Cryptocurrency Investment Tokenomics is the economics of a cryptocurrency coin or token. I.e. all the features that make you want to invest in it. This is much easier to do with a good search engine. I’m sure you are thinking ‘hang on, Tokenomics, that will surely be in the Whitepaper!?’ and yes, you would be right but even better is to simply type “[coin/token name] tokenomics” into the search engine and see what pops up.
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Tokenomics is a bit of a broad term but it’s defined as the study of the factors that impact the demand and supply of tokens for a crypto project. We will look specifically for the following:
Initial Release Allocation
Another important consideration for cryptocurrency investment tokenomics is the threat that investors may dump their initial investment once their perceive their profit can be recouped. For instance, if an initial allocation of 10,000,000 coins was made to a venture capital company it may be that as soon as they reach a point that their original investment was recouped at a profit, they would look to sell all their tokens which may put pressure on the price and drive it down. A large number of institutional investors at the start of a new project is not good. It would be better to see a larger number of smaller, retail investors at the start so that you could be sure there wouldn’t be too much selling pressure once the project started to become profitable.
While we are on the subject, many investors will tell you that it is very important to take profits at the right time. That is, when it is profitable to do so. The hard part is determining when. You may be tempted to let your investment ride and hope that the price goes up a lot more. This is ok sometimes, but it’s good to get into the habit of getting a return on your investment as soon as feasibly possible. Some suggest that your investment strategy would be based on a % profit value that you should stick to. Such a percentage would be one that you would be comfortable with while still being realistic.
How the coin/token will be used? How useful to the world is this coin/token? If, for instance, you need to use this token to undertake a task that is important (to you or others) then the coin/token has a use case. If it is a store of value then it isn’t very useful as Bitcoin is pretty much covered by becoming ‘digital gold’.
Maybe it is simply a token to raise money – A project raises capital by creating a token that provides voting rights for the future of the project. That’s ok if you want to manage the activities as part of a Decentralised Autonomous Organisation (DAO) but not so good if you want to sit back and wait for the token/coin price to go up in value. You may, for example be expected to be more active and vote on key management decisions). DAO investments were quite popular towards the end of 2021 but are considered less so in a bear market.
When considering cryptocurrency investment tokenomics you should consider how you will interact with your investment and the project team. It is quite possible that you will be expected to regularly communicate with them and other investors to help shape the progress of the project and provide feedback. Most projects have a discord channel to help with this. In other cases you may have to pay regular fees to the project (e.g. with DEFI projects). Become familiar with the utility of the coin/token and make sure you are comfortable with how it will work at the start of the project and what your responsibilities will be as the project grows.
Inflationary or Deflationary?
Bitcoin (BTC) for instance is inflationary (it is minting new coins all the time) but the rate at which it is inflating is decreasing all the time until, in a hundred years or so, no more coins will be minted. Bitcoin is an engineered cryptocurrency with a fixed, declining inflationary rate.
There weren’t any Bitcoins until Satoshi Nakamoto mined one because of the proof of work activity (it’s like toiling all day in a bitcoin mine and getting paid for it in Bitcoin). Subsequent mining activity got much harder and the coins given out as a reward are fewer. As a result, the rewards are worth more. This is by design.
It is also worth looking at investing in deflationary cryptocurrencies since they have inbuilt mechanisms/processes to become more scarce therefore valuable over time. A good example of a deflationary crypto currency is Binance Coin (BNB) which uses the ‘Buy-back and Burn’ approach. Binance repurchase BNB coins periodically from their pool of investors and then send those coins to an un-spendable wallet address. Initially, BNB had a total supply of 200 million coins. The plan is to burn half of its supply. A recent burn (16th BNB burn) happened in June 2021 and a total of 1,296,728 BNB (roughly $395,000,000) was burned.
Generally, the more scarce the resource becomes following your purchase, the more chance it has of increasing in value.
What is the Circulating and Diluted Supply?
Circulating supply is simply the amount of coins/tokens that are publicly available to buy or sell. Diluted supply is the total expected number of coins or tokens that will eventually be released. The higher the Diluted supply, the higher the pressure for downward price movement since the asset will be less scarce over time.
As of April 2022 the amount of Bitcoin in circulation was 19,000,000. The diluted supply is 21,000,000, there will never be more than 21 million Bitcoins.
The bigger the difference between the circulating and diluted supply, the more chance there is that the price will lower over time. Scarcity is in important factor in crypto investment – there needs to be a very clear and believable use case for a currency to increase in value as more of it is minted.
Cryptocurrency Investment tokenomics isn’t an exact science and it’s unlikely that you would have positive answers to all the points above and this may be for many reasons. For instance, you may be unhappy with the experience of the team. Or there may have other niggling doubts.
In such cases, more research will help. It would be best, at this point to re-investigate the information gained in the Investment in Cryptocurrency – Due Diligence section, ‘What do others think?’
One of the best places to get more answers is to check the latest posts on social media and specifically, the project community. Key places to visit are twitter and Reddit (people love to hate in Reddit but there can be some good articles too). Ask questions in the Discord community if they have one. Don’t be afraid to google your questions, others may have had the same worries and published the answers you seek.
It’s important to mitigate your risks and not invest based on faith. Aim to be as objective as possible, don’t rely on gut feeling as it can be a fickle friend.
It is very rare that a project starts and finishes at the same time – That isn’t as silly as it sounds – Bitcoin, for instance started with only 50 coins and it wont finish minting until around 2140! Cardano had a very clear roadmap with set phases and milestones.
The phases of the roadmap are named after key science and literature figures. Cardano is seen by investors as a project that is based on important research and development decisions and careful planning rather that the quick exploitation of an idea. You can see this clearly in the Cardano project roadmap. The project is considered (despite it’s current performance problems) to be a safe longer term cryptocurrency investment. It’s future plans are clear.
Future plans may include a plan for additional use cases. It may be that the project (or community if they have voting rights for their token) may have plans to release one or a number of high value applications or hold a significant event (e.g. the burning of a large proportion of tokens etc.). Additional use cases and detailed future plans increase the case for investment (provided of course, that you believe the project team are capable of delivering them).
Cryptocurrency Tokenomics – Conclusion
These are just a few of what I would consider the most important tokenomics. There are many more and it would be better to pay particular attention to those that are important to you. I’m not an expert, but these are a good start. Can you think of additional tokenomics that would be important to you?
Most experienced crypto advocates recommend that you do your own research. Cryptocurrency is all new, I’m personally not convinced that anyone can say they are an ‘expert’. One of the worlds most respected scientific societies is the The Royal Society. I think their motto is useful when it comes to crypto investment, ‘Nullius in verba‘ meaning ‘Take nobody’s word for it‘.
Doing your own research is to help you consider (objectively) if the investment that you are about to make is worthwhile. You are trying to take the emotion away from the investment process and although much of the above seems laborious, it’s your money to lose. It’s up to you how much research you undertake. When it comes to crypto, try to aim for Warren Buffetts (famous US investor) investment principal; “Rule Number 1. Never lose money. Rule Number 2. Never forget Rule Number 1.”
Doing your own research is a no-brainer for all successful investors. Hopefully you have also read through and understood the first part, Cryptocurrency Investment – Due Diligence. I believe you will need to undertake both studies before making any profitable cryptocurrnecy investment.
In section twelve we will stop to briefly take a look at how governments and central banks want in on the action: Are CBDCs Good or Bad?
This article is copyright 2022 by Tony Fawl, CryptoNET.
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