Sommelier On the Road: PROOF OF…REPUTATION

I minted an Unbearable Bear NFT to get into DeFiCon last weekend in an under heated, godforsaken warehouse in Bushwick, Brooklyn, with 200+ other DeFiers. Below, I summarize the comments of Hester Peirce, SEC Commissioner, and Alex Mashinsky, CEO of Celsius. I list a few worthwhile quotes from other presenters. First, five big take-aways:

Sommeliers On The Road at DefiCon Brooklyn Dec. 18-19, 2021

BIG BAGS: Institutions are keen to get into DeFI – but lack of privacy and trusted tools hold them back. Solve for privacy and trust and wait for the tsunami.

Although I agree there will be no one chain to rule them all, tech markets tend to coalesce around standards. The ground in DeFi is still hotly contested – but one day there will only be a few layer 1 winners sharing the spoils. When balancing speed against perfection, founders should lean toward General Patton’s advice: “A good plan violently executed now is better than a perfect plan executed next week.”

BIG BROTHER: While the US is more crypto friendly and flexible than China, and while we have courageous voices in the wilderness (Hester Peirce at the SEC, Wyoming), the hesitation or outright over-reach of a majority of regulators (yes you, Gary) mean that pushing elements of your DeFi project offshore - and sometimes the whole show – is often the prudent way to go. But don’t give up – make noise!

POACH THE STREET: There is an astounding lack of Wall Street experience on a lot of DeFi projects looking to replace Wall Street. I get it – if you want to blow up Wall Street, why hire the guys that built it? Unfortunately, the parts of DeFi that involve human behavior (umm, most of it) are going to build on what people have been refining for millennia. You can’t redefine liquidity without knowing something about the buttonwood tree, Bretton Woods and what goes on in a giant warehouse in Mahwah, New Jersey. Put another way: if you want to beat the Patriots, you hire Tom Brady.

NFTs: too big to generalize, but a lot of this is more about forces like love, envy, peer pressure, loyalty, attraction and fun than it is about money. That means valuation can be next to impossible – and yet markets are forming around them. The ventures that make it easier to value, lend and borrow NFTs will be big winners.

Finally, IT’S NOT PoW or PoS, IT’S PoR: Community is such an overwrought word, and yet that is what we are building. You cannot build lasting communities overnight. Anons might pull it off occasionally (Bitcoin for sure, Olympus?), but most lasting settlements are founded by hard work, honesty about failures and sharing the wealth with everyone. So what we need is a new network proof: Proof of Reputation. I strongly believe that founders and early contributors are more likely to build lasting value by staking something that matters a lot more than money. That something is REPUTATION. That is only built over time – and keeping your word and how you admit and handle failure is most of it.

HESTER PEIRCE, SEC COMMISSIONER

Our job under the law is three-fold: protect investors through disclosure, protect the integrity of the markets, and facilitate capital formation. Skepticism on the part of the regulator is healthy, but “merit” regulation is not our mission. However, unfortunately, we have strayed into it. I strongly disagree with using “strategic ambiguity” and defaulting to enforcement actions as an approach to regulating this space.

On DAOs, we are looking for DINOs: decentralized in name only. The third prong of the Howie test is “based solely on the efforts of others”: so we ask: if any one person in this community got hit by a bus, would it make a difference?

On the other hand, DAOs in general are simply new replacements for venture formation (like corporations and LLCs) are thus subject to state law, not federal.

A 2010 decision, Morrison v Australia Nat’l Bank, held that US securities laws do not apply to “purely offshore” transactions. However, Chairman Gensler takes a broad view of his jurisdiction. Some have called it applying the “intergalactic Commerce Clause.”

We will of course see through half-hearted attempts to keep US citizens out. You can’t announce on your website it’s not available to US citizens and then describe on your Telegram how to VPN your way around it.

Even if you make good faith efforts, I have little comfort to give you. Most of my colleagues take a broad view of their jurisdiction.

Jason Gottlieb, attorney for Morrison & Cohen: Reeves v Ernst & Young suggest that loans can be securities. Does this apply to crypto loans?

Hester: You need counsel on that one. The presumption is that if two people enter into a contract voluntarily, the presumption is that we should not interfere.

The Safe Harbor provision that I have proposed would allow projects a three-year runway. But this is only a proposal, and you cannot rely on it now.

FUTURE OF FARMS: YIELD 2.0

Alex Machinsky, CEO, Celsius

The velocity of the dollar – daily turnover – is 1.2. The velocity of DeFi is 22. That tells you a lot.

The first killer app in crypto was store of value. The second is yield.

But here’s the problem. Yield farming is like a blind person crossing a highway. Wow, I made 25% in this lane. Next lane, a tractor trailer rug pull flattens you into its grill.

Getting people into DeFi is going to take time. We won in VoIP because 100M people showed up for the cheap calls pretty quick. Money is harder. I anticipate this will be a Thirty Years War.

Yield farming does not get us 8 billion people. 10M people got liquidated on Binance last May. That’s 10M we have to win back.

A big problem in DeFi? You are a mirror image of Wall Street. In some cases, your fees are worse.

You have to look at the teams in this space. Nexo – who are they? Can you tell me?

What is our business model at Celsius? We charge institutions for our liquidity, and pay that to our customers. We are a credit union in crypto.

I (Michael Long) asked him: Ok, you have Wall Street paying you now. One day you will have to charge your customers for your service, no?

Alex: When will Citadel stop paying for order flow? When the cows come home.

Quotable:

Ed Mehrez, co-founder Arrow Markets (on democratizing derivates)

Other than perpetuals, derivatives in crypto have not taken off. Derivatives today, which represent perhaps 10X of the planet’s entire GDP, are in the hands of a few specialists. Crypto allows us to democratize derivatives.

To get institutional money, you need two things: first, KYC on the subnets. Second, an understanding of systemic risk. The Fed makes the banks stress test. DeFi is open. We can fork an AVAX mainchain and stress test. But there is a free rider problem. Who does it? Maybe Chain Labs. We have to get ahead of the regulators.

The system almost failed a hundred years ago. JP Morgan stepped in personally, and the Fed was born. This time we have a chance for the community to propose the standard ahead of time.

Conor Carney, Legislative Director, Congress

Congressional reps are super busy. Unless they are on the right committee they don’t have the time for deep dives on crypto. But you should be reaching out to them on issues that will affect their constituents. If you think tax rates are too high or too uncertain, let them know!

Andrew “Zyori” Campbell, Axie Infinity

Axie is going from Proof of Authority to Proof of Stake. Will launch a DAO in 2023. We had to do a Ronin sidechain because of gas fees.

The typical Axie fan goes through four steps:

1. This is too good to be true.
2. It must be a scam.
3. OMG it’s not.
4. I’m in.

We have 2.5M daily active users on Axie. They are here for the game: but we can teach them other things about crypto – for example, yield.

Robbie Cochrane, Chain Guardians

90% of our users want user-friendly over decentralized. But the 10% who prioritize decentralized are VERY vocal.

James Carlyle, Obscuro (on privacy)

WhaleAPI shows every whale move on ETH. You can copy their alpha. You won’t get big tradfi bags without giving them privacy.

One solution: timelock transactions for a certain time, after which they become public. Certain trades only need to be private for a very short time. Government records sometimes are made public decades after the fact. Certain private transactions you may want private forever.

Final thought: sometimes the farther out in Brooklyn you go, the more interesting it gets.

Michael Long is helping Sommelier.Finance develop strategic partnerships. We are looking for front ends and bags, big and small, that want to earn yield in products they can trust.