Crypto investing is hard.

In yesterday's daily, I covered the framework I use to analyse crypto investment opportunities

I then use this framework to show why I believe decentralised insurance as a sector is relatively undervalued compared to the DEX sector

Thread

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1/ Unlike traditional investors, investors in the crypto space must analyse and underwrite a series of stacked risks when investing in projects
2/

👉 Will the project create value and attract users?

👉 Will the project be able to capture value from those users and establish a long-term, defensible moat?

👉 Will the value captured accrue to the token?
3/ The first test is the easiest in the sense that it’s one investors in traditional markets are already used to making

Is the product useful and does it have product-market fit? Is the team experienced and capable?
4/ The second test is tougher. In traditional markets, investors can get away with being less rigorous about this as proprietary technology and strong teams can pose moats

Crypto's open nature means only network effects provide reliable long-term defensibility
5/ Ideally, as investors we want projects with multiple, compounding, unforkable moats that cumulatively mean the project has some form of increasing returns to scale, meaning it gets more difficult to unseat the bigger it is

delphidigital.io/reports/unfork…
6/ The third test is the one traditional investors have least experience with

Unlike equity which is likely to be valuable if the project passes the first 2 tests, the value of a token depends entirely on its design. Each token is different and must be analysed independently
7/ Good investments must pass all three tests, a daunting task made more difficult by the open, forkable nature of projects in the space

I believe #few in the space currently think about investments in these terms, leading to significant mispricings
8/ We will now apply our framework to two different sectors: decentralised exchanges and insurance, focusing primarily on the second and third tests
9/ As I argued in my piece on DEX Wars and Aggregation Theory, DEX liquidity is “undifferentiated supply”, meaning it is highly price elastic as most traders care only about best execution

delphidigital.io/reports/dex-wa…
10/ While some users may interact with their favourite DEXes directly, we feel aggregators such as @1inchExchange , @DeBankDeFi will increasingly dominate since they allow users to get best execution on trades across all active DEXes
11/ While the supply side provides greater opportunity for differentiation on things like algorithm optimisations (@BreederDodo ), flexibility (@BalancerLabs ), types of assets (@thorchain_org ), LPs are still primarily interested in optimising yield
12/ As such, an exchange’s moat is liquidity since this means better execution, higher trading fees and better yield for LPs

However, liquidity is fluid and will flow towards the highest yield. Rent extraction to tokenholders hampers execution/yield and thus the exchange's moat
13/ Now let’s compare this with insurance. Liquidity is also a moat for insurance in that more liquidity means greater capacity.

However, insurance has several additional moats
14/ Differentiated supply

Since insurance cover is underwritten for a given period of time, supply-side liquidity is less fluid as there must always be enough capacity to pay out existing claims (i.e. @NexusMutual's MCR)
15/ In addition, supply-siders have skin in the game and must accurately assess claims to ensure the long-term growth of the platform

This is very different from an LP passively providing liquidity in an AMM
16/ Differentiated Demand

Unlike exchanges in which traders care primarily about best execution and have little to no brand loyalty, insurance platforms are chosen based not just on pricing but also on a user’s confidence in the platform's ability to pay out
17/ This brand moat can only be developed over years of paying out claims and cannot be forked or vampire attacked away
18/ Diversification & Efficiency

Unlike exchanges in which efficiency depends almost solely on liquidity, for insurance protocols efficiency relies on leverage: using $1 of capital to underwrite >$1 worth of risk
19/ Leverage can only be achieved by underwriting diversified risks

As such, not only is stealing liquidity difficult, new entrants will struggle to compete on price even if they attract liquidity as they will not have the diversification necessary to enable leverage
20/ This is also why we remain bearish on prediction market based insurance models which are capitalized 1:1

As we see it, these models will always remain either expensive for cover buyers or provide low yields to LPs
21/ Non-linear liquidity network effect

Unlike exchanges, the liquidity network effect for an insurance product scales non-linearly in that a platform with more liquidity does not just offer better pricing but is also capable of underwriting entirely new types of risks...
22/ ...e.g. protocol insurance for treasuries

Large capital pools can underwrite proprietary cover, diversifying their liabilities and enabling greater diversification. This in turn provides greater efficiency, generating the familiar network effect flywheel
23/ While both insurance and exchange will be massive sectors, we see insurance as being better positioned to capture value long-term

This is not reflected in prices right now as the cumulative market cap of DEXes is $2.7B compared to only ~$230M for insurance
24/ While an imperfect comparison, it's worth remembering that in the real world insurance is a $6.3T industry and the largest segment within financial services alongside banking. Exchanges are far smaller by any measure
25/ It goes without saying that both DEXes and insurance have massive upside from here given the growth we expect in DeFi as a whole - we are interested in speaking with and investing in teams in both sectors

Disclaimer: Delphi Ventures is an investor in $RUNE, $NXM and Debank

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More from @ZeMariaMacedo

27 Nov
1/9 I believe most DeFi credit protocols like will end up creating their own insurance pool underwritten by tokenholders. Why?

🔸Gives governors skin in the game and an incentive to make good decisions
🔸Better product for users who want insurance as they deposit
2/9

🔸Transforms idle market cap into balance sheet, generating fees
🔸Risks can be bundled into products and offered to users based on their particular preferences
3/9 While we believe this makes a lot of sense as a token model, we don't think it is competitive but rather complementary to @NexusMutual

This is because insurance relies on leverage to be efficient and leverage requires diversified, uncorrelated risk exposures
Read 9 tweets
10 Nov
Over the past few months we've been working closely with @AaveAave to help advise on Aavenomics design and the transition to Aave v2

As part of this, we propose a new token architecture we believe will enable greater capital efficiency, innovation, and robustness

Thread 👇
1/10 We believe the current design with a single, undifferentiated safety pool is flawed

Firstly, it hampers innovation by increasing the potential costs of failed new product experiments as these can cause contagion and systemic risk
2/10 This enables more nimble competitors such as @CreamdotFinance to steal market share, innovating quicker by adding new, riskier products

It's also capital inefficient, bundling different risks together and offering a blended return, appealing to a narrower capital base
Read 11 tweets
22 Oct
As someone who is #irresponsiblylong both Bitcoin and DeFi, I cannot understand the constant tensions and bickering between the communities

In yesterday's daily, I explore why I believe Bitcoin and DeFi are symbiotic rather than competitive

Thread 👇
1/11 Bitcoin can be seen as "Digital Gold", with its like for like characteristics as a store of value being superior in every way

However, it's also much more than this as it's natively digital nature enables programmability, utility and financial innovation at software speed
2/ Bitcoin is not only a financial asset that is no one else’s liability, it can also be used as part of a broader financial system without becoming someone else’s liability

Rather than trust a counterparty, users need only trust cryptoeconomic incentives and human greed
Read 13 tweets
11 Oct
While my time investing in crypto and previously playing poker has gotten me used to experiencing large daily personal net worth volatility, it's never a pleasant experience

Short thread (by my standards...) with some ramblings that help me get through it 👇
1/10 Imo, some DeFi projects represent 10-1000x upside opportunities

Obviously, like all of crypto, it is extremely risky and can go to 0. That said, given the magnitude of potential outcomes, it just doesn't have to succeed that often to make it a massively +EV bet
2/10 As with all early stage tech, realising these outcomes will require 4-8 year holds

Unlike early stage tech, crypto investors will have liquidity, i.e. the possibility, and thus the temptation, to sell

This is both a blessing and a curse
Read 12 tweets
9 Sep
With the yield farming craze and recent market drop, we've begun to hear calls of a so-called "DeFi Bubble", with a few arguing DeFi has topped

In today's daily, I take a longer term view and look at YF, DeFi vs ICO boomand where I think we are in the cycle

Thread 👇
(1/27) First, it's important to realise speculation has always been crypto's killer app

The ICO boom was only the most extreme example, but crypto's history is dotted with boom and bust cycles, dating back to 2013 and Namecoin, Mastercoin (now Omni) and Maidsafe
(2/27) For those who lived through the ICO madness, the recent food coin high season 🍣🍠 🍝 may bring flashbacks of the futility coin fuelled 2017 boom (ht @Obstropolos)

While the underlying mechanism is the same, there are some fundamental differences worth exploring
Read 28 tweets
26 Aug
For my last two @Delphi_Digital dailies, I touched on DEXes, aggregation theory and long-term value capture, questioning whether AMMs are set to become the Airlines of Crypto.

Time for a thread

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(1/15) Aggregation theory, first suggested by @stratechery, describes how the internet changed value capture by commoditising distribution

Thus, suppliers could build direct relationships with consumers cheaply. Consumer choice exploded, necessitating the rise of aggregators
(2/15) A similar phenomenon is happing with DEXes

While initially users interacted with their favourite DEX directly, aggregators such as 1inchexchange, DEX.AG and others have emerged allowing users to get best execution on trades across all active DEXes
Read 17 tweets

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