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As the Great Crypto Bull Run plays out, whether we approach the cliff and a sustained bear market or another leg up, we are seeing a rotation from growth to value and with it traditional market themes and opportunities creep in. Special situations are emerging across all sectors of Web 3.0, from merger arbitrage to distressed protocols, treasury consolidation to dislocated price-to-book balance sheets, all indicative of an overheated, high growth, nascent technology sector blowing off steam and burning off vapor. Let’s dig in…
After a strong period of unabated innovation and relative malaise from central governing bodies, regulatory headwinds and bear market prospects will force consolidation. Blue chip players will continue to consolidate, as strong lower middle market product driven protocols, strong communities and user bases, DAO treasuries, and licensed operations emerge as quick and ripe investment targets. There is an opportunity to front run these themes.
- Prospects of a bear market and regulatory headwinds will force downward pressure on an overfunded environment and force consolidation across the industry, in line with typical consolidation in early stage hyper growth tech sectors with long term paradigm shifting disruption to traditional business models.
- Rotation of growth to value across the space. Vaporware will burn off, CeFis will continue to consolidate product features, DAO treasuries will consolidate and deploy, user bases will go up for sale, and KYC infrastructure will become less taboo and table stakes as traditional themes take hold and institutions continue to flood in.
- Private deals are cooling as primary late stage growth investors set the tone for more favorable terms into earlier funding rounds, valuations will begin to deflate back towards traditional growth multiples, and founders will continue to raise large rounds that are more investor friendly.
- Traditional investors, customers, and businesses will continue to enter the space rapidly as regulatory flooring occurs and they will acquire at scale across Web 3.0 sectors.
- Most deals are currently unbanked. No one knows how traditional valuations and mechanics apply in underwriting deals in the space. Law firms are advising more so SAFE + warrant models as a way to defer token issuance.
- Select crypto-native assets of scale will look to acquire CeFi tech and/or operations as a natural evolution bridging 2.0 and 3.0 worlds.
How to Win
- Network reach - Strong native crypto and institutional reach through relationships that are actively consolidating in the space and investing for the long term (ie. CeFis, major chains, banking plays, growth investors, etc.).
- Founder and operator perspective - Data driven and patient investing with proprietary insights as early investors and founders in the space.
- Investment bankers in crypto - Apply fundamentals to the Web 3.0 space, and understand the dynamics and stages of this hypergrowth market, focused diligence that can move quickly.
- Proprietary Tech Stack - Leverage on chain insights and quantitative metrics (valuations and funding events, M&A data, regulatory themes and mandates, to identify M&A targets (protocols and businesses) and special situations in the space.
Systemic Themes (a brief rant…)
- EXCHANGES CONSOLIDATE THE WORLD – Centralized exchanges have entered an era in which their products and offerings are commoditized. The name of their game is ‘stay alive’. In a world where anonymous small teams can usurp 10% of total exchange volume, they must further dig their trenches to connect with the real world and bridge to the new one. The ever expanding marginal user will care less about slippage and depth of market and more about real world use: can they make payments from the account, earn yield, share NFTs, partake in the latest trends, sit in an arena of the same namesake. The victor of the war of attrition will survive fee compression, the question is who will have the largest army. The opportunity lies in seeking regulatory and product arbitrage opportunities that enable growth. By year end, this will be fully priced in and funded across the market.
- BEAR MARKET IS THE ENTRY POINT – Levels of capital inflow into private cryptocurrency companies in 2021 was similar in nominal terms to capital inflows into tech in the dot com era. We witnessed growth funds plow capital at a clip of one deal a day at valuations only “n of 1” companies command. The probability that they found x365 “n of 1” companies is nil. As sky-high valuations begin to rationalize, opportunities to invest in stellar companies misunderstood by prior investors that may or may not be forced sellers will present themselves ten fold. On the liquid side, as total market cap has more than halved and as the marginal DeFi user has become scarce, protocols with strong core teams and foundational tech will be able to cash out or continue to build. The DeFi landscape is fertile ground for finding and partnering with builders that have longer time preferences.
- BRIDGING WORLDS – Dollarization of digital assets will continue at breakneck speed. Investor focus to date has been centered around building the world’s economic infrastructure from the ground up, as internet-native technology. To utilize crypto-parlance, the innovators decided to fork the world's financial system. However, the majority of global protocols continue to utilize existing rails. The reality is that bridges will need to be built to facilitate the interconnectivity and broaden scope of users. Opportunity exists for sleepy, value driven lower middle market companies that provide core technology to enable connectivity to the real world – payments, ATM withdraws, FDIC insurance, etc.
Focus on dead protocols, exploited contracts, licenses...
- Large block growth stage minority investments
- LP pool sponsor or lending pool delegate (Maple)
- L1 community endowment frontrunning (Avalanche, Near, Algo, etc.)
- Distressed open market acquisition and reposition (Sushi, Rune, SNX, YFI etc.)
- Non-performing assets and faded starts (Neonexus)
- Exploited contracts and token depression (Rune, Axie Infinity)
- User base acquisition
- KYC feature acquisition
- NFT Portfolio acquisition
- Product gateways ripe for acquisition (Zebec)
- Regulatory arbitrage via favorable court rulings (XRP)
- Charters and licenses for sale (Neobanks acquiring broker dealers, ie. Keystone Capital and Coinbase)
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