Recently I was listening to the Top Traders Unplugged podcast and it mentioned a booklist of “more than 500” investment-related books that they maintain on their website. I’m always looking for new books to add to my Amazon wish list, which I use primarily for tracking books that I heard about once from somewhere and might someday want to read. Finding the list on their page was a bit tricky, but I eventually found the lead page where you sign up an email to get the direct link to the guide. Since the guide is their ‘free resource’ that they use to build an email list, I’m going to be polite and only share the lead page, not the guide itself.

List Design

Their guide is grouped by category. They put ‘Crypto’ first which I thought was an interesting choice; but then I realized it’s alphabetical. If you’re going to list 500+ books, alphabetical is a fine choice, because then you don’t have to establish a ranking system.

Within each section, the books are alphabetical again, and many titles appear in more than one section. Is it enough that their total count fails to exceed 500? I don’t know, I didn’t count!

The categories mostly made sense to me as relevant to the investment-process, although some categories are filled with books that are only tangentially-related (strategic self improvement).

Geopolitics and Natural Resources was filled with books that are on my reading lists from the Master’s Degree I am currently working through in International Affairs & Leadership, which made me think it’s a lot more relevant to investing than I thought. Maybe a pivot to geopolitical consulting for investors would be a better next step for me than a full pivot away from trading into the State Department.

The written descriptions for most books were word for word the blurbs from their Amazon pages. Each entry shows the title and mentions format availability, but it has no hyperlinks to either publisher websites or webstores. You still have to Google it yourself. If the title is too generic, use subtitles (actually I almost always got better results using subtitles) or include the author name in your search query.

Inclusions and Exclusions

The most notable exclusion that I spotted was Adam Grimes. Grimes’ “Art & Science of Technical Analysis” is the title I’ve been sharing lately when asked a “one book recommendation” question. There are others that are more approachable for beginners, but most traders would definitely benefit from it. I plan to read it again this summer and then publish a full post.

I could come up with more trading or investing books that were missed, but nothing else that made me wonder if it was intentional.

Lots of books were included that made me wonder whether any standard was set. This is the 7th edition of their guide. Maybe they made an initial list, and then started adding on whatever books their podcast guests mentioned or asked about them not including?

A few topics were extremely well-covered. The fall of Long-term Capital Management was important, but do we need every title on the topic? Warren Buffett is important, but every biography about him? I can’t complain too much on this one, though. It was a biography of Warren Buffett that first introduced me to finance in 1997 when I was 14 years old.

Not every investor biography is included, or even should be. Michael Steinhardt’s book is missing, for example. There is mention of him in the list because he is covered in one of the many “Market Wizards” books that made the list.

They also included several of their own books in the list. Fine, great! It’s hard to imagine writing a few books, then assembling a list of 500 books in genres related to your own work, and then not including your own books in the list. My only irritation was that their books seemed to be available only through their own website. Who self-publishes and then does not at least make it available through Amazon?

Free v. Expensive

There were enough books on the list currently “free” with Kindle Unlimited to fill out the maximum simultaneous borrow limit. It’s easy enough to get free or cheap Kindle Unlimited trials a couple of times a year that I think of Kindle Unlimited books as being “free”. Many titles were currently available as free listens with Audible, too.

For actually free, many of the books are on the short list that every library has on Libby. (Is there actually such a list? I don’t know, but it sure feels like it.)

The list also includes a few out of print titles that sell for hundreds or thousands of dollars. Some day I will find and read Margin of Safety, but I am not a value investor. $2000 places it squarely under “Not a Priority”.

Final Thoughts

All told, it was a list. It was a pretty big list. I don’t recommend reading them all (and I probably will not be), but it’s worth combing through to see which books catch your eye or which you can get for free through your local library.

If I make a recommended books list I would want to actually write recommendations for each of the books on my list (or at least my own descriptions). I have seen other lists, much more selective, that do that. On the other hand, a lot of the titles on the list are new to me, and some are nostalgic (books I originally read in junior high school when I first discovered finance) and worth reading again, but were not on my list anymore because I’ve already read them.

I came through the Terra collapse in decent shape financially, in spite of having six figures frozen in Mirror Protocol. The peg arbitrage was a once-in-a-lifetime lucrative opportunity. Still, it took a lot out of me emotionally, so I took the summer off. Then as fall came, I started to reposition, taking advantage of lows in various markets, and ran smack into the FTX collapse. OUCH!

I never used FTX, for the same reasons I never used MtGox back in the day. Some lessons we keep relearning? Or we face the same lessons again and again until we finally learn them.

Minor financial impact here, but then I positioned badly and overexposed myself to second rate NFT projections, instead of sticking to core bitcoin positions. I had an elegant system of assessing each position’s quality and allocating accordingly, and I violated it because I found a project I liked and wanted to be a ‘whale’. Never mix personal motivations with trading decisions? But in crypto it’s all mixed. Nothing is quite anonymous if you have enough size to be noticed.

Still, it felt like things were going well and I didn’t have to write. But actually it was burnout. I was burned out on crypto. I went too hard, too fast. Investing, trading, writing, still running projects on Hive and Steem blockchains. So I took more time off, assessing my life, enjoying time with my family, traveling.

The more time I took off, the harder it was to get back in. Crypto moves fast. I didn’t feel like I was up to speed, and without being up to speed, I didn’t feel like I had anything to say. Finally I realized I wanted to move on. Be a follower, dabble my toes in the water, focus on core positions like I did from 2012 until 2018, but otherwise remain disengaged.

But what of this newsletter? Pinned to the crossroads of crypto and finance, let it die?

As I found new enthusiasms and rediscovered old enthusiasms, my voice came back. I found that I have things to say, but they do not fit at the crossroads of crypto and finance. So I held my tongue. I had niched myself, and in leaving the niche, effectively silenced myself.

I am not okay with that.

As I find time and interest, I will update the branding for this newsletter. It will still be Savage Corner, but it’s not the corner of finance and crypto. It’s a corner in my mental space - a corner where there are polymaths, a corner where we can talk about whatever we want.

Welcome to my world. Stay if you like, leave if you want. I won’t be offended. I might not even look.

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Expected Value

When you have a range of scenarios with varying probabilities of likelihood, the expected value can help you evaluate whether something is worthwhile.

Investopedia defines expected value as ‘an anticipated average value for an investment at some point in the future.’

Well, that’s an eyesore! Simply put, you multiply the value of an outcome by the probability of that outcome occurring.

In the simplest example, imagine being challenged to a coin-flipping contest. You examine the coin and decide that it’s a ‘fair’ coin with equal probability of heads versus tails. For each coin flip, you put $1 into a bowl. If you flip heads, you win and get to take out $2, but if you flip tails, then you lose.

There is a 50% likelihood of total loss. There is a 50% likelihood of earning $2. The total expected value is ( 50% * $0 ) + ( 50% * $2 ) = $1

Since it would cost $1 to play, it could be a fun game (stop when you’re ahead!) but over long enough play, you’re not likely to earn anything. But what if you could play for $0.99? In that case, you would earn an average of $0.01 per game over a large enough number of games (this is how casinos make their money)!

You still need to think about proper bankroll management to avoid risk of ruin, but having a positive EV relative to the cost of each play means that you are likely to make money over time!

Shifting Probabilities

When economists claim that markets are efficient, they are claiming that all known information is factored into the price. In effect, the claim is that the probabilities are known, the values of outcomes are known, and the market price perfectly matches the expected value. Okay, sure. . . I think we all know by now that people are not so efficient in their financial decisions, and move as a herd to adjust probabilities and expected outcomes.

Even if were actually true for every possible moment in time, the probabilities of different outcomes are constantly changing, which can explain why market prices are constantly changing!

When key news items come out, the probabilities change dramatically. As I am writing this, we live in a pre-merge world for Ethereum. One could imagine the price as factoring in the probability of a successful merge, with some expected outcome value, along with the probability of the merge failing (or being postponed), with some expected outcome value. When the merge eventually occurs, the probability of further postponement will reduce to zero, and the probability of failure will also reduce steadily (there is a critical window right after the time of merge where the probability is still non-zero). It is unlikely that the humans evaluating the merge’s success/failure will update their models as quickly as the real probabilities are updating, so the shifting probabilities mean that the merge will not be priced in, even for a short period after its successful conclusion.

This same reasoning applies to all news events… and crypto is a fast-moving space, with a lot happening really quickly and no universal news coverage (though some have tried).

So Is It Easy?

If nothing is priced in, it is always possible to get an edge. You just have to have more accurate probability and outcome models than the market as a whole. That means staying informed, being nimble, finding the news sources that keep you ahead of the market. It means having solid mental models but also questioning them continually, poking at them for weaknesses, acknowledging your errors (Terra, oops!) and searching them for lessons. It means knowing when you are at your best and when you should be avoiding major decisions. Successfully managing an active portfolio is a full-time job!

Not everybody should be an active trader, speculator, or investor. If you’re not willing or able to do the work then passive strategies will serve you well. If you are willing and able, then the crypto markets are full of opportunities! I plan to keep writing about how to make the most of these opportunities. Please subscribe to learn from my experience.

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Not financial or tax advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. This newsletter is not tax advice. Talk to your accountant. Do your own research.

Disclosure. From time-to-time I may add links in this newsletter to products I use. I may receive commission if you make a purchase through one of these links. Additionally, the Savage Corner writers hold crypto assets and actively trade in certain markets.

No, actually, I completely botched it and actually lost money. Let’s walk through what happened.

The Setup

I wrote an overview about Mirror Protocol almost a year ago. Give that post a quick read if you haven’t been using Mirror Protocol, and then meet me back here…

Mirror’s governance decided to raise the minimum collateral ratio (MCR) for two mAssets, mSPY and mKO. It was previously at 110%, and was raised to 130%. That’s a level with greater safety for the protocol, but resulted in liquidations for any users with collateral ratios in that range. Since the liquidations would go through right at pre-market open after the change, there would be a big spike in mKO and mSPY trading prices, at a known time, for a very short window.

The Execution

Even though I knew that mKO had a lot more pending liquidations than mSPY, I split my position 60/40 between mKO and mSPY. Diversification, amiright?

I saw dollar signs, big payday, potential 25% move… so I locked all my mKO and mSPY into vaults, borrowed other mAssets against it, sold those into the market, and put on as much size as I could.

I had so much confidence in the trade that I took the 60% of my portfolio that I could liquidate easily and shift into this trade, and then levered it up 70%, so my total trade size added up to … 60% * 1.7 = 102% of my total portfolio. Highly confident, much size.

The Fallout

Pre-market opens at 4 a.m. in New York, and I was at my desk at 1 a.m. on the west coast, freshly brewed coffee, 3 hours of sleep.

Pre-market opened, liquidations start to go through, and both mSPY and mKO spiked 25%, exactly as expected. But I had only $4000 of mSPY liquid and had to work through all my vaults, one at a time, to fully unwind the rest. Got 20% premium on the first couple of trades, great start… trades on terra taking 20-30 seconds (compared to normal 3-5 seconds), not very helpful…

I get through about 1/3 of my vaults with an average exit up 10-15% from my entrance price, which is a great beginning. But by that point all of the liquidations have worked their way through the market, and everyone that took an unleveraged trade has taken off their profits and started shorting because they expect the mSPY and mKO prices to revert back to a small discount to Oracle.

I get through half of my vaults, and the mSPY and mKO premiums have completely disappeared. I’m now at breakeven on my mSPY and mKO pricing, but i’m still paying closing fees for my borrowing, along with slippage on buying in my short positions that I used for leverage.

By the time I unwind everything, I’m down 5% overall. Since I was levered up to 102% of my portfolio, that means I’m down 5% on the week, after a ‘perfect’ trade!

Summary

I broke all my rules, and I turned a “perfect” 25% setup into a 5% loss.

If I followed my normal risk framework, I would have had about 20% of my portfolio on the trade, made about 25% on it, and walked away with a 5% increase on my total capital base!

If I put in 60% of my portfolio, but with no leverage, it could still have been a juicy 15% gain on the week.

Lessons

• Lesson 1: stick to your risk framework

• Lesson 2: don’t overcomplicate it

• Lesson 3: don’t get greedy, it turns “smart” into stupid

• Lesson 4: leverage changes the risk parameters of a trade - make sure you fully understand the impact, or don’t use leverage

• Lesson 5: when a trade is still crowded, you have to time it perfectly or you can still get carried out

• Lesson 6: a “perfect” trade is always crowded. You are not the only smart person in the room.

• Lesson 7: aim small, miss small. Since you can’t time it perfectly, make sure that your size is manageable, so that you can at least get it close

Incidentally, I keep relearning Lesson 4… This should teach me something. Maybe I’m learning the wrong lessons from this. What do you think?

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Not financial or tax advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. This newsletter is not tax advice. Talk to your accountant. Do your own research.

Disclosure. From time-to-time I may add links in this newsletter to products I use. I may receive commission if you make a purchase through one of these links. Additionally, the Savage Corner writers hold crypto assets and actively trade in certain markets.

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How are you doing? Many of my followers are deeply involved in Terra and have fat LUNA stacks, so you’re probably doing great. The rest of you could still be down 30-40% from your portfolio highs…

But how do you know?

Track Your Performance

Whenever you trade, it’s important to regularly track your results against your expectations. Are you performing as you hoped, and how are you performing relative to the market you’re trading within?

I am religious about tracking my overall performance, updating all my accounts in a spreadsheet every week so that I have a clear picture of what is happening in my portfolio.

Looks pretty good, right? This is my portfolio level performance, starting one month before I went full time as a crypto trader and sometimes writer.

Break It Down

But wait… what’s happening here?

The stellar results across the rest of my assets were hiding a critical issue with this trading strategy. I need to evaluate what is happening with this strategy to determine whether it’s a temporary issue (great strategies sometimes perform poorly) or a permanent issue (strategy has no edge). If there is no edge to the strategy, then I need to either find a new strategy for these accounts or reallocate to better strategies.

Take Action!

Now that I know there is a problem, I can take action to improve my results in these accounts. Are you doing the same for your portfolio?

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Not financial or tax advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. This newsletter is not tax advice. Talk to your accountant. Do your own research.

Disclosure. From time-to-time I may add links in this newsletter to products I use. I may receive commission if you make a purchase through one of these links. Additionally, the Savage Corner writers hold crypto assets and actively trade in certain markets.

Are you on the train, or do you feel like you’re missing out?

What game are you REALLY playing?

It’s amazing that blockchain enables you to own your in-game assets and currency, facilitating markets that are external to the game itself. There has always been a meta-game around any multiplayer game — meta-game is the ‘game around the game’. I was taught that “any workplace with three or more employees has office politics: if you think yours does not, it’s because you are losing.” 

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Gaming is the same way. Every multi-player game has a ‘meta-game’ around it… cultural norms about different play-styles, shifting norms in which classes are considered more powerful, and usually politics between various factions, guilds, or alliances that often transcend individual games, as players join each other across multiple gaming platforms.

The two-tier system (internal game design, external markets) ratchets up the meta-game to a whole new level. Before you get into #playtoearn and start turning your passion for games into hot new digital cash, it’s time for some introspection.

Are you going to play the actual game, or are you going to play the meta-game? You have to know the rules to do well in any game, so you really need to know which game you’re actually playing, and which rules to focus on.

A Game of Markets

Whether you focus on playing the game itself, or the meta-game, you are subjected to market forces. In effect, if you play the game you’re also playing the meta-game, but you can play the meta-game without playing the actual game (although playing the game can help you with the meta-game).

The core idea of #playtoearn is that you can receive valuable rewards for in-game actions. You can drive up the value your gaming time can generate by investing NFTs for the game that help you optimize your performance in-game. Earning money for playing a game you love is a cool idea, but blockchain games are subject to global market forces. This means that the base value for “grinding” within a game will be driven down to the level of sustenance wages in the poorest country where the game gains popularity. You can usually improve this by choosing the right in-game optimizations, but if you live in a comparatively rich country, the base value will be too low for you to live on. But don’t despair, the real money is in the meta-game!

Evaluating new projects

Think about this: if I’m playing to earn, or investing into game assets, who am I going to sell them to? Every sale has to have a buyer. 

I always start by playing the actual game at least a few times, and ask myself some quick questions:

• Is it fun to play? 

• Is there any depth or strategic complexity? 

• Can I imagine casual players wanting to fork up a few bucks each month to do better within the game itself?

There need to be players that are playing because they enjoy the game, not just playing to earn. If every player is just trying to make money, then the game is just a Ponzi in a pretty wrapper! There may still be profitable strategies, but the risks are higher and the potential is lower.

You can’t have a healthy #playtoearn game economy without some #paytowin game mechanics, but the game needs enough strategic complexity that it can be fun without #paytowin… so that casual players can enjoy without it being a money sink.

In-depth Guides

The next thing that I look for are in-depth guides. These might not be available yet if a game is brand new, but there are usually some available if the game has been out for a while. Conveniently, a friend of mine published a fantastic example while I was working on this article.

In-depth guides help you to see the relationships between the game and the metagame. They help you to evaluate whether a game is likely to have enough complexity to attract and retain more casual players. Finally, they give you a starting point for which in-game assets might be the best investments.

Pro tip: When you find great in-depth guides, check out what else the author is writing about, and follow their future work. This is a great way to find more blockchain games where you might be able to get an edge in the meta-game!

Market Maturity

Finally, I want an understanding of where the game is in its adoption cycle. I wrote two weeks ago about inflation and tokenomics. When it comes to blockchain games, the biggest returns come when the player-base is growing faster than rate at which the game tokenomics can make new game assets available. Unmet demand will drive prices up. 

When growth slows down, the inflation of in-game assets will start to drive prices down until the game reaches a more mature equilibrium. It can also be useful to build up large positions during equilibrium stages, in anticipation of future growth … just realize that’s a longer-term investment and plan accordingly.

So you found a Good Game… now what?

Most blockchain games have some blend of in-game currencies, NFTs, and governance tokens. The categories may also be a little blurry… if governance tokens have in-game benefits, or if NFTs provide boosts to governance token staking rewards, etc.

The strategies here are going to be very game-dependent. Ideally, I like to see independent markets for both in-game currencies and NFTs. If the game only has NFTs, but no in-game currencies or governance tokens yet, that’s even better! The team may be planning a big token release for once they hit certain growth metrics, and airdrops can be fantastic for boosting the value of your in-game assets!

Finally, changes to the game mechanics can affect the value of assets. Actually playing the game, following the sentiment of the Discord or Telegram groups, and finding good game guides can all help you figure out if something is overpowered or might be nerfed. If something gets nerfed, its value will likely fall. Don’t buy OP assets! 

At the same time, if something gets nerfed then the game equilibrium will shift and assets that are underpowered now might be more balanced (or even overpowered) after the changes. Predicting which assets will benefit from changes to game mechanics can be very profitable.

Conclusion

Finally, remember that it’s all a game! Even if you’re playing the markets meta-game and trying to make money, it’s still a game. Sometimes you win, sometimes you lose. Even with a good system there are mistakes, variance in results, and unexpected events. 

Keep your investments within your risk plan, and keep your risk plan in alignment with your lifestyle and circumstances. Please subscribe for more great content, and forward to a friend or three!

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Not financial or tax advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. This newsletter is not tax advice. Talk to your accountant. Do your own research.

Disclosure. From time-to-time I may add links in this newsletter to products I use. I may receive commission if you make a purchase through one of these links. Additionally, the Savage Corner writers hold crypto assets and actively trade in certain markets.

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Competing Agencies

The most complicating factor of regulation in the United States comes from the complexity of its design. There are state regulations and federal regulations. At the state level, states can choose to enact ‘Uniform Code’ which gives them all the same laws, or they can opt for more stringent or more lenient laws on almost anything. Any financial product that is trying for full regulatory compliance has to comply with local regulations in every state where they want to do business.

At the federal level, there is a whole alphabet of three-letter agencies with differing responsibilities and claims to jurisdiction. This enabled crypto to grow in the shadows, as it took time for agencies to become aware of it, and then even longer for them to claim jurisdiction. Since Defi enables so many different types of financial constructs, it now means that many different agencies are claiming jurisdiction. Projects need to be aware of all potential jurisdiction claims, and what the enforcement tools are for the different agencies. The gorilla in the room is the SEC, so that’s where I’m going to focus.

https://www.sec.gov/

SEC: Everything in crypto is a security

The law gives the Securities and Exchange Commission (SEC) the authority to write the rules for securities and exchanges. They can bring enforcement actions against anyone doing business with U.S. citizens. That means lawsuits and court cases. If a project has anybody based in the U.S. they can be served (ordered to appear in court) and be arrested if they fail to appear.

Since the SEC has jurisdiction over securities, they have to start by proving jurisdiction. In practice, they prove jurisdiction to themselves and then act accordingly. If you disagree (like in the XRP case), you start by making the case that you’re not actually a security. If you can prove that, then they don’t have jurisdiction and the rest of their case goes away… as long as there is no fraud or other elements that other agencies will pick up instead.

The framework for identify whether something is a security is based on a court case from 1946 that interprets wording from the Securities Act of 1933. Innovation in the 21st century is governed by a 75-year old interpretation of 88-year old laws.

Under the Howey Test, a transaction is an investment contract if:

It is an investment of money

There is an expectation of profits from the investment

The investment of money is in a common enterprise

Any profit comes from the efforts of a promoter or third party

A project has to “pass” all four parts of the test, and if it does then it’s a security! Ironically this means that in claiming jurisdiction, the SEC could only begin enforcement in DeFi by conceding that cryptocurrencies are money. I’m not a lawyer, but I anticipate seeing defenses that challenge that… since the SEC doesn’t get to define cryptocurrencies as money, and the IRS has defined cryptocurrencies as definitely NOT money. Thanks to a hodge-podge of badly written laws it’s possible for them to both be right.

Expectation of profits is where the focus on “security tokens” versus “utility tokens” comes from. If the issuing entity only talks about the utility of their token and never mentions that it could go up 1000x, are they in the clear? Since Gary Gensler thinks that everything is a security, probably not. I anticipate a lot of defenses on this one too.

Common enterprise basically means that investor pool their money. So this is every DAO and most other protocols, but maybe not NFTs? Unless the NFT raises money for a DAO and gives voting rights in the DAO. What if the NFT was “free” to mint but a DAO forms around it and is funded by secondary market transactions on the NFTs issued? Still lots of room for interpretation here.

Efforts of a promoter or third party… If a DAO is small enough that every ‘owner’ is actively involved, then it might be defensible on this one. If it’s large enough that the majority of owners don’t do anything other than hold the governance token, it would probably still pass. 

The SEC focuses on the substance (the underlying economic realities), rather than the form (how you carefully structured it or avoided certain words/phrases). They claim that everything they see is a security, but they can only enforce using the U.S. courts. If a project is truly decentralized and has an anonymous team then enforcement is more of a challenge.

SEC: The Rich Play by Different Rules

Finally, the SEC mandate is originally preventing harm to American citizens. To that end, they created a parallel rule-set called “accreditation”. When something is clearly a security, it can play by less restrictive rules by only accepting investment from “Accredited Investors”. Until last year, accreditation only meant rich. The theory is that if you have a high enough income or net worth, then you are less vulnerable to being ‘preyed upon’ by unruly security issuers. Even if you invest stupidly and lose everything, you’re more likely to have a safety net in place of some kind.

In 2020, the definition was expanded to include ‘qualified persons’ — you can now become accredited by getting the right credentials. But the only credentials that count are certain FINRA licenses in good standing. These come from working for TradFi brokers that sponsor you for licensing. You cannot get a FINRA license on your own; there has to be a sponsor! It’s a tiny step in a positive direction, but there needs to be a much broader process that allows you to become accredited independently.

Limiting the Playing Field

Many DeFi projects have chosen to limit their legal exposure by avoiding the U.S. DYDX uses geo-fencing to exclude anybody from the U.S. from using their protocol. Gods Unchained limits the IMX airdrop to non-U.S. persons. Uniswap delisted ‘synthetic assets’. Other DeFi projects accept that they are securities and enforce accreditation. RealT only allows whitelisted addresses to interact with their tokens. 

These attempts at compliance can come across as heavy-handed, and make Defi more complicated for everyone involved. They have also had the result of “protecting” U.S. citizens from receiving some very valuable airdrops. There is a general perception that enforcement actions are not actively protecting anybody!

Risk Management

I don’t love the SEC approach, or the elitism of their accreditation. They choose to enforce old laws using the biggest sticks, instead of providing clarity and letting projects know when they might be okay. It casts a heavy shadow over all of crypto, because it’s impossible to know whether a project is actually ‘legal’ or not. You may stick with the most obviously ‘non-security’ projects out there, and still find that they lose massive value at some point because the SEC brings an enforcement action.

A more common approach to regulatory risk is diversification. If every project could potentially be targeted by the SEC, but they don’t have the resources to target everyone, then investing in a wide range of projects limits your exposure to individual enforcement actions.

Summary

U.S. regulation is complicated, confusing, and outdated. The biggest enforcer is the SEC, but they follow old frameworks and mandates and refuse to provide clarity. Instead they claim total jurisdiction (“everything is a security”). Until they lose some landmark cases, there is unlikely to be additional clarity. The rich play by different rules, and effective risk management around SEC threat is challenging.

I waffled back and forth around whether this should be a “summary” or a “conclusion”. When it comes to U.S. federal regulations, you can’t safely summarize because it’s too complicated, There are no conclusions because the SEC won’t provide clarity and Congress has other priorities.

The best you can do is try to manage your risk. But that’s what finance is all about, right? Be safe out there!

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Not financial, legal, or tax advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. This newsletter is not legal or tax advice. Hire professional advice. Do your own research.

Disclosure. From time-to-time I may add links in this newsletter to products I use. I may receive commission if you make a purchase through one of these links. Additionally, the Savage Corner writers hold crypto assets and actively trade in certain markets.

What is Inflation?

Within ‘Orthodox’ (actually neo-classical — why do they get to decide what is orthodox?) economics, inflation is typically defined as the rate of increase in prices over time. Within the context of a national economy, there are close relationships between the monetary base and price levels. In some heterodox economics schools, such as Austrian economics, inflation is explicitly defined as expansion of the monetary base. The monetary base is the total amount of money circulating in the economy. There are several ways of measuring the monetary base, which makes the debate particularly challenging. If your opponent claims there is no relationship between monetary base and inflation, you accuse them of measuring the monetary base incorrectly! 

The actual monetarist argument is more nuanced:

Monetarist theory is governed by a simple formula: MV = PQ, where M is the money supply, V is the velocity (number of times per year the average dollar is spent), P is the price of goods and services and Q is the quantity of goods and services. Assuming constant V, when M is increased, either P, Q, or both P and Q rise. — Investopedia

This means that as long as money moves through the economy at a consistent rate, an increase in the monetary base will result in increased prices, increased output, or some combination of the two. Constant velocity worked as a fundamental assumption for many years ….

A Joke

I heard this joke when I was studying economics as an undergraduate student:

An engineer, a chemist, and an economist are stranded on an island. After some days, a crate of canned goods washes up on shore. They begin discussing how best to access the food. The engineer starts talking about banging rocks together to get a sharp broken piece that can be used to open the cans. The chemist wants to put them over a fire so the building pressure within the cans will cause the metal to warp and break open the seals at the top. After listening a few minutes, the economist interrupts: “You’re going about this all wrong!! First, assume that we have a can opener…”

It is common for economics arguments to depend on assumptions that don’t stand up to scrutiny in the real world. Can you really hold velocity to be a constant?

The Milton Friedman quote that we opened with is from a 1970 paper. In the decades around that argument, holding velocity constant (within a relevant range) was a reasonable assumption. In the last decade, the assumption has completely broken down. This allowed for a rapid expansion of the monetary base with minimal price inflation —but  notice the sharp angle changes during in 2009 and 2020.

Inflation and Bitcoin

Bitcoin was originally released right as the expansion of the U.S. monetary base accelerated in the ‘great financial crisis’. The dominant narrative for much of its life (particularly since the latest halving) has been an anti-inflation argument:

Fiat money will continue to expand its monetary base over time. The pace at which bitcoin’s monetary base expands is now slower than the pace at which USD monetary base expands. Over time, these differences will result in a rising bitcoin value (bitcoin is a superior store of value to USD, and likely a superior store of value to gold).

Leading up to EIP-1559, Ethereum has begun to carry this same narrative. Burned transaction fees could result in a decrease in Ethereum’s monetary base, making ETH an ‘ultra sound money’ compared to bitcoin’s slowed monetary expansion, which is only ‘sound money’.

If MV = PQ, then the lack of price inflation from the recent hyper-expansion of the USD monetary base is only because of the record low velocity of money. If monetary velocity picks up, we could move into a hyper-inflationary price environment even if there is no further expansion in the monetary base! This seems to strongly support the long-term HODL thesis that underlies the crypto markets.

What about Tokenomics?

Individual crypto projects have their own release and distribution schedules, commonly referred to as “tokenomics”. Since tokens are not the established currency of national economics, we need to think about variations of MV = PQ. 

• M is still the monetary base, but now we are looking at the total tokens outstanding, and their token emission plans. (Market capitalization). While some tokens are “locked”, I would argue that all tokens that have been created are the current monetary base. Inflation in crypto discussions almost always refers only to M- the rate at which new tokens become available.

• V continues to represent velocity… the rate at which tokens normally change hands within a community. This is where time-locks and staking strategies come into play. ‘Locked’ tokens slow the overall velocity for a particular crypto ecosystem.

• PQ together are a measure of economic activity. Price times quantity, of goods the token is used for. We’re looking for utility… what usefulness does the token actually have? Even though we know the primary use of every cryptocurrency is speculation.

When demand for a token, for either ‘utility’ or speculation, exceeds the rate at which new tokens become available, MV — monetary expansion or increase in velocity (tokens coming out of time-lock) the token price will increase.

When demand falls to below the MV — too much monetary expansion, or too many tokens coming out of time-lock, the token price will decrease.

Fundamental analysis closely looks at tokenomics and anticipated utility (long-term factors), with less attention paid to speculative adoption. Technical analysis focuses on price action, using various analytical tools, under the assumption that all speculative and utility demand is incorporated into the price.

Summary

Inflation narratives drive the ‘macro winds’ that push the whole cryptocurrency market along. On a micro level, the inflation of tokens for particular projects is a dominant factor in their individual token performance. Adoption of any token has to continually outpace that token’s release schedule (colloquially “inflation”) in order for the token to have upward price movement. Projects with ‘good’ tokenomics may be more resilient to sudden changes in speculative demand, because there is ‘utility’ demand.

Understanding the macro inflation narrative, along with individual project tokenomics can help you better assess and manage the potential risks of your crypto. In the long-term, better risk management usually results in better outcomes!

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Not financial or tax advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. This newsletter is not tax advice. Talk to your accountant. Do your own research.

Disclosure. From time-to-time I may add links in this newsletter to products I use. I may receive commission if you make a purchase through one of these links. Additionally, the Savage Corner writers hold crypto assets and actively trade in certain markets.

Having a toolkit of boring “fundamentals” gives us the capability to get a much deeper understanding of everything else that is happening. It gives the capability to swim with the currents instead of having our faces torn off by the undertow.

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We had a negative event in crypto on Tuesday, and prices plummeted for many tokens. What happened?

It is not always easy to know the triggering event for a flash crash. In immature markets, the action of a single individual can cause it. Actions of whales can have sudden, unexpected impact. But even without knowing the initial trigger, we can know what will happen next.

Pressure on the Order Book

Most of the depth in an order book is provided by market makers. As we saw in ‘Order Books and Market Makers’, the trade volume available within 2% of the spot price can sometimes be incredibly small. A single whale can put pressure on the order book intentionally (or accidentally, in the case of a ‘fat finger’ mistake — when a trader mistakenly pushes two keys instead of one and their total is 10x or more larger than they intended) by trading through all of the liquidity available within 2% of spot.

Two weeks ago, I wrote “the market maker time-frame is very short-term, and it is considered ‘inventory risk’ to get caught holding something for an extended time period”.

To protect themselves from inventory risk, many market makers will have ‘hidden stops’. These orders don’t appear on the order book, but are triggered by prices reaching a certain range. These may be placed manually from the trader reviewing the order book (or the chart) and setting stop orders below critical support points, or they may be calculated automatically by the trader’s algorithm. Either way, when the whale puts enough pressure on the market, the market makers bail. The further you get from the ‘normal’ price before the event, the fewer market makers there are continuing to provide liquidity.

Like market makers, savvy speculators use stop orders to protect themselves from losses, or to lock in gains as soon as a trade begins to move against them. These put even more pressure on the order book.

Liquidations

When you have a tiny “edge”, you amplify it with large amounts of leverage. Speculators and arbitrageurs usually trade with as much leverage as their risk models permit. Since arbitrage is theoretically ‘risk-free’ positions, that means as much leverage as they are permitted…

 Apply enough pressure, and leveraged traders begin to face margin calls. In traditional finance, it is common for brokers to offer the trader an opportunity to post more capital before liquidating a position. The larger the losses faced, the more likely it is that the broker begins liquidating without giving the trader any opportunity to deposit more money.

In crypto protocols, there are collateralization requirements, and liquidation procedures are usually triggered automatically when requirements are breached. That can lead to immediate liquidations, or to liquidation ‘auctions’ where a position is seized and sold to the highest bidder.

These liquidation events put even more pressure on already thin order books, and sometimes the market just… kind of… buckles? And that’s a flash crash.

Concentrated liquidity (order books or UniV3) makes it harder to cause a deliberate flash crash, but distributed liquidity (most liquidity pools) makes it easier to soak up the subsequent liquidations .A blend of concentrated liquidity and distributed liquidity is probably the healthiest market structure — and DeFi is really good at providing this liquidity blend… it just isn’t big enough yet to stand up to bully whales.

Taking Action

Knowing that these events will continue to happen, how can you protect yourself? Or better yet, how can you prepare to take advantage of these events?

First, what kind of trader are you? Long-term market cycles in crypto tend to be ~4 years from peak to peak, due to the regular bitcoin halving. If your intended hodl time frame isn’t at least 4 years, you may need to think like a speculator instead of an investor! If you are a long-term investor, then buying into crashes can be an amazing opportunity. I have seen the spring 2020 crash described as “generational” opportunities — the rare chance to invest into a big dip can lead to outstanding returns… the kinds of returns that build generational wealth.

Second, consider mean reversion v trend. Since it can change the prevailing mood, a flash crash can be the first domino, tipping a froth market into a long-term decline. Know whether you are better at trading mean reversion or better at trading trend, and how your system is impacted by flash crashes.

Third, are you still using market orders? If you plan in advance what your approach will be to protect yourself and take advantage of flash crashes, you can beginning using more sophisticated trade types. You can use stop orders to protect yourself (or sophisticated trading programs that submit orders on your behalf when your conditions are met). You can submit lowball orders to dex aggregators like matcha.xyz. If there is a liquidity event, your lowball order eventually submits to the most impacted Dex as a market order, and you get deeply discounted coins at the fire sale, even if you are sleeping!

My Approach

I find it helpful to trade across different time frames. I have short term positions with sensitive stops that move me to the sidelines early in the liquidation cycle. I add to long term positions as the flash crash deepens. When the flash crash is over and a new trend becomes clear, I bring my short term capital off the sidelines and start actively trading again. Part of my response is planned in advance, as described in step 3 above. 

Since I’m full-time crypto now, most of my approach is reactive… as things begin to happen, my automated trades spring into action and my phone goes off with alerts. I hope to my computer and start evaluating markets, looking for where new trends have emerged (or where the longer term trend is intact and I think I can safely trade the reversion and then ride it into the next uptrend). I hope into a few discords and see what protocols are breaking and where liquidations might lead to more opportunity in the cover. In effect, I’m trying to proactively turn every flash crash into a generational event.

Conclusion

Understanding what is happening in the markets helps us to make better decisions. We referenced several weeks worth of “fundamentals” discussions to map out what happens in a flash crash, how to protect ourselves, and how to profit from it.

My hope is that you can see why I focus so much on fundamentals. If any paragraph didn’t make sense to you, click to the previous articles and review those first. If you’re still struggling, please comment and let me know which points are not clear enough. 

I love finance, and I love helping others to understand and appreciate its complexity! If this helped you in any way, please subscribe and share it with others so we can all get rich from DeFi together.

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Not financial or tax advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. This newsletter is not tax advice. Talk to your accountant. Do your own research.

Disclosure. From time-to-time I may add links in this newsletter to products I use. I may receive commission if you make a purchase through one of these links. Additionally, the Savage Corner writers hold crypto assets and actively trade in certain markets.

Using Decentralized Finance (#DeFi) yield aggregators is a way to make compound interest work for you. 

(If you need it, check out our previous explanation of simple and compound interest)

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What is a Yield Aggregator?

Initially popularized by YFI, there are tons of yield aggregators available. An aggregator lets you invest into yield farms on other platforms, and then automatically sells the yield farming rewards and reinvests them into the yield farm. This regular compounding could give you a total return substantially higher than the base APR of the original yield farm. In addition, many aggregators will also give you their own yield farming token.

What can you earn?

With a yield aggregator, there are basically four sources of potential returns.

1) The investment returns (gain or loss) on the core positions. In two asset pools, you will be impacted by the token price action on both sides of the pool. You may also experience some “impermanent loss” (IL) if one side significantly outperforms the other. IL is effectively the opportunity cost of being in an LP instead of holding the asset individually — as one side of the pool begins to trend, you gradually sell off your holdings, leaving you with a big bag of the underperforming token. In my experience, the price action of the tokens in the pool is actually the dominant factor — a crashing token price will leave you with a big bag of worthless tokens, even if you’re collecting a high APR on the position.

2) LP fees. In a multi-asset pool, traders pay a swap fee to trade between assets in the pool. On Uniswap v2 (and most other swap markets), the trade fees are 0.30%. If there is a lot of trading activity in the pool, the potential return just from LP fees can be substantial. Without a lot of trading volume, the LP fees might be insignificant.

3) Yield farming rewards. As projects get started, they frequently offer liquidity incentives (yield farming rewards) in their own protocol token. The yields for yield farming depend on how much TVL has been collected, along with the inflation rate and token release schedule (tokenomics) of the project. It’s important to remember that yield farming rewards indicate the token is inflationary, so the token release schedule may also impact your price action (back to item 1). 

4) Yield aggregator farming rewards. Many yield aggregators will include their own token as an incentive to attract users. Project tokenomics are relevant here too, but now you have to consider the tokenomics for the yield aggregator. That’s a lot of tokenomics to consider! In addition, the yield aggregator might include lock-in periods before the rewards can be unstaked. You might be seeing a high APR now, only to have the tokens plummet in value before you can sell them. In the example shown below, your APR at almost every period was overstated, because the tokens were worth substantially less by the time you could sell them.

What does it cost?

Fee structures are as diverse as yield aggregators. They come in five basic flavors.

1. Deposit fees. These are common with mutual funds in traditional finance (TradFi) and are called ‘load’ fees. These are front-end fees taken out of your deposit. If you deposit $100 into an aggregator with a 4% deposit fee, it immediately takes a $4 cut and only puts $996 to work for you.

2. Withdrawal fees. These come out the back-end… the yield aggregator might put your money to work right away, and then take a big cut when you cash out. Both deposit and withdrawal fees can add up quickly if you’re jumping around a lot, chasing yield.

3. Management fees. This is a regular cut from the assets in the pool. While management fees are common in TradFi, I have not seen them popping up much in DeFi. If you have see an unfamiliar fee, it could be this (or point me to the documentation and I can figure out what type- maybe a new flavor of fee I haven’t seen before?)

4. Performance fees. Since the yield aggregator is claiming your rewards from the yield farm, it’s easy for it to divert a sliver of them to its own treasury (either DAO-managed or waiting for founders to rug pull). These are usually assessed only on the rewards from the yield farm.

5. Token transfer fees. These are pretty uncommon, but I have seen them popping up more frequently lately. In my honest opinion, they are designed to take advantage of ‘easy money’ — the “degens” that ape into everything without looking. Token transfer fees can ‘tax’ your holding every time you trade or even transfer the token. Definitely something to avoid if you move your money around frequently.

It’s quite possible for a yield aggregator to assess all 5 types of fees, and have them add up to a chunky portion of your total returns. Always dig into the documentation (or read the smart contracts) to get a clear idea of fees before jumping in.

Conclusion

Yield aggregators are a great way to make or lose a lot of money very quickly. As there are several different sources of return, and several different types of fees, the tokenomics around yield aggregators can be incredibly complicated. If you are good at reading the price action, disciplined in your approach, and good at checking for read flags before jumping into a project, they are a powerful tool. They make it ‘easy’ for new DeFi investors, but ‘easy’ doesn’t inherently mean profitable. Take your time to get comfortable with projects before aping in, or limit your positions sizes and be prepared to take a lot of losses for each win.

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Not financial or tax advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. This newsletter is not tax advice. Talk to your accountant. Do your own research.

Disclosure. From time-to-time I may add links in this newsletter to products I use. I may receive commission if you make a purchase through one of these links. Additionally, the Savage Corner writers hold crypto assets and actively trade in certain markets.

What Kind of Trader are You?

I think of trader types as being on something like a specturm; it’s oriented along timeframe. In my risk framework, we discussed diversification versus focus. Then a few weeks ago we talked about mean reversion and trend. Along each of those dimensions we can also apply timeframes. 

When we apply the dimension of time-frame, we start to see a division of trader types into four broad categories. Understanding what type of trader you are can help you clarify your research, focusing on things that add value to your particular style of trading.

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Investors

The first category is investors. Investing tends to be long term, and investors tend to be fundamentals driven. The intent is to participate in the long run success of an enterprise, or to capture specific designated cash flows (in the case of fixed income investors). Investors are always directional —  they have an investment thesis that a stock will benefit from the success of the underlying business. 

In the case of crypto, if you ignore shorter time price movements, but HODL for the long term to benefit from the inevitable success of your chosen projects, then you’re an investor.

Speculators

The majority of traders think that they are investors, but are actually speculators. If you pay attention to price in any meaningful way, trying to time entries and exits, then you’re a speculator. 

Speculators are directional traders - you expect price to go up so you buy. You expect price to go down so you sell short. Speculators tend to be shorter term. Rather than focusing on the long term success or what the potential cash flows might be, a speculator is looking to capture changes in price based on particular events that are going to play out over a particular timeframe.

You could buy bonds because you need the cash flows every year, and that makes you an investor. Or you could buy bonds because you think the interest rates are about to go down, and if interest rates go down the price of bonds will go up. You’re speculating that the price of bonds is about to change, and that makes you a speculator.

Market Makers

Market makers maintain an inventory so that they can continually update trade offers on both sides of the spread. If you read our discussion on order books and market makers from two weeks ago, you may recall that Liquidity Providers (LPs) in decentralized exchanges (DEX) are also market makers.

Market makers in order books typically use trading algorithms to adjust their orders automatically and keep offers on both sides of the trading book. Since they are about profiting from trading volume (capture the spread as many times as possible in a given time interval) the market maker time-frame is very short-term, and it is considered ‘inventory risk’ to get caught holding something for an extended time period. LP’s in a DEX also face inventory risk, but in DeFi it is usually referred to as ‘impermanent loss’ (IL).

In both DeFi and traditional finance (TradFi), there may be offers in place to encourage market makers to support liquidity in particular markets. In DeFi, yield farming incentives for LPs are quite common, but LPs would usually earn a share of trading fees as well. In TradFi, liquidity providers pay lower trading fees and may even earn trading fee kickbacks. The incentives they receive are tied to either trading volume or order volume, depending on the incentive program.

Given the composability of DeFi protocols, investors in multiple tokens may become market makers and use yield farming programs to capture cash-flows on positions that they are otherwise holding for the long-term. There is some IL risk still, but if you are bullish on all of the tokens in a liquidity pool (BANK-ETH for example), then keeping your holdings balanced to a target ratio while being compensated with yield farming rewards can be an effective strategy.

If you are NOT bullish on all the tokens in an LP, then market making requires very active management. A quick drawdown in one token can quickly erase months of yield farming rewards! 

A few weeks ago I posted about Mirror Protocol. The most common strategy engaged in by people using Mirror Protocols is a market maker strategy called ‘Delta neutral’ yield farming. ‘Delta’ is a measure of your exposure to directional moves in the underlying asset, so ‘delta neutral’ means that you have balanced your long and short positions to minimize market risk and capture liquidity rewards. 

Arbitrage

The idea of arbitrage is that you take opposite sides of a position, usually on different exchanges (or opposite sides of a closely correlated position) with the expectation that a mispricing will be eliminated. When the mispricing is eliminated, you can capture the profit. Arbitrageurs are actually timing agnostic, but they would prefer a quick turnaround to free up their capital for other arbitrage trades. In arbitrage, you’re not directional, you are expecting a mispricing to correct itself and hedging your bet so that you can ride out whatever timeframe it takes for the mispricing to correct itself.

In crypto markets, the most common type of arbitrage is taking advantage of mispricing events between exchanges. Because crypto tokens are traded on so many different exchanges, there are often pricing differences between exchanges. If you just buy on one and sell on the other (or short if you don’t have any inventory), then you can benefit from those mispricing events. 

Conclusion

We can see that time-frame and intent have a big impact on what type of trader you are. When you consider mean-reversion, trend, and risk management in light of different time-frames, you see that there are an unlimited number of potential strategies. That makes trading super interesting and fun because there’s always more to learn!

Finding a trading style that works for you is just as important as finding a trading style that works. Period. There are lots of trading styles that work, but not every trading style that works will work for you. It depends on your circumstances, available capital, and personality.

I hope that you have found this informative, entertaining, and educational! If you did, please subscribe, share on social media, and forward to another trader - whether investor, speculator, market maker, or arbitrageur.

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Not financial or tax advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. This newsletter is not tax advice. Talk to your accountant. Do your own research.

Disclosure. From time-to-time I may add links in this newsletter to products I use. I may receive commission if you make a purchase through one of these links. Additionally, the Savage Corner writers hold crypto assets and actively trade in certain markets.

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Order Books

If you take all of the limit orders that have previously been submitted, there will be a bunch of ask orders (an ask is an order to sell) above the current price. Then there will be the current price, and a bunch of bid orders (offers to buy) below the current price. 

 The price of Bitcoin shown here is ~46650. There are ask orders where people are lined up to sell Bitcoin. Some at 46650, and someone else at 46655, and so on, with more bitcoin available the more you are willing to pay. Then below that people have placed bids to buy at 46649.99 on down.

How much is available on the order book right now is called Market Depth. So Market Depth is basically, “how much can I buy or sell without moving the market?”

In an orderly market, there will normally be similar market depth to both long and short. When it becomes unbalanced, there is some likelihood that the price is about to move quickly to a more balanced equilibrium.

Checking Market Depth

When you evaluate trading opportunities, it can be helpful to check the market depth first to determine whether it’s good for the size of trade you want to make, or to appropriately size your trades for risk management.

I can look up any trading pair on Coingecko; let’s say that I look up BTC/USD. It will show me the depth on each exchange; how much I can buy or sell without moving the market more than two percent. Two percent is a lot for Bitcoin, but for a lot of the smaller tokens, it moves two percent in 30 minutes or an hour. The reason why is because there actually is not very much market depth. 

What if the market depth is only $1000 at the two percent mark, and I want a $2000 position? I can either go with $1000 and wait for it to go back down (because I push the market up and other people say “no” and push it back down) or I could just go in the whole $2000 and hope that my order goes through without getting front run by bots that push up the price ahead of my order getting filled.

Heavy Transaction Load

The first decentralized exchanges that were developed used order books. Building an order book exchange on a blockchain is kind of a hard problem. It’s transaction heavy. There’s a whole blockchain that is built for this called BitShares, and it’s very transaction heavy. You have to put in a limit order, and that order sits there on the order book waiting for a match. Eventually it will either expire or you need to cancel it. If you want to be a market maker, you have some bot that’s interfacing with the exchange and doing a lot of trades.

If I’m running a market-maker bot on Coinbase Pro, some months I might have 100,000 trades. If I’m doing 100,000 orders on a blockchain, that is a really high transaction throughput. The reason why being a market maker on an order book is so transaction heavy is because every time one of my limit orders fills, I now have this token that I want to trade the other side of. So I buy Bitcoin at 44,000 and I put an order to buy to sell it at 46,000. When that sells I put in an order to buy it at 44,000 and I flip back and forth as the market bounces up and down. And then I might have orders 10 or 20 deep on either side of the market. It could move plus or minus 10% and my bot will automatically adjust and do orders above and orders below. But that means that every time one of the orders fills it triggers my bot to do a new order on the other side.

And I’m not the only trader, right? There are lots of traders that are market makers that are doing a million trades a month. On a blockchain it very quickly becomes very transaction heavy, and is not necessarily the best solution. 

No Market Maker?

Another problem with order books is that to have good market depth you have to have active market makers. Market makers are not necessarily interested in making a market for every single token. Every project that releases a token won’t necessarily have the capability to run a market maker bot and make a market and maintain liquidity for their project. If I want to buy into this token that’s 1000 on the market rankings on CoinGecko, there might not be any liquidity for that token at all. 

I look at the order book, and it says well you know you can buy one at one cent. And you can sell one at $1. So is the price one cent or is the price $1? I don’t even know. I don’t, and neither does anybody else. If the spread is one cent to $1, there’s no way to know where are the “actual” prices. I put in an order at two cents, and itt was above the actual price — my order order is going to fill right away. I bought in at two cents and no one ever wants to buy it from me for more than a cent. I’ve already overpaid 100% for the token.

Or I put an order in at two cents, and it will sit there. I check back every couple of days and see if any of it filled. I actually want to get into this, so every couple of days I raised the price a cent. But if it’s a really thin market, no one is actively trading it. I’m raising the price, increasing my bid every couple of days to get into the position. I might shoot way past the actual price or the fair market price before somebody notices that I’m raising my bids every day, and comes in and sell some of it to me. Or they might notice and say “oh this guy is raising his bids every day I wonder how high he will go”. I get all the way to 99 cents and then they fill it at 99 cents. It drops back to a cent, because there’s no bids below mine, and then I can never sell it. I’ve overpaid 9800%. 

This is obviously not ideal, especially for the long tail of thinly traded assets, where you can only get a couple of thousands dollars worth without moving the price plus or minus two percent. Or in this case, plus or minus thousands of percent. Or I might never be able to get into the position that I want because I’m not willing to raise the price more than 20 cents and there’s no liquidity. So this is a very far from ideal situation.

Automated Market Makers (Liquidity Pools)

As the cryptocurrency ecosystem matured, people started thinking there are other ways to do decentralized exchange without order books. Eventually Uniswap developed their ‘constant product’ ( x * y = k ) market maker mechanism. I won’t go too deep into the math here. Both tokens are put in a pool, and it maintains the price to be whatever value will hold both sides of the pool to be equal. When someone trades, the quantity of tokens in either side changes, so the price changes. There’s always at least as much liquidity as people put in the pool.

It worked, and projects could submit their own liquidity pools. If you provide liquidity, you earn market maker fees, and sometimes projects will incentives liquidity with additional rewards (yield farming). So that proved to be a much more elegant solution for liquidity provision for this long tail of thinly traded crypto assets, and it became the standard for decentralized exchange on Ethereum and most every blockchain that can support the required token standards and smart contracts.

Some Trading Implications

In my post two weeks ago, I mentioned that all of the liquidity providers in a liquidity pool are makers, and every trade against the liquidity pool is a taker. The liquidity pool replaced this order book design, and the liquidity providers (LPs) are effectively making a market at any particular price on both sides of the market price. Their liquidity provision is essentially spread out at every potential price, so how much liquidity you can get will still depend on how much you’re willing to push the price — on how much market depth there is. 

If you understand the difference between order books versus liquidity pools, then you can look at specific markets and have a better understanding of how price might behave, based on whether the market depth is primarily liquidity pools or order books. 

If the only liquidity for a token is an order book, then the market depth might be irregular. Let’s say that there’s 1000 HIVE available at 40 cents. There’s only 10 HIVE available at 41 cents, and then there’s 100,000 HIVE available at 42 cents. That’s a very irregular orderbook. I could buy 1000 and barely move the price. Then buying anywhere between 1010 and 100,000 will push the price the exact same amount! 

If the token is traded in liquidity pools, then the market depth is very regular, almost the same for either buying or selling. Buying a higher quantity will go deeper into the market depth (more slippage) but in a predictable way.

A Quick Warning — Front Running Bots

In both cases, when you’re trading on a decentralized exchange, other market participants will be able to see your orders before they are recognized by the exchange. There are bots that evaluate your orders and may potentially manipulate the markets you’re trading in to extract excess profits from your activity.

Depending on what the fees are on the blockchain that you’re using, you may want to break a large order up into smaller pieces. If your order would push the price by 5%, then as soon as you submit that order you’re going to be front run by a bot. They’re going to push the price up 5% first, your order is going to fill and push the price up another 5%, and then they’re going to sell the crypto that they just bought and push the price back down. You’re immediately going to get an above market price, 5% above what you intended for it to be. 

The easiest way to avoid that is to make sure that you set your order to limit the slippage. Your order is not allowed to execute if the price goes above a certain point. Set that slippage level, and break up your order into smaller pieces. I never, ever, ever do orders that push the price more than 1% because I know that if I do an order that pushes it more than 1% it’s going to get front run. I will usually trade even smaller than that.

Conclusion

The liquidity ‘behaves’ differently in order book markets and liquidity pool markets. Order book liquidity is mostly provided by active market maker bots, while liquidity in pools is provided by passive LP participants. There are always bots hiding in the shadows that may take action if you don’t structure your orders carefully, but if you trade carefully you can minimize your risks to an acceptable level.

My hope is that a better understanding of market structure can help you to better evaluate how new markets are likely to behave. Knowledge creates opportunities!

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Not financial or tax advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. This newsletter is not tax advice. Talk to your accountant. Do your own research.

Disclosure. From time-to-time I may add links in this newsletter to products I use. I may receive commission if you make a purchase through one of these links. Additionally, the Savage Corner writers hold crypto assets and actively trade in certain markets.

Today I'd like to talk about finance and babies. Don't try to explain finance to babies, they are not ready for the concepts!

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Okay, actually, today I want to talk about asset types. Asset types are a pretty basic finance concept, but it's material that can be new to many people from the crypto world. We're getting moved pretty quickly. Pause the video, go back, take notes if you need to. Or look below the video for the link to where the transcript of this video is published.

When we think about asset types in the traditional finance world, there are basically two categories. There are real assets and financial assets.

Real Assets

Real Assets are something tangible, like this cup of coffee or this shirt. We don't think of a cup of coffee or a shirt as being assets. What if it's this piece of land, or this railroad car full of coffee beans? Specific physical things, real assets have non fungible characteristics. This piece of land is different from the adjacent piece of land, this railroad car full of coffee beans came from a different farm than the next railroad car full of coffee beans.

Trading in real assets requires a completely different mental framework because of this non fungible characteristic. You’re not only thinking about the individual characteristics of this particular one. You're also thinking about the general characteristics of the asset class. Wine for example, was it a good year? Is it a good vintner? Is champagne coming in or out of style? I don't like bubbles in my wine!

Financial Assets

Financial assets are distinctly different from real assets. Instead of being physical, tangible things, they are actually bundled legal rights. We're getting into subcategories here, but there are basically three subcategories of financial assets. There are bonds or fixed income, there are equities, which you might hear referred to as stock. And there are synthetic assets or derivatives.

Derivatives

A derivative is any financial asset that derives its value from some other financial asset or real asset. This is where it starts to get really interesting.

One of the most commonly traded types of derivatives is called a future. And a future is actually trading future delivery of real assets. Instead of buying a railroad car full of coffee beans, you're buying a scheduled delivery of a railroad car of coffee beans. If you hold that scheduled delivery until it matures, and that date arrives, you need to find a place to put a railroad car full of coffee beats. If you don't want to receive a railroad car full of coffee beans, you need to sell that financial asset before the scheduled delivery date; on to someone else who is either covering a short position (they don't want to deliver a railroad car full of coffee beans), or someone who actually does want to receive a railroad car with coffee beans. That's a classic example of futures.

Equities

Okay, equity would be like ownership in something. So, stock is typically ownership in an underlying enterprise. I own shares of Apple, which means I actually have a legal claim, a bundled legal right to a portion of Apple's earnings. Now, Apple's Board of Directors might choose to retain their earnings instead of paying a dividend. But I still own a legal right to some theoretical ownership of Apple; that legal right has value and it trades.

Fixed Income

My fixed income asset is somebody else's contracted liability. I may have a signed legal note where I lend somebody $100,000; they are required to repay $100,000 in five years, Every year between now and the repayment date, they're paying me $8,000 a year. We could think of that as being an 8% coupon on a $100,000 note. That would be an example of fixed income in the traditional financial markets.

Financial Assets -> Very Large Numbers!!

The numbers get very big very fast. When we look at futures, we're not talking about a railroad car of coffee beans, we're talking about a train of coffee beans. When we look at the fixed income markets, we're not talking about $100,000 note, we're talking about billions of dollars of bonds, or maybe hundreds of millions of dollars of bonds. When we're talking about equity, it can actually be shares in a very small company this is a $15 million company, there's a million shares outstanding, and so each share is valued at $15. Or it could be, this is a trillion dollar company, there's 100 billion shares outstanding, so each share trades it $10. Very big numbers.

Bundled Legal Rights - Financial Assets

Now that we've covered the three basic subcategories of financial assets, which are derivatives, fixed income, and equities, I really want to lean into the fact that all of these financial assets are actually bundled legal rights.

Rather than it being a tangible item sitting in Apple's lobby, taking money out of their pockets every time they receive a check, it's an intangible. I have a right to money, but it's kind of wishy-washy. Maybe they'll pay me some of it, or maybe in order to capture it I have to actually sell that right to someone. Either way, the value of that is actually backed by the theoretical legal right that's enforceable in court.

Similarly, with derivatives there are legal rights, and those rights are enforceable against some counterparty, which is the other side of the trade. With fixed income, there are enforceable legal rights that are enforceable against the lender. Being able to take the lender to court to request repayment, or have some legal rights around that repayment, is part of what gives it value.

Individual Legal Rights - Real Assets

Circling back to real assets, real assets value is also backed by legal rights. Because real assets have non fungible characteristics, their legal rights are individual rather than bundled. This title to this piece of land, this title to this adjacent piece of land, that title may include legal rights to that land and it may specifically exclude certain rights. Does this title give me water rights? If it doesn't give me water rights, who owns the water rights? The value of that land can be influenced by which rights are actually included in the title, even though I'm standing on the land, either way.

For some real assets the legal rights are much more abstract. I own this coffee cup. If somebody breaks into my house and steals this coffee cup, I don't know why they would. But if they did, I may decide that the legal right to recover that coffee cup is kind of irrelevant to me, and let it go. I may decide this is a priceless coffee cup. It was my grandmother's (it wasn't). But if it was, and I cared that much, I could file a police report and the police would just say, "meh", and again, that legal right doesn't have a lot of value. I could hire a private investigator and go find them. And then what? File an injunction in civil court to have the coffee cup recovered? Technically, I have the legal right to do that. Is it worth it? I don't know. It depends on the value of the coffee cup.

In a sense, all of the value of traditional finance, all of the value of assets in traditional finance, traces to some degree back to the fact that they carry legal rights. If a Mona Lisa is stolen off of my wall, (this isn't a Mona Lisa); if this “not Mona Lisa” is stolen off of my wall, I have the right to recovery. It could pop up in a museum in 50 years and if I have a police report showing that it was stolen off of my wall in 2021, the museum is required to return it to me. Charges could actually be brought against the museum for receiving stolen goods. So when we're looking at real assets, provenance matters, right?

I don't want to get too deeply into valuation framework for real assets. And I definitely don't want to get too deeply into valuation framework for financial assets because there is a lot to unpack there and that could be hundreds of future videos.

Conclusion

The key takeaway as we transition from traditional finance assets, real assets and financial assets, into blockchain assets, is that all real assets and all financial assets are accompanied by either individual legal rights or bundled legal rights.

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Thank you for coming to Savage Corner. Again, my name is Joseph Savage. I'm your host. Next time on the Savage Corner YouTube Channel, we're going to talk about blockchain assets, the way that I break down and categorize blockchain assets, and how that relates to financial assets.

There's been a lot to unpack in today's session, so look for the link below that has a transcript of this material and that page will include a downloadable worksheet.

Today we're gonna play a little game called find the coffee cup. Where is the coffee cup? Frame by frame did the coffee cup move? Is there a continuity issue? How much coffee has Joseph actually drank in the filming of this video?

I’m going to explain trade types and some basic order types. Then we’ll discuss maker & taker orders and how they fit into DeFi trading.

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Trade Types

The basic trade types are buy, sell, short, and buy to cover.

• Buy

Buy and Sell orders are the trade types that are the most well-known. If I want to buy bitcoin, then I can put money on an exchange and I can enter a buy order to buy bitcoin, and then after the order is executed, I have bitcoin. I can HODL that bitcoin forever, or I can stake that bitcoin somewhere to earn a little yield. Holding a position that you bought is also referred to as being ‘Long’ the position.

• Sell

Eventually I might sell that bitcoin. I submit a sell trade on the exchange, and after my order is executed then I don't have bitcoin anymore. Instead I have the money that I sold it for.

• Short

When you short, you are selling something that you don’t previously own! You can sell something that you don't own, if you can find someone to borrow it from. If I borrow bitcoin from somebody I can sell that bitcoin. Then if it goes down in price, and I buy it and return it to the person I borrowed from. I can profit the difference between what I originally sold it for, and what I buy it back for. But if it goes up, I would lose the difference instead.

The key takeaway is to short something I have to borrow it and then sell. That gives me a ‘negative’ position in the asset (I have a loan in the asset that has to be repaid).

• Buy to Cover

When I’m ready to repay the loan (because the asset depreciated and made the loan easy to repay, or because the asset appreciated and I need to cut my exposure before it destroys me) then I need to buy the asset to repay the loan. If the loan is facilitated through a traditional broker, the trade type is ‘buy to cover’.

In DeFI, the loan could easily be separate from where I’m trading (e.g. I borrowed WBTC from Compound and sold it on Uniswap, so now I need to buy some WBTC to repay the loan on Compound). In Uniswap this looks like a normal buy order, but because my intent is to repay the loan, I should still think of it as a ‘Buy to Cover’ trade.

Crypto Shenanigans

With crypto assets, you could buy something else with the asset. I could borrow bitcoin, and I could use that bitcoin to buy ETH. I don't have the Bitcoin anymore but I do have Ethereum. Now I'm short Bitcoin, and I'm long ETH. Then I can just hold the ETH to ride the EIP-1559 rocket. Then sell it, eventually, for bitcoin and then repay the bitcoin loan. When I sell the ETH, that’s a sell trade for the ETH, but it’s a Buy to Cover for the bitcoin.

I could take the ETH and buy something else with it. Let’s say BANK, so I can participate in the Bankless DAO. Now I’m short bitcoin, neutral ETH (I bought and then sold, so no exposure anymore), but long BANK.

Order Types

Order types are how you send your trade to the market. There's a lot more order types than there are trade types. The basic order types are a market order, a limit order, and a stop order.

• Market Order

I'm sending the order to the market and I'm saying “hey, what do you got?” and taking whatever price they give me.

• Limit Order

I'm sending the order to the market, but giving them a specific price. So I'm saying “let me buy bitcoin if it drops below 32,000”. If it never goes below 32,000 then I don't get any bitcoin, but I get my money back when I cancel the order.

• Stop order

Stop order is triggered by a particular price. I want to buy bitcoin, but only if it breaks out above 43,000. So I submit a buy stop order at 43,000. If bitcoin breaks out above 43,000, it will convert into a market order and it will buy at the market price.

I can also use the stop order to close a position. I already have Bitcoin, and I bought it at 42,000, and I want to sell it if it drops below 38,000. I can enter an order that says “if bitcoin drops below 38,000 I want to sell it”. That would be a sell stop order, triggered by the price of bitcoin falling below 38,000. When that happens, then it converts into a market order and sells my bitcoin.

In both of the stop order examples that I gave, when the stop is triggered it converts into a market order. That might be good to protect me from a downturn, but make me vulnerable to selling into a flash crash. If my broker or exchange supports it, I can instead use a stop limit order. I submit a stop limit order with two prices. So I could say “if bitcoin drops below 38,000 I want to set a limit order for 37,000”. So when bitcoin drops below 38,000, it will submit a limit order at 37,000. If it drops below 37,000 then I don't actually want to sell, that's too big of a drop. I'd rather buy the dip.

Maker or Taker?

Crypto exchanges, whether centralized or decentralized, care a lot about how much liquidity is available for their customers. If you think of the exchange as a market where you’re buying financial products, then liquidity is how much product is available on the shelf at a particular price. If I can get 1 bitcoin at 42000 with no slippage, that’s a better experience for me than if an attempt to buy 1 bitcoin were to push the market price up to 45000. The exchange wants to encourage liquidity, and they do that by differentiating between orders that add liquidity (put products on the shelf) versus orders that remove liquidity (take products off the shelf).

• Taker Order

A taker Order is any order that removes liquidity. Market Orders are always taker orders. Limit orders depend on where the limit price falls relative to the market. If there is liquidity available at the stated price and it fills right away, then it’s a taker order.

• Maker Order

Maker order adds liquidity. With a limit order, if there is no liquidity at the stated price then the limit order is adding liquidity (More inventory is available to people on the opposite side of the trade as you). If a limit order is only partially filled and the rest sits on the order book, then the part filled immediately was a taker order and the part left sitting on the order books is a maker order.

Liquidity Incentives

Because crypto exchanges value liquidity, they have different pricing for maker orders versus taker orders. I might pay 0.10% (ten basis points) on a taker order but only 0.02% (two basis points) on a maker order. That’s a limited incentive to use maker orders instead of taker orders.

When it comes to DeFi, most decentralized exchanges now use an automated market maker (AMM) model with no order book. Your order goes to the market, and takes available liquidity, so it's always a taker order. If you're a liquidity provider then you're a maker; you submit your ‘inventory’ into the liquidity pool. You're basically lining up maker orders and saying “I’ll provide liquidity to the market at whatever price”. And takers are paying trading fees to the makers. If there is enough trading activity, the makers could be well-compensated for their risks. If there is not enough trading activity, or if the risks are particularly high, the makers may need additional compensation (yield farming rewards) to encourage them to hold inventory and provide it to the market.

Conclusion

Thank you for joining me on Savage Corner, where finance and crypto meet!

Understanding trade and order types gives you a better understanding of what’s happening ‘under the hood’ when you trade in DeFi or provide liquidity to various DeFi protocols. My goal today was to provide you with insight into trade and order types, to give you more control over what happens when you trade.

Did you know that if you borrow on any DeFi money market protocol (e.g. Compound, Anchor, Aave) and then sell the asset for something else, that you are short the asset you borrowed? Did you know that when you LP funds, you’re a market maker?

If this has been informative to you, please share with a friend! If it was all review, but you know somebody that really needs to understand these concepts, pass it on gently.

Share

Not financial or tax advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. This newsletter is not tax advice. Talk to your accountant. Do your own research.

Disclosure. From time-to-time I may add links in this newsletter to products I use. I may receive commission if you make a purchase through one of these links. Additionally, the Savage Corner writers hold crypto assets and actively trade in certain markets.

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Simple Interest

Simple interest is pretty straightforward, and it will likely be familiar to you. Imagine you’re lending somebody $100 for four years at 10% interest. They agree to pay interest of $10 each year and then repay in full at the end of the third year. At the beginning of the period you send them $100 (cash flow out). At the end of years one, two, and three they send you $10 interest (cash flow in). At the end of year four, they send you $10 interest, plus the $100 principle (cash flows in).

Compound Interest

This is where money starts to get interesting. Instead of an individual loan, imagine it’s an interest-bearing account, so you can reinvest the $10 each year. After the first year when you receive $10, you deposit that into the account. Now you have $110 working for you instead of only $100, so at the end of the second year you get $11 interest instead. After depositing that, you have $121 working for you, so at the end of year three you would receive $12.10 interest. Deposit that too, and you now have $133.10 working for you. Now at the end of year four, you receive $13.31 interest and get back your new principle of $133.10. Instead of receiving total interest payments of $40 over the four years, you have received interest payments of $46.41!! The extra $6.41 is from compounding the interest.

Incidentally, if these were quarterly payments over a year instead, then this would represent an APR of 40%, but an APY of 46.41%, as their only difference is whether the earnings are compounded. I consider the use of APY for anything in DeFi to be disingenuous because the APR’s are based on very temporary underlying conditions. There is little likelihood of being able to compound a DeFi APR for an extended period… unless the total return is powered by the programmatic appreciation of the token instead of driven by regular cash flows.

Enter the Yield Dollar…

Instead of regular interest payments, suppose that the increasing value is kept (and still compounded) in the account. You’re investing $100 up front to receive a total value of $146.41 in four years. For each dollar that you will receive in four years, you’re paying a discounted price of $0.683013 now. If this is enforceable in some way (via contract or smart contract), or reliable from start to finish it’s now a yield dollar. You pay a discounted price now for each dollar you will receive later. There are no cash flows, and the yield is internalized (imputed) into the going rate for the asset.

In traditional finance, yield dollars are usually specific term instruments, issued by governments. The best example would be the short-term treasury bill auctions. In effect, the treasury is selling dollars that will be delivered in three months, and buyers bid on those dollars. It’s a dutch auction, and the settlement price is the highest price (lowest discount) that buyers are willing to pay. If they were willing to pay par (full value) for each dollar, then it would be a 0% interest rate, and if they were willing to overpay for each dollar then it would be negative interest rates!

In DeFi, yields can be established by using token settlement dates and a trading market, or by having a smart contract that calculates a steadily rising reference price and regularly issues (and liquidates) tokens using the reference price. Let’s look at some examples.

UMABILLS

UMABILLS are built on the UMA protocol. UMA protocol is built on the Ethereum blockchain. It allows you to lock ETH or BTC collateral to mint UMABILLS and sell them into their established Balancer AMM pools. Yield farmers can earn BAL and UMA rewards for providing liquidity to the AMM pools.

UMABILLS have a specified maturity date. On the maturity date, the UMA protocol queries its governance for the prices of ETH and renBTC, and sets the UMABILLS token to be backed by specified amounts of ETH or renBTC (exactly $1 worth at settlement…) The tokens can then be redeemed at any point for the specified amount of ETH or renBTC that is established at settlement. Issuers can either buy their own back from the market to redeem or just cash out the rest of their collateral and leave the fixed amount required to back each token in the smart contract. After the settlement date, the tokens will be worth whatever $1 of their backing asset from that date is worth, and won’t be yield dollars anymore.

With yield farming available for UMABILLS, they sell at a premium (negative interest rates), since participants can earn more from the yield farming than they pay in the imputed interest. This means that issuers can borrow at negative rates by minting and selling the UMABILLS at a premium, then repaying the loan at the settlement date. The imputed interest here comes from the premium paid by yield farmers that want to hold the yield dollar without having to mint it.

There is smart contract risk, along with market risk for the collateral under this scenario, but minimal market risk for the borrowed asset, since it will reliably settle at $1 on the settlement date.

aUST (Anchor Protocol)

aUST (anchor UST) is issued by Anchor Protocol, a money management tool on the Terra Blockchain. Users deposit UST, a native “stablecoin” of blockchain that is algorithmically pegged to the U.S. Dollar. Anchor Protocol uses a reference rate, governed by the smart contract, to mint a specified number of aUST equivalent to the value of the UST that was deposited. Anchor then checks the wallet of any users connected to their UI and displays the UST value of their aUST token holdings, which is updated regularly as the reference price is gradually changed to impute the interest rate set by the protocol governance (typically 18–20%).

Since the interest is imputed by the reference price, you don’t have to keep holding the token in your wallet. Two weeks ago I published about Mirror Protocol, which mints collateralized synthetic assets. aUST is one of the approved collateral types. This is quite popular in the Mirror community, as collateralizing with an asset that steadily increases in value (due to the imputed interest yield) makes it a lot easier to manage your collateral requirements over time.

For aUST to meet redemptions back into UST on demand, it needs to have sufficient UST in its vaults, and the UST it holds needs to grow as the reference price of aUST increases. The UST that covers yields comes from three sources:

• First, users can ‘bond’ the LUNA token into Terra Protocol’s distributed proof of stake (DPOS) governance — this stakes it to participating governance nodes, and the 90% of the LUNA earned from staking feeds into Anchor Protocol vaults to support the aUST yields.

• Second, bonded LUNA (bLUNA) holders can take collateralized UST loans against their bLUNA, and pay interest that supports the aUST yields. These are subsidized by yield farming rewards for borrowers, so there is steady demand even at high interest rates.

• Third, Terraform Labs has occasionally injected capital into the aUST vaults to support a higher yield. While an attractive yield is good for the growth of the protocol, it results in higher inflation rates for ANC. Since these capital injections are technically ‘third-party’ they cannot be relied on as a continuing source of yield. I fully expect Anchor governance to reset the yields from their 18–20% band down to 15% or lower eventually.

While the user experience of staking UST for aUST and earning yield by reference price increase is much friendlier than UMA’s user experience, the machine under the hood is much more complicated. There are additional economic and smart contract risks due to this complexity.

Finally, Terra blockchain and many of its applications are all built by Terraform Labs (TFL), and this developer centralization potentially makes Terra less anti-fragile than Ethereum. Their collection of pegged stablecoins had their pegs challenged during the last crypto crash, but the tokenomics held and the stablecoins kept their value within a flexible range. LUNA, the native token of Terra, has come up more than 100% since then. This price appreciation further strengthens the family of stablecoins that rely on it.

Hive Power (mvests)

While the first two examples are oriented around USD values, so the ‘yield dollar’ name feels more relevant, my final example is algorithmically linked to a native token instead of a stablecoin! That means it will have market risks instead of peg risks, but it’s still a very interesting application of yield dollar mechanics.

Hive blockchain forked from Steem blockchain in early 2020. Conceptually, everything I write about it will also apply to Steem blockchain’s native Steem Power. The specific numbers will of course be different!

The protocol has a fully integrated ‘layer 1’ blogging platform, while also supporting storing JSON on the blockchain. The JSON integration allows for smart contracts and NFT-powered games to be built using JSON, with their own separate decentralized ‘layer 2’ governance system.

Hive has three native tokens integrated into its ‘layer 1’. The first is HIVE, a freely transferable and tradable token. Second is ‘hive-backed dollars’, a stablecoin that is minted as protocol ‘debt’. Third is ‘vests’, usually referred to as mvests (mega vests, because the actual numbers in play are really high) and colloquially referred to as ‘Hive Power’ or HP.

When Hive is staked into governance (“powered up” from HIVE to HP), the native HIVE is effectively destroyed, and the users hold mvests instead. mvests are non-transferable, but their participation in content governance (curation) can be delegated. HP can be powered down over an extended 13 week period (this was shortened to only 4 weeks on Steem shortly after the fork creating separate blockchains). When HIVE is converted to or from mvests, the transactions are governed by a reference price that steadily changes over time (HIVE per mvests in the table below).

The imputed yield earned by these yield dollars is funded by the native inflation of HIVE, and is quite low. The 1500 vesting reward percent shown in this table represents 15% of total HIVE inflation. Total inflation gradually decreases over time but is currently about 7.5%. That leaves only about 1.11% base yield for holding mvests. Since HP is only a representation of the current HIVE value of mvests held, users see this yield as a gradual increase in the HP shown on their accounts.

I included Hive Power for its yield dollar characteristics, but the earning power of HP comes from participation in content curation. 65% of inflation is earmarked to content rewards, and half of that goes to curation. An HP holder actively engaged in curation can expect a base yield of 1.11% from yield dollar and 2.44% from curation.

And here’s the kicker — only HIVE that is ‘powered up’ participates in these rewards. That means participants also receive the yields from non-participating HIVE — which provides a multiplier to these base values. At present only 34% of HIVE participates (see table above), so the 1.11% yield dollar nearly triples to 3.32%, and the 2.44% curation base is closer to 7.17%. That’s over 10% combined, funded by an inflation of only 7.5%, because so much HIVE opted out of participating!

Since this is a ‘layer 1’ token, it is not subject to any smart contract risks, which is why I find it so interesting. However, it is subject to governance risks. Hive’s witnesses have the authority to establish consensus for changes to governance-level parameters. They recently strengthened the tokenomics enforcing the HBD peg, along with making several changes to how the content rewards (curation) system works.

Conclusion

I consider yield dollars to be one of the more interesting developments in DeFi. Each approach to building a yield dollar has its own tokenomics and distinct risks, all seeking the same goal of relatively low-risk reliable yields.

My goal is to boost your understanding of what yield dollars are, and share some examples that may prove to be valuable opportunities. To help you evaluate whether each example has a place in your portfolio, I have described where the yields come from for each example and given an overview of some of the risks involved.

Check out these three projects. Then if you found this to be beneficial, follow my newsletter and share your thoughts & comments!

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Not financial or tax advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. This newsletter is not tax advice. Talk to your accountant. Do your own research.

Disclosure. From time-to-time I may add links in this newsletter to products I use. I may receive commission if you make a purchase through one of these links. Additionally, the Savage Corner writers hold crypto assets and actively trade in certain markets.

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Mean Reversion

Historical prices have a central ‘pressure’. Sometimes this is measured with moving averages. If the price gets too high above that, or too far below it, it reverts back to the mean. So you can think of that mean as being like gravity. Sometimes markets break the force of gravity, and they . . .

Trend!

Just like a rocket needs a certain amount of momentum or escape velocity to break the force of gravity and escape from the gravity well, markets may need extra force to escape from the mean reversion gravity and break into a trend. So when markets go into a trend, the trend can move swiftly and violently. Eventually, gravity kicks in and the trend starts to peter out. Then it will wobble and potentially crash down to earth. In some cases, if the fundamentals have changed, then price will find a new gravity, and it won't crash all the way back down to where it was before. But somewhere in between.

Trading Styles

Most trading systems are designed around either mean reversion or trend.

Fundamentals driven value investing systems are looking for things that are under valued. There's an assumption that ‘underpriced’ stocks will mean revert back up, because they're priced too far below their value. So value investing is at heart inherently a mean reversion powered strategy.

Range trading uses support and resistance zones. Support and resistance are like the edges of the gravity zone. When price looks like it's coming up off of support, you can buy the asset. Then if it gets close to resistance and you think is going to reverse back down again you sell (or sell short) the asset. That's a mean reverting strategy. There's a trading range and it bounces back and forth within the range because the mean is somewhere in the middle of the range.

If your strategy is oriented around it breaking out from these trading ranges, and taking off, that’s a trend strategy. You buy the trend and you try to ride the trend as long as you can.

Which Should I Use?

Mean reversion strategies and trend strategies are effective in different market conditions, but their profitability depends on effective execution. That’s dependent on your skills and psychology.

Mean reverting strategies tend to be the strategies that people learn first. It's easy to look at a chart and say this is a support zone, so I think that it's not going to drop below this. I'm going to put a stop loss just below the support zone in case I'm wrong. I can see where this resistance zone is and if it does mean revert, it's going to pop back up to the resistance. I have a stop loss just below support, and I have a profit target that's up by the resistance, and I can calculate the risk reward ratio. I can say, oh, that's a three to one risk reward ratio. Which means if I take that trade 100 times and I'm right half the time, then I lose 25% and I Gain 75% and I end up making two to one on my risked money.

Trend strategy requires a bit more faith on the part of the trader, because you can't see the potential if the trend breaks out. Maybe your buying rule is to buy when it breaks out from former all time highs. It could dribble above the highs a little bit and then go back into mean reversion or it could run. But the reality is that for an asset to hit new all time highs it has to break out of previous all time highs — kind of by definition. And the trend can always run further than you think. So investors that are comfortable with building risk models around it can find a great deal of success with trending strategies where they buy breakouts or sell breakdowns. And ride the trend as long as it continues to trend. And when it wobbles and looks like it's going back into mean reversion jump off the trend and go find something else trending. And so there are a lot of strategies designed around that.

Value investing starts out as a mean reversion strategy. But the idea is you catch the first mean reversion and then hold it through the breakout, and try to ride the first trend or two. Then when it seems to be overvalued and looks likely to go back into mean reversion, then you sell. So if you can catch trades that start out as a mean reversion and become trend and then carry them all the way until they go back into mean reversion. . . It's a longer trend and potentially more profitable. It also requires catching the first mean reversion correctly, or having the fortitude to keep building a position until the initial move begins in your favor.

When you start getting into market maker strategy for liquidity pools in DeFi, the same principles apply. Since you capture fees during mean reversion periods, that can boost your yield. If you catch a trend, you’ll see some value appreciation, but you’re going to have some ‘impermanent loss’ — a DeFi way of saying that in a trend market you might be better off holding outright than holding in a liquidity pool. On the other hand, if there are incentives in place to encourage LP’s (yield farming), that can offset any impermanent loss and even take the edge off catching the beginning of a downtrend. It’s still a good idea to get out if you see the market going into a downtrend.

Summary

The purpose of this post is just to give an overview and help you recognize whether strategies are mean reversion strategies or trend strategies. From there, you can begin to think about whether that strategy, and the psychology required to stick to it, is consistent with your psychology and your overall view of the market.

Mirror Protocol is one of the more interesting Defi projects. Let’s start out with a basic overview, and then we will dive into some advanced yield farming strategies. Finally we will review the governance module, with its own interesting yield implications for MIR, the governance token.

Overview

Mirror Protocol is built on the Terra blockchain, and facilitates the minting of ‘synthetic’ assets. A synthetic asset ‘mirrors’ the performance of an underlying asset, but is not actually backed by the underlying asset. Mirror calls its synthetic assets ‘Mirrored Assets’ or ‘mAssets’, and each token has a little m followed by an identifier that mimics the identifier of the underlying asset it mirrors (mBTC, for example, for synthetic bitcoin). Here are some examples:

Minting mAssets allows you to post collateral in one asset and take a loan in another asset. While this is similar to money market protocols, such as Compound, with Mirror Protocol the borrowed asset is created at the time it is borrowed! Its value is backed by the posted collateral, and the collateral requirements and liquidation processes ensure that the minted asset holds its value.

There are three key reasons why you might mint an asset on Mirror Protocol.

1. The primary reason is to enter staking pools (either long or short). There is not always adequate liquidity to take a sizable position for yield farming, so large positions may require minting the asset first, and then adding it to the liquidity pool for yield farming rewards.

2. The second reason is to take a short position (Borrow and sell the stock, then buy back later, hopefully at a lower price, to repay the borrow). Some assets on Mirror Protocol may be more cost effective to short than they are using Traditional Finance (TradFi) brokers.

3. The third reason is price arbitrage. Mirrored assets trade on the Terraswap Dex, which uses an x*y=k model like Uniswap, but minting mAssets (and collateral requirements) are governed by price Oracles that are provided by Band Protocol. (Later these will also be provided by Link, but the Link integration on Terra blockchain is still a work in progress.) mAssets frequently trade at price premiums to the oracle price, so traders may mint mAssets to capture the price premium, while hedging their position using Traditional Finance (TradFi) brokers.

Version 2 of Mirror Protocol introduced a unique yield farming concept, short LP (sLP) that provides yield farmers additional incentives to mint assets when there is a price premium. This helps keep premiums within a narrow range, and is beneficial to traders because it helps mAssets to mirror the prices of the underlying assets more closely.

When trading and minting mAssets, one should always be mindful of the fees!

Mirror Protocol uses Terraswap for their trading engine which charges 0.30% per trade.

Mirror Protocol charges 1.50% of the minted value (taken out of the collateral) when a mint is closed (borrow is repaid).

You need at least an 0.6% move to break even on a long position, and a 2.1% move to break even on a short position. This may not be ideal for short-term traders with good access to TradFi brokers. For longer-term traders, especially traders without TradFi access, utilizing yield farms over the duration of the trade can create yield, with some risk of “Impermanent Loss.”

On a 50% price move, Impermanent Loss from the yield pool is about 4%, so use the pools judiciously, based on whether you think the yields will compensate for that over the time period you expect the price move to take.

Delta Neutral Strategies

For yield farmers, the fees create time-frames over which a pool needs to be held to create income in excess of fees. Since yield farmers might not have a directional view, many opt for the ‘delta neutral’ strategy.

A ‘delta neutral’ strategy involves holding a short position against a similarly sized long position, to earn yield from both the long and short farms available on Mirror.

The precise calculations for delta neutral positioning depend on the asset, since some mAssets have different collateral requirements. The simplest examples are mAssets with 200% requirements, because you split your position evenly between long and short.

For our example we will use mGME, because it has a higher collateral requirement and will help us to demonstrate formulas that apply across all mAssets.

Imagine we want to take $100 long position in mGME, and offset it with $100 short position. Since Terraswap liquidity pools require depositing both assets in equal proportion, you will need UST in the same value as your core position (another $100).

For the short position you will need ‘Safe’ collateral of $350, or you could give yourself more safety by over-collateralizing. I personally think the narrow range between 300% required and 350% ‘Safe’ actually makes it riskier for the borrower (safe for the protocol though!) and would set my collateral much wider unless I want to watch it regularly.

Starting out (at ‘Safe’ level) will require a total of $550 to enter a $200 ‘delta neutral’ position in mGME!

Long LP: 100 UST + $100 worth of mGME

Short LP: 350 UST (or other collateral valued at $350)

To enter larger positions, divide the requirement for each piece by the total required!

350 / 550 = 63.64% allotted to sLP collateral

100 / 550 = 18.18% each allotted to to UST and mGME for long LP.

Things to Consider…

The long yield is calculated using the entire value (40.40% APR on $200 at the screenshot rates gets you 80.80) but the short yield is calculated only on the borrowed mGME value (29.69% on $100 of mGME sold short gets you 29.69). Taken against the entire capital requirement, that 80.80 + 29.69 = 110.49 represents a blended yield of only 20.09%

The high collateral requirement makes the blended yield for high volatility farms less attractive than the yields for some lower volatility farms. This is the impact of capital efficiency - rates shown are not based on the full capital required to capture them, so effective APR may be much lower.

An additional caveat is that APR changes every hour, based on the assets in each pool, along with the premium at which the asset trades, relative to the oracle price.

In this snippet (click the link for the full table), Premium represents the % price premium relative to oracle, and ‘Short Ratio’ is the proportion of MIR rewards for that mAsset that go to sLP providers versus long LP providers. At parity (no premium), the sLP providers get only 0.91% of the rewards, but at 3.25% premium that shoots up to 35.77% of the rewards. That’s a 40x swing! That means that when you see short yields of 80% at 3.25% premium, they could swing as low as 2% on the next hour if the premium reduces to 0. This is another reason traders opt out of yield-chasing and let delta-neutral farmers take both sides.

Governance Strategies

Mirror Protocol is governed by a DAO, and stakeholders can stake MIR into the governance module to participate in governance processes. The DAO determines the whitelisting of new assets and manages their collateral requirements, along with disbursement of funds from the governance treasury or ‘Community Pool’.

For more information on the mechanics of governance, see the official documentation: https://docs.mirror.finance/protocol/governance

The DAO stakeholders receive irregular MIR earnings from the mint closing fees, as well as from failed proposals. Fees are received irregularly (as proposals fail or as mints are closed) so the DAO earnings can swing substantially.

The APR shown is based on the fees from the previous 15 days, and should not be considered representative of actual earning potential!

In Mirror Protocol v1, it was rare for proposals to reach the 10% quorum required to succeed, so v2 introduced voting incentives — the fees rewarded to governance are split in half:

1. Half of the fees are paid to all stakeholders, and compounded automatically.

2. The other half is split into separate pools for each of the active governance polls, and pay out to active voters in proportion to the stake that is voted.

This means that if you are active in Mirror governance, you can receive additional earnings that are subsidized by non-voters!

We can think of non-voters as getting half the ‘base rate’ and voters as getting the whole ‘base rate’ plus a pro rata share of the half that non-voters are giving up…

For a quick example, let’s assume a base reward of 15.59% as shown in the graphic below, with 50% participation… the non-voters would get roughly 7.8%, the voters would get 15.59%, plus share the other 7.8% that the non-voters are giving up, for a total of 23.39%.

Actual voter participation rate has recently been only 15–20%. With the same base rate of 15.59% and only 20% governance participation, the governance participants are earning 46.77% APR!!

Conclusion

There are as many reasons to experiment with DeFi as there are people experimenting in DeFi. I have shown some reasons Mirror Protocol is interesting, given an overview of how it works, and provided a walk-through of some of the more interesting strategies that have come out of v2.

If you found this interesting, check out Mirror Protocol, learn more about the Terra blockchain, and follow my newsletter!

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Not financial or tax advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. This newsletter is not tax advice. Talk to your accountant. Do your own research.

Disclosure. From time-to-time I may add links in this newsletter to products I use. I may receive commission if you make a purchase through one of these links. Additionally, the Savage Corner writers hold crypto assets and actively trade in certain markets.

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Today’s newsletter is the printed transcript of my first YouTube video! If you like video, go watch it. If you prefer written content, you get all the same information here in the newsletter.

You can be going about your life, everything is amazing. The rent gets paid on time, the electric bill is paid automatically out of your checking account, and then suddenly your electricity app decides to charge you $14,000 for a month of electricity. Is there something we could do about that?

Okay, that was an actual situation that happened to utility customers in Texas because they didn't understand the financial risks that they were taking. They signed up for something that would give them "cheaper" electricity. And they didn't understand the implications of that. And to be honest, I haven't seen any evidence that the people that made the app understood the risk that they were requiring their customers to take.

So we definitely want to manage risk or have a risk framework that makes it so that risk management removes risk from our life, instead of adding risk to your life. So, to me, finance is all about risk management. I wanted to start out with managing risk, understanding risk, because understanding risks is the cornerstone of Finance. Everything else that happens in finance is around tools that better facilitate the management of risk.

For me, that broad risk framework starts with fundamentals. So you've heard the fundamentals, this isn't a fundamentals channel. Build a budget, pay off your credit cards, etc. At a certain point, you begin investing. And when you invest, you're flipping the framework over because you are taking on risk instead of removing risk. So if finance is all about managing risk and removing risk in your life, then why are we investing? Why are we taking on additional risks and bringing that uncertainty into our lives?

And the short answer to that is we're doing that because that helps us better manage a broader tier or category of uncertainties, which you could think of as career risk or job risk. If something happens, if you lose your fingers, for example, can you still do your job? Would your employer be patient with you learning to use Excel with a pointer and not with your hands? And yes, I realize that there are legal protections if you have an accident, but employers can and will find ways of getting around that, "Oh, your performance has degraded and we don't think that it's because of your whatever, blah, blah, blah", I don't want to get too far down that rabbit hole.

The rabbit hole that I want to get down into is when we are adding risk, adding uncertainty in our life by investing, can we have a life-changing outcome without bringing devastating downside risk into our lives? This is an important question. You hear a lot, the phrase, "don't risk money that you can't afford to lose". Okay, that's great. How do you know if you can't afford to lose any? How do you know how much money you can't afford to lose?

When we approach that from a broad risk framework, we can say okay, these uncertainties are met; I have life insurance, I have renter's insurance or homeowners insurance, I pay down my credit cards. I have that buffer, I have maybe a little bit of savings cushion. I'm ready to start investing, but I don't know how much I can afford to lose. Or maybe I'm in a situation where I have never had the extra resources to do any of that. But I want to start learning about some of these financial tools because if I bring those skills into my toolbox, it can actually increase my earning potential.

Can I do that in a way that doesn't have a major downside risk on my personal financial situation? All the things that we're talking about:  How much are you risking? What is the potential benefit? Can I have life-changing outcomes, where it's life-changing on the positive side without being life-changing on the negative side? I don't want to raise my toddlers on a street corner, just because I bought too much Bitcoin, or whatever the situation is.

So I want to make sure that the basic framework of my life is covered. I have a minimum lifestyle requirement. I know that I wouldn't be happy, I would be very upset, if my lifestyle drops below a certain level. So I want to settle my lifestyle to that level, and I want to put a lid on it, and try to keep my expenses at that level. And then as soon as my income rises even a little bit above the level required for my minimum acceptable lifestyle, that little bit extra, that's money that I can afford to lose. And I know that I can afford to lose it, because if I do, the rest of my life is not in Cataclysm, the shock is not too great. Depending on the level of uncertainty in other aspects of my life, I may need a bit more of a cushion. If I know that things aren't going great at work, I should have a bigger cushion. Because if I invest this money, and I lose it, and I'm stressed out about that, and it causes my performance at work to degrade a little bit more, and I lose my job. Now suddenly, I've lost my cushion. I've lost my job that I needed the cushion for. And I have a cataclysmic lifestyle shock.

So I want to frame everything in my life around these minimum acceptable levels, minimum lifestyle, minimum viable product, minimum investable criteria, right?

Then when I'm looking at investments, I'm thinking about what I call asymmetric outcomes. An asymmetric outcome would be a life-changing outcome, positive reward without life-changing, negative risk. And there are various ways of doing that. But asymmetric outcomes are one of the things that are most attractive about the crypto space from an investor perspective. I can risk a little bit, I can take a little bit of this cushion, and I can choose a new project that I think has incredible potential and I can invest into that project. And maybe if I don't have very much investable money, I can invest time into that project. Instead, I can get engaged with a DAO. I can test out protocols, I can start getting some airdrops and those airdrops give me a little bit more resources to work with. I can leverage my time and energy and the small amount of financial cushion that I have, and build toward an asymmetric outcome. If it all goes to pieces, my lifestyle risk is minimal. I still have a decent job. I'm still hitting my performance goals at work, my babies are fed. Things not working out with a small Bitcoin investment or a small Defi protocol investment doesn't have a negative outcome in my life in the sense of my whole life changes. Even if it has a negative outcome in the sense of, well, I thought I'd be driving a Lamborghini and now I'm not.

That's a key component in terms of investing time and money and finances. What does your potential payoff look like compared to your downside? We're looking for asymmetric opportunity outcomes or asymmetric outcome opportunities. I sometimes hear it described as asymmetric risk because risk can be positive or negative. I'm risking amazing potential; I'm risking a little bit of downside. That's asymmetric risk. So then that cushion, that how much you can afford to lose, pair that with asymmetric risk and we start looking at fabulous opportunities.

From there, the next question in my risk framework is:

How do you allocate risk across a portfolio? How should I manage risk in position sizing?

If your allocation is your time instead of your money; if you're getting involved in DAOs and looking to capture asymmetric risk by getting deeply involved with the DAO and capturing more value from that DAO, then again you want a narrower opportunity set. You want to find your top two or three DAOs and focus in on those, or maybe even your number one DAO and focus in on that, so that people within that start to recognize you. They know your face, they know your skillset, and after a certain point in time, you can ask yourself, are they giving me the opportunity that I'm looking for within this DAO? Am I getting the level of rewards that I'm looking for, after having put in 60 or 90 days of effort into this DAO? If I am, that's amazing! I've built an income stream with an asymmetric opportunity set. If I'm not, then maybe it's time to move on. If I've spent 90 days putting 10 or 20, or 40 or 50 hours a week of effort in something, and I'm not being rewarded for that, then either my efforts aren't as good as I think they are, or that DAO is not well-positioned to recognize and reward the value of my efforts. And in either case, it's time to move on. Maybe it's time to move on to building new skill sets, maybe it's time to move on to find another DAO that recognizes the skill sets that I actually have. If I have done that three or four times, and I'm never capturing any value after 90 days, you know, maybe it's me. And if it is me, then I need to get a better feel for what skill sets these groups are looking for and whether I can build those skill sets.

There are basically two schools of thought around portfolio management or risk management. One is diversification is key! You should diversify across a lot of things so that if one of them doesn't work out, one of the other ones will perform well, this tends to be the cornerstone or basis of venture capitalists investing go invest in 20, or 30 projects. 15 or 20 of them may end up not working out and one of them hits a home run and the total performance of the portfolio ends up being really, really good, right. That kind of diversification is a focus for venture capitalists.

Unless you're really good at identifying asymmetric outcomes, it's really hard to diversify across multiple opportunities in a way that actually moves the needle; in a way that the one that has that amazing outcome isn't actually compensated by all of the rest going to zero, doing nothing.

___

From that context, if you take on more opportunities and have some minimum risk (or minimum investable threshold) so certain criteria that have to be met, there's a lot of opportunities out there, some of them are amazing, some of them are terrible. You can have a short checklist:

I want to know who the team members are; at least I want to know what their backgrounds are so that I can evaluate whether they have the expertise to manage the security of this protocol.

I want a project to have decent tokenomics. It has to have a token, and I have to be able to look up and understand the tokenomics. Those have to be consistent and not subject to change, or if they are subject to change, the process to change those is clearly defined.

That might be a minimum investable criteria. You follow that and you evaluate the project space, and that gets you down to a few dozen or maybe a few hundred, depending on how strict your criteria are. From there, you can then take small positions across a lot of different opportunities. If you're using some of the cheaper transaction cost blockchains, you can take very small positions. That's a $10 position and maybe it goes to 1000, or it's a $1,000 position, and maybe it goes to $100,000. If you're looking in the Defi space on Ethereum, for example, you probably want to be taking a little bit larger position sizes, just because of the gas costs. You don't want a $100 position, maybe a $1,000 position, maybe a $10,000 position. Or take a $1,000 position that you plan to hold for long term and look for the cheapest gas possible. There are ways of finding cheap gas prices; if it's a Sunday afternoon when the markets aren't going crazy.

Once you have an understanding of how much you can afford to lose, and some capability of evaluating what could potentially be asymmetric outcomes, and then you're allocating your risk across that portfolio, you start thinking about things like position sizing. Your position sizing really comes down to your level of confidence in the way that you are allocating risk across your portfolio.

If you're doing full-on deep dive long-term positions, and you're using a risk moat: What are the fundamentals of this protocol? What are the drivers that I see for it to actually be adopted and continue to grow? Do I think that it has a product-market fit? The more in-depth that you're able to build your knowledge on a protocol or token or project, the more consolidated you can get.

If you're trading on price action and technical analysis, then what you're trading really is about is a statistical edge or statistical arbitrage. 54% of tokens that exhibit this price action go on to get a 100% increase over the next 90 days, right? I don't have that Holy Grail! But if I did, then I'm looking at what is my Risk of Ruin? What size of position allows me to be wrong, whatever percentage of the time I'm going to be wrong, and still result in a positive outcome over my entire trade set. 

Diversification - Lots of smaller positions, if my approach is statistical or technical analysis based, 

Focus - A few larger positions, if my approach is fundamentals-based, built on confidence and understanding of the protocols. 

That is how I then allocate the money I can afford to lose across the position set.

We'll dive more deeply into basically everything that I've talked about today at some point in the future, but I wanted to start with a broad risk framework. Establish the fundamentals, minimize lifestyle risk, and then build a cushion that becomes your basis for what can I afford to lose? Look for asymmetric opportunities so that I can turn that narrow cushion into a much broader cushion. And then if it gets broad enough, then I can begin raising my lifestyle.

I hope that you enjoyed this. I enjoyed making it.

If you have a question or comment, please message me. Please comment below. I'm very interested in hearing what you have to say. I love having conversations about finance and crypto. That's why I started this newsletter. They're topics that bring me joy that I spent a lot of time studying. I love to hear perspectives that are different than I've already heard. I like to have my own perspective challenged.

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So if you think it was great, you know, keep that to yourself. I'm just kidding! If you think it was great, Let me know. If you think it was terrible, definitely let me know. I want to know why! Thank you for joining me on Savage Corner. 

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