There are two factors that drive asset prices - liquidity and belief. Liquidity refers to the amount of capital available for buyers and sellers to enter or leave the market. Beliefs motivate buyers or sellers to take action, and narratives play a major role in shaping beliefs. When collective belief is shaken, people tend to rush to sell assets.
The recent bank run in Silicon Valley is an example of collective faith being shaken. But what happens when people form a consensus around an asset and rush to trade it quickly? Will it produce the opposite of a bank run?
This article examines on-chain data to understand who is trading the recently popular Meme assets, how much returns are generated, and whether it is a good idea to invest a large amount of money in Meme coins. Finally, I will also express some personal opinions on how Meme coins can be more sustainable (bigger and stronger).
Are New Meme Coins More Valuable Than “Old” Meme Coins?
PEPE has risen more than 60 times in the past few weeks. At the time of writing, PEPE has generated more trading volume than Solana, Avalanche, Polygon, and even Dogecoin. Is a new meme coin more valuable than the "old" meme coins? One way to evaluate the answer to this question is to examine the behavior of token holders.
According to Nansen, over 100,000 unique wallets hold these meme assets. Over 1.4 million wallets hold “old” meme assets like Shiba Inu. Protocols have struggled to reach this level for years. For scale, Aave and Compound each have only around 300,000 unique wallets holding their tokens. Part of the reason for this low number is that many users may hold these tokens on exchanges.
So initially you’ll see an increase in the number of wallets holding these assets, because decentralized exchanges are the only place users can get these assets. The flattening of the chart around May 5th in the chart below is because that’s when Binance listed the token. So it’s possible that traders are buying these tokens on centralized exchanges, rather than through decentralized exchanges.
Meme coins are an interesting phenomenon because they show us the power (and the risks that come with it) of anyone being able to make their own digital assets. On the one hand, allowing for the creation of censorship-resistant, customizable digital tools is core to the Crypto ethos. On the other hand, meme coins could be the trigger for “mass destruction of value.”
Currently, more than 100,000 wallets hold PEPE.
One way to regulate Meme coins would be to force exchanges not to list them. But that would only mean that DEXes like Uniswap would see more volume. Even charging 0.1% in fees, exchanges could make $1 million a day from Meme coins, as the tokens are already trading in the billions.
But why would retail investors buy these meme coins? Part of the reason is that meme coins have the "get rich quick potential". Investing as little as $100 in PEPE will have the opportunity to generate a return of $6,000 at its peak. Therefore, speculators often invest small amounts of money into multiple meme coins in the hope of doubling them quickly. But the challenge facing meme coins is that many of these assets lack fundamental value and price movements are completely dependent on market sentiment and "consensus". Therefore, there will be a lot of people competing to buy these assets, and they believe that others will buy them too, and they will become early holders if they act early. In a way, this is a classic example of the "greater fool theory".
(Note: The Greater Fool Theory refers to the fact that in the capital market, such as the stock and futures markets, people are willing to pay a high price to buy something regardless of its true value because they expect that there will be a dumber fool who will buy it from them at a higher price. The most important truth that the Greater Fool Theory tells people is that in this world, being stupid is not scary, but being the last fool is scary.)
In an environment of continued inflation, most things look like a Ponzi scheme. When a "wild" Meme coin is released, DEX is the first place it is traded.
Meme coins are often traded like a Ponzi scheme because they operate on similar principles. Initially, a few early insiders buy tokens at very low prices. They contribute a small amount of dollars to the liquidity pool and receive many "native tokens" in return. Essentially, they get a large amount of tokens for only a few dollars.
As people start talking about this meme coin, the supply of meme coins in the pool decreases, creating a feeling that it is now worth "more". As users see their unrealized gains, the hype about the meme coin increases, attracting more people to buy meme coins. As a result, millions of dollars begin to flow into meme coins that appear out of thin air. Once they reach a certain level of liquidity, meme assets like PEPE may last for years.
How can Meme coin successfully become official?
I used to think that meme coins would go to zero and then "hit rock bottom." But meme coins also have their own Lindy effect - the longer an asset is traded on the market, the more likely it is to stay on the market as long as it does not claim to have a certain use. Dogecoin fits this description perfectly.
Most tokens issued by a team have several backers. Usually, these are the founders, venture capitalists, foundations, protocols, early employees behind the project, on the contrary, when a meme coin is released, the early backers are the early adopters who will buy the tokens with USD.
Maybe you think I’m making up the Lindy Effect, but if we look at the on-chain statistics of past Meme coins, you’ll notice that the average Meme coin ends up generating a net profit for a small number of early Holders. The chart above is for Shiba Inu.
Like PEPE last week, it “blew up” in the 2021 narrative and hit new highs. There are wallets that have made millions of dollars from an initial $1,067 investment. Data from Nansen shows that the average realized profit and loss on the network over time is about 249%. The data looks beautiful on the surface, until you break down the net results by seller.
The above chart shows the distribution of returns for wallets trading Shiba Inu. The same token that could make someone who invested $1,000 a millionaire could also make half of the traders realize a loss. Looking at the data, only 6% of wallets generated outsized returns of more than 600%. This was in 2021, a year in which Bitcoin rose from a low of $20,000 to $64,000 (assuming you bought it in December 2019). Therefore, relative to the risk taken by buying Meme coins early, the returns are unreasonable unless you are one of the few examples of people who got rich from Meme coins.
Generally speaking, when an exchange lists a Meme coin, it creates a Lindy effect. For example, about 23% of Shiba Inu is on exchanges. Dogelon is about 33%. Exchanges have successfully turned Meme coins into official financial products by handing them to millions of retail investors who put hundreds of dollars into them.
Meme coins usually outperform Bitcoin or Ethereum, and every time the market rebounds, liquidity flows to riskier assets during market booms. When a meme coin is no longer about the community, but becomes a trading tool, it will persist. For example, Musk understands the importance of producing memes for himself and his business, as shown in the iconic tweet below.
The possibility of getting rich with Meme coins
Bear markets mean assets are trading at deep discounts. The assumption is that prices will follow usage, and eventually, usage will grow to a point that justifies the price of the asset. When you buy a JPEG, the pixels you buy may gain relative value due to the “social influence” of other people who own the same asset. For example, the price of a Miladys NFT soared because of a tweet from Elon Musk.
Meme coin is different because its "market sentiment" determines its value. When "market sentiment" is hyped, the value soars. But confidence will eventually run out and people will sell the tokens at a very low price. Or hold on to them until the market rebounds again.
Below is the data for Shiba Inu. By analyzing the distribution of wallets that hold Meme coins, we found that about 78% of wallet holders have less than $1,000. Most token economies follow a similar development curve. It shows that retail capital generally flows into Meme coins, and tokens are concentrated in a few wallets. For example, according to IntoTheBlock, about 80% of Shiba Inu are in 58 wallets.
But new meme projects rarely generate big returns on small amounts of money invested. The biggest return on a six-figure investment I saw from PEPE’s recent rally was $100,000 doubling to $1 million in three weeks.
I sampled the 100 wallets that achieved the highest returns and plotted their initial capital deployed. Of these 100 wallets, only 3 wallets had funds exceeding $10,000. Most of the investors who achieved huge returns were those who invested smaller amounts.
There are two possibilities for this data:
Meme coins offer smaller investors a way to earn huge returns (by investing early);
Or these are often insider wallets who got involved in the Ponzi scheme earlier than others.
Here’s a summary of what we’ve seen so far about Meme Coin:
As long as large exchanges support it, Meme assets can become “legitimate” financial products;
A small number of early entrants with smaller amounts of capital, whose key to huge returns is to "get one step ahead of others";
Most investors invest less than $1,000;
Most of the big returns we see come from investments under $10,000;
Meme assets are similar to Ponzi schemes in that they can quickly die out if inflow of buy-side liquidity stops. Exchanges solve this problem.
How to correctly view Meme Coin?
People often have an optimistic view of the world. This is because we believe that as long as we remain optimistic, everything will go well. This is often called the "blind optimism principle." When retail investors follow the crowd and buy, they often assume that other investors have conducted a comprehensive investigation of the project.
Many crypto natives measure their wealth in Bitcoin or Ethereum. To outperform your peers in the market, you need to take on more risk. In times of low volatility, even leveraged trading doesn’t necessarily create the returns traders seek. So they take higher and higher risks on “new assets,” thinking that most of these assets will go to zero and some of them will help them generate huge returns.
As meme coins become less influential in the market, their volatility begins to mimic other tokens. In the chart above, two early meme coins, ELON and Shib, begin to have similar volatility to Bitcoin. Large fund managers also have this tendency to make riskier bets and hold on to them. Early adopting fund managers are also better at hedging and exiting cryptocurrencies during bull and bear cycles. This is not much different from retail investors who are just trying to catch a meme coin craze as early as possible.
Meme coins are not held hostage by evaluation, but are perpetuated by faith. With just a few clicks of the mouse, tools can be found to issue and trade them. As long as the community's faith does not collapse, we will see a surge in speculation around these assets. In fact, regulators can play a role by requiring exchanges to establish a framework that stipulates the listing standards for Meme coins. However, if liquidity shifts to decentralized exchanges, any framework from regulators will mean little. The most extreme case is like the sanctions imposed on Tornado Cash. The problem we face as an industry is that those who (pretend to) make cool things also (often) peddle these junk projects. When the market worships "dog projects" while demanding regulation, it is difficult for users' needs to be taken seriously.
We live in an age where money has become a meme. Our generation is facing an economic crisis between inflation and rising unemployment. People will try every way to make a little extra money, and meme assets and NFTs are born. As an industry, all we can do is be louder about the risks of investing in meme assets and cheer loudly for builders who create useful tools that people can use at any time. Building a sustainable ecosystem requires both.
