed, but one should not confuse the two. They are apples and oranges. Fundamental liquidity is still a relationship game – humans talking to humans. Trading liquidity is increasingly automated. High frequency trading took over traditional exchanges as documented so well in Flash Boys. The human day traders and ye olde market maker makers in trading pits got replaced by machines.
The ICO disruption is as fundamental as the first limited company (East India Company) and the emergence of stock markets (initially in coffee shops). Wall Street East (IPO) and West (big VC) will never be the same again.
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