Smart investors know when to hold on, when to move forward, and when to sneak out the back door.
To get the most out of this market, you have to survive in order to thrive.
And survival isn’t always about who has the flashiest tech or the highest TVL. It tends to relate to factors such as tokenology, governance, finance, leadership, and community.
Today, Bankless analyst Ben Giove laid out red flags for trouble-prone crypto projects in this bear market.
There is an alpha that makes you money, and an alpha that makes you lose money. Both.
Don’t say we don’t endanger you!
A bear market is a market of opportunity.
Projects with strong fundamentals, professional teams, and enough runway to weather the crypto winter will first survive, and then thrive, as valuations compress and the bull bubble washes through. This presents a huge opportunity for investors.
If the 2018-2019 bear market is any indication, there will be a handful of outperformers delivering outsized returns even when the carnage takes place.
For example: Chainlink (LINK) and Synthetix (SNX) rebounded 486% and 2924%, respectively, in a relatively sluggish 2019 for the overall market.
Picking winners is difficult, but investors can dramatically improve their odds by not only focusing on quality projects, but also by training themselves to identify projects to avoid.
Let’s take a look at some red flags to keep in mind when researching a project so your bear market quilt funds don’t explode.
Red flag 1: Oversupply
Token Economics is about supply and demand. While no token is completely immune to the relentless sell-off from bear markets, the nuances of token economics distribution and supply schedules can give investors a better idea of where the source of a structural sell-off may lie.
When looking at the supply dynamics of a token, the most critical factor is what percentage of its supply is in circulation. Many tokens – especially DeFi – are “low-circulation” at launch, or only have a fraction of their supply in circulation.
This often results in a significant difference in a project’s market cap relative to its fully diluted valuation (FDV), as new tokens are often boosted to unreasonable valuations shortly after launch as retail investors race to buy them This small fraction of tokens.
While this varies by token, those with only a small fraction of their supply in circulation — especially those with rich valuations — are more likely to experience a structural sell-off in a bear market. And those tokens with a higher percentage of supply circulating on the open market may be more effective against bear markets.
Selling pressure on these “low-circulation” tokens typically comes from two sources:
The first is insider unlocking, as many tokens have a significant portion of the supply allocated to team members and investors. These tokens are typically structured with an unlock period, which is the length of time after launch until the start of unlocking, followed by a release period, or the time period during which the internal distribution is unlocked.
While not sure if insiders will sell their tokens as soon as they start to release, these tokens are a source of selling pressure from entities who may have been able to sell their tokens well below the token’s current price despite a weak market The cost basis pays off.
Another uncertainty is that private round valuations are rarely disclosed, putting current and future token holders at an informational disadvantage.
Despite this information asymmetry, savvy investors can use tools like Dove Metrics , Unlocks Calendar , and Nansen to gather more insights into these rounds and see if insiders are selling their tokens.
Along with unlocking, many tokens are also facing structural selling pressure from yield farmers. Even in this bear market, many protocols currently have active liquidity mining programs and use native tokens for incentives.
Additionally, many protocols have recently moved to inflation-based ve token models. Under these models, the release of native tokens will increase to incentivize the liquidity of various pools.
Regardless of the distribution mechanism, these inflationary items will put downward pressure on prices as farmers realize their returns by selling these tokens.
The sell-off from unlocking and inflation increases the likelihood that the coin will continue to depreciate throughout the bear market. But as we’ll see soon, this selling pressure can also decapitalize a deal and reduce the likelihood of it surviving a long winter.
Red flag 2: Native token-heavy treasury
Another sign that a project may struggle to survive a bear market is the lack of a diversified treasury.
According to DeepDAO , the DAO treasury holds over ~$8.1 billion in current and vested assets. Of this, only $1 billion (12.3%) was in dollar-pegged stablecoins such as USDC, USDT, DAI, FEI, and FRAX. Another $391.8 million (4.8%) is in crypto reserve assets such as ETH.
This data suggests several things. First, many protocols are poorly capitalized and lack the necessary capital to survive a prolonged bear market. This lack of diversification also confirms the high concentration of funds in many DAOs in a protocol’s native token.
This poses a problem because it ties a protocol’s self-sustaining ability to its token value, which creates problems when markets are bearish and prices are falling; and that’s what it is now.
Furthermore, it also suggests that DAOs may be forced to sell their tokens at low prices to an increasingly illiquid market in order to cover contributors and other operating expenses. Not only does this intensify the selling pressure on their respective tokens and further drain the value of the treasury, but it can lead to disputes within the protocol community as selling tokens is highly unpopular among token holders. This can further dampen morale and make life more difficult for all stakeholders.
The lack of a diversified treasury could force the agreement to turn to other forms of financing. For example, in order to obtain enough funds to survive, the DAO may be forced to turn to over-the-counter trading, where it will sell locked tokens at a discount to venture capital firms or trading firms.
It is almost impossible for these transactions to be beneficial to the protocol, as it has little leverage to negotiate favorable terms on behalf of token holders. While the DAO may soon have more funding instruments, such as the ability to issue bonds and debt through protocols like Porter Finance and the Debt DAO , this infrastructure is still in its infancy and comes with new risks and obligations. Many protocols may not have the capacity to handle it.
While centralized companies working on developing the protocol, such as Uniswap Labs, may have the necessary funding, investors and token holders cannot be sure because their financials are almost never disclosed to the public.
It is wise to look at the composition of these treasuries to help avoid projects that over-allocate the treasury to their native tokens.
Red flag 3: Poor governance practices
Unfortunately, at this early stage of the game, DAO governance is largely a mess. That said, investors should be wary of some particularly poor governance practices.
During a bear market, tensions are high, the stakes are high, and trust is low. Governance can make or break a project. Decisions made through governance—and how those decisions are enforced—can have a huge impact on the long-term health and legitimacy of the protocol.
As DAOs are still in their infancy, the industry has yet to agree on best governance practices and organizational structures. This, combined with the proliferation of token holder votes — a practice that can easily lead to out-of-control governance and prioritization of maximizing short-term value — has resulted in many DAOs falling on either extreme of the decentralization spectrum, i.e. too centralized or too decentralized.
On the one hand, some DAOs find themselves in a position of being too decentralized. While a high concentration of power can cause problems, the complete absence of hierarchy can also create its own problems for DAOs. Overly decentralized DAOs are inefficient and they cannot make quick and timely decisions. Additionally, these organizations may find themselves plagued by infighting and power struggles that keep them from executing the roadmap.
On the other hand, many DAOs are DINO (Decentralized in name only), which is decentralised in name only. While claiming to be DAOs, these organizations have multiple factors that make them highly centralized. For example, the token supply of many DINO DAOs is highly concentrated insiders, with investors and team members having excess allocations.
Often, these team members are the only entities able to implement the proposal, enabling the insiders of these “DAOs” to completely ignore or completely bypass what they call the governance process and stage “governance drama” to pursue their own ends.
In the past week alone, we’ve seen several similar examples.
For example, Bancor, a decentralized exchange, decided to unilaterally suspend impermanent loss protection , a key component of its value proposition for providing liquidity on DEXs.
Another example of governance failure is Solend, a money market that launched its on-chain voting system and then immediately proposed to forfeit the funds of a whale who was in danger of liquidating a large number of positions. While the whale’s position posed a potential threat to the stability of the platform, and the team later backtracked on pursuing this action, Solend and Bancor may have significantly damaged trust between users and the community.
Investors should be wise to avoid agreements that have shown a tendency to ignore governance, and those that take note of a clear and consistent effort to identify and follow best practices.
To find the next bear market winner, investors must not only know what to look for, but also be able to identify project red flags to avoid.
These signals include: oversupply of tokens (those tokens that will continue to be punished by structural sell-off from insiders and farmers), an overrepresentation of native tokens in the DAO treasury, and protocols with poor governance practices.
A bear market is a market of opportunity. Will you take this chance?
Posted by:CoinYuppie，Reprinted with attribution to:https://coinyuppie.com/bankless-3-red-flags-for-those-ngmi-projects-in-a-bear-market/
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