Pythia Was a Trip

Pythia was the title of the high priestess of the Temple of Apollo at Delphi. She specifically served as its oracle and was known as the Oracle of Delphi, serving as Apollo’s mouthpiece.

Her contemporaries understood her powers to be supernatural. Modern scholars offer a different explanation – Pythia’s insights were hallucinogenic in nature, coming from an upwelling of natural gas.

In plain English, Pythia was high out of her mind.

High On Hopium

‘Hallucinogenic’ is also an apt description for today’s oracles in DeFi; DeFi oracles are in a similar position – hallucinating prices based on the hopium fumes of retail.

Protocols have lost a combined $394 million from oracle and price manipulation exploits since the advent of DeFi in 2020.

Oracles can be manipulated directly, where an oracle bribes or becomes the oracle to report a false price, or indirectly, where the price of illiquid token is manipulated, and the oracle simply passes on manipulated info.

The former we call “oracle manipulation” – the oracle is manipulated directly; the latter we call “price manipulation” – oracles simply report.

Price manipulation exploits are the most common economic vulnerability in DeFi. They are commonly attributed to thin liquidity, but this is symptomatic of an even deeper root cause.

Mark-to-market fallacies

Mark-to-market valuation is an accounting practice borrowed from TradFi.

Shares outstanding are valued at their last traded price to produce “market cap” – the total value of a stock.

It’s a crude way to value assets, and it makes a terrible assumption – that infinite demand exists for the asset at the last traded price.

Demand curves aren’t flat.

Furthermore, demand for financial assets is reflexive – demand for an asset decreases as more of it is sold.

Mark-to-market valuation is a useful accounting tool, and only works in traditional finance because in TradFi, these types of exploits are prevented (partly) by regulations – market manipulation is illegal.

In crypto, that doesn’t matter – code is law.

Rogue actors exist and take advantage of exploits as they’re coded. There is no way to stop them which preserves permissionless and credible-neutrality – two of blockchains’ core properties.

Any exploits that can happen, will happen, regulators be damned.

TardFi

As US regulators explore more lax restrictions, censorship-resistance is taking a back seat to “open finance” putting TradFi onchain.

Leading up to this, the trend of taking TradFi money through Silicon-Valley-washout VCs has already caused problems, turning what was formerly decentralized DeFi into “TradFi, but worse.”

Part of the problem is the profitability of bona fide scams built on the mark-to-market assumptions. VCs – those who would know best, would prefer to allow such faulty premises as mark-to-market valuation of assets to perpetuate trends like “low float, high FDV” at token launch, which inflates valuations long enough for them to dump on retail for an easy 10x.

The rest is simple lack of awareness – reasoning by analogy is imperfect; builders in crypto have the opportunity to build new primitives, from first principles.

In doing so, we should employ an inversion of Chesterton’s Fence – if you don’t know why a fence was built, don’t tear it down.

Similarly, if you don’t understand why a system was used, don’t copy it when building from scratch.

Conclusion

DeFi presents an alternative to the existing financial system – it is not merely a recreation of it “onchain.”

Building zero-to-one requires new patterns.

This also require new metrics to support reasoning about protocols which are not manipulable.

A few examples:

• Nic Carter’s realized cap
• Eric Waisanen’s loan-to-liquidity
• Our own “chair ratio” – the ratio of unlocked supply to available exit liquidity

To tie it back to the original point, DeFi oracles can’t help but hallucinate when the foundations they’re built on are unsturdy, steaming with hopium gas.

At Token Dynamics, we reason from first principles, focusing on solid fundamentals to build a sturdy foundation for DeFi.

• With @hoyu_io to refine their protocol: a novel, oracleless lending protocol that makes bad debt impossible
• Designing @nuonfinance’s v2 with a veto-based governance to resist common governance attack patterns

In the process, we build valuable systems and help investors exit by ensuring deep liquidity with our tokenomics strategies.

Value creation through new protocols is not zero-sum – everybody wins.

If you’d like our help with your token, protocol, send us a message – we’ll tell you how you can improve the outcomes that matter and build from first principles – for the next century, not just the next cycle.

In traditional finance (TradFi), the Price-to-Earnings (P/E) ratio is used to assess the relative attractiveness of a stock.

P/E is calculated by dividing the price per share of a company’s stock by its earnings per share (EPS). The formula is: P/E Ratio = Stock Price / Earnings Per Share.

A high P/E ratio typically indicates that investors are willing to pay a premium for the company’s earnings, which suggests they have high growth expectations. A low P/E ratio may indicate that the company is undervalued or that investors have lower growth expectations.

There are other ways to interpret P/E, but exploring these is beyond the scope of this article.

Valuing Cryptoassets

Valuing cryptoassets is clearly different than valuing stocks, but how has not been entirely clear to most. What is clear is the desire for a metric like P/E to measure the relative value of cryptoassets.

Market Cap

Market cap was an early attempt at such a metric. Market cap is borrowed from equities; it’s calculated as price times shares outstanding.

Market cap is flawed to begin with – the “marked-to-market” fallacy underlies many economic security exploits, but ignoring this, it’s a blunt tool borrowed from traditional finance.

Alternatives have been proposed, including Nic Carter’s “realized cap” and our circulating supply, but again – these metrics do not tell the full story, and are only applicable to some cryptoassets.

TVL

TVL, total value locked is another metric which has been proposed. The issue with TVL is that most protocols’ tokens don’t directly benefit from increased TVL. Their value is loosely correlated to TVL, at best. At worst, TVL is more of a liability than an asset. In Bitcoin, for example, onchain assets which are bridgeable out of the ecosystem can be profitably double-spent.

Fees

Fees are an useful metric for some protocols, but even in these cases, fees don’t tell the whole story.

Even tokens to which protocol fees accrue value are not 1:1 analogs.

Ethereum

Tokens are valued according to their tokenomic mechanisms – the ways they are used in a protocol which cause them to accrue value.

ETH gets some of its value through fees, but also accrues value through other mechanisms: use as a medium of exchange, as collateral, and through coin burns in EIP-1559.

This unique combination of tokenomic mechanisms causes ETH to accrue value differently than other tokens, even those which are used to pay fees.

Monero

XMR is also used to pay for fees, but most of its value comes from its use as a medium of exchange. This makes monetary base and circulating supply more relevant when comparing XMR to other cryptoassets.

Synthetix

Synthetix allows users to speculate on assets not native to Ethereum via its sAssets, synthetic assets backed by ~400% of their value in SNX tokens. Synthetix also takes fees, but it’s the TVL that most directly affects the value of SNX.

SNX’s price floor is proportional to the value of assets collateralized by SNX, and the collateralization ratio or, c-ratio.

Price Floor

A tokens’s fundamental value is reflected in its price floor – the minimum possible price for it to sustain before overwhelming demand buys it up on the order books.

Another way to describe a price floor is the price of a token if all speculators were forced to sell.

Price floor is absolute, like the book value‡ of a stock, but not that valuable in isolation.

In bear markets, you can take advantage of price floors on red days by placing strategic buy orders, but most tokens rarely hit their price floors, though there are notable exceptions.

Price-to-floor, P/F

A token’s price can be envisioned as its price floor, plus a speculative premium.

Together, the price and price floor provide a measure of risk.

If you can accurately identify a token’s price floor, you can find its P/F.

Price-to-floor, then, is a measure of risk/reward of investing in a token.

This ratio can be used to compare all crypto assets over time, and relative to each other.

Conclusion

P/F is just one metric. As with equities, no single metric tells the whole story. But like P/E, P/F provides a lot of color.

As crypto matures, P/F will become even more useful to investors. For now, it’s a good measurement of the risk-reward of an asset.

None of this is financial advice. If you’d like more insight into how exactly to calculate price floors, P/F, and other metrics, I’ll be hosting a class where we walk through the examples listed here in more detail, as well as other examples of tokenomic mechanisms, valuation practices, and heuristics to identify valuable tokens and protocols.

Sign up for this one-time offering here.

* When price dips below price floor, the market purchases a token in speculators’ absence
‡ More accurately, the liquidation value of a company’s assets and liabilities