Original author: Miles Deutscher, Crypto Analyst
Original translation: Mia, ChainCatcher
In the cryptocurrency space, the over-fragmentation of altcoins has become a core factor in their weak performance in this cycle. After further research, I found that this fragmentation poses a serious threat to the overall health of the cryptocurrency market. Unfortunately, it seems that we have not yet found a clear solution to this challenge.
I wrote this post to hopefully provide more insight into this critical issue that will impact the future of cryptocurrency. It will explain how we got here, why prices behave the way they do, and the path forward.
Cryptocurrency market flooding: token inflation concerns behind the surge in new projects
In the cryptocurrency market in 2021, there is a frenzy of enthusiasm. New liquidity is pouring into the market like a tide, mainly driven by the enthusiastic participation of new retail investors. The bull market during this period seems unstoppable, and investors' risk tolerance has reached an unprecedented peak.
During this period, venture capital firms began to pour unprecedented amounts of capital into the space. Founders and venture capitalists were opportunists, just like retail investors. The increase in investment was a natural, capitalistic response to market conditions.
For those who don’t know about private markets, in simple terms, venture capital (VC) invests money in the early stages of a project (usually 6 months to 2 years before product launch), when valuations are usually lower (and come with vesting clauses).
This investment helps to fund the project for development, while the VC firm often provides other services/connections to help get the project off the ground.
Interestingly, the largest quarter of venture capital funding ever ($12 billion) occurred in Q1 2022.
This marked the beginning of the bear market (yes, VCs accurately timed the market's top).
But remember, VCs are just investors. The increase in the number of deals also comes from an increase in the number of projects created.
Low barriers to entry, coupled with high returns from cryptocurrencies during the bull market, have made Web3 a hotbed for new startups. New tokens are emerging one after another, causing the total number of crypto tokens to quadruple between 2021 and 2022.
But soon after, the party was over. A chain reaction, starting with LUNA and ending with FTX, completely destroyed the market.
So what did the projects that raised so much money at the beginning of the year do?
They postponed.
Postponed again.
Postponed again.
Launching a project in a bear market is tantamount to a death sentence.
Low liquidity + poor sentiment + lack of interest means many new bear market projects die as soon as they come to market.
Therefore, the founders decided to wait for the market to reverse.
Finally, they waited for it in the fourth quarter of 2023.
(Remember, the biggest surge in VC funding was in the first quarter of 2022, 18 months ago).
After months of delays, these projects finally waited for market conditions to improve and launched their tokens. As a result, they took action and launched new projects one after another, entering the market continuously. At the same time, many new players also saw these bullish market conditions as a good opportunity to launch new projects and make a quick profit.
As a result, 2024 saw a historic number of new project launches.
Here are some stats. They’re crazy. Over 1 million new crypto tokens have been launched since April alone. (Half of these are meme tokens created on the Solana network).
According to CoinGecko data, the current number of crypto tokens in the market is 5.7 times that of the peak of the bull market in 2021.
Although Bitcoin (BTC) has reached an all-time high in this cycle, the over-fragmentation of the cryptocurrency market and the emergence of a large number of new projects have become the most serious problems at present and one of the main reasons for the market's continued struggle this year.
why?
The more tokens are issued, the greater the cumulative supply pressure on the market.
And this supply pressure is "additive".
Many 2021 projects are still being unlocked, with supply "stacking" each year (2022, 2023, 2024).
Current estimates suggest there is about $150 million to $200 million of new supply pressure per day.
This continued selling pressure has had a huge impact on the market.
Think of token dilution as inflation. Just as excessive money printing by governments causes the purchasing power of the dollar to decline relative to goods and services, an excessive supply of tokens in the cryptocurrency market reduces the purchasing power of those tokens relative to other currencies, such as the dollar. Excessive fragmentation of altcoins is effectively the cryptocurrency version of inflation, and it poses a serious threat to the overall health of the market.
And it’s not just the number of newly issued tokens that’s a problem, the low market cap/high circulation mechanism of many newly issued projects is also a big problem, which leads to a) high degree of fragmentation, and b) constant supply pressure.
All this new issuance and supply would be good if new liquidity entered the market. In 2021, hundreds of new projects are coming online every day — and everything is rising. However, that is not the case right now. So we find ourselves in the following situation:
A) insufficient new liquidity entering the market,
B) Huge dilution/selling pressure from unlocking
How can the situation be reversed?
First of all, I must emphasize that one of the key issues currently facing the cryptocurrency market is the lack of sufficient liquidity. The over-involvement of venture capital firms (VCs) in the cryptocurrency space has become a significant and harmful problem compared to traditional markets such as stocks and real estate. This over-skewed financing model has led to retail investors feeling frustrated that they cannot win. If they feel that there is no chance of winning, then they will not actively participate in the market.
The meme tokens that have dominated the market this year are exactly where retail investors are looking to win after feeling the lack of profit opportunities elsewhere. Because many high FDV (fully diluted valuation) tokens have done most of their price discovery in the private markets, retail investors often cannot get the 10x, 20x, or 50x returns that VCs can.
In 2021, retail investors also had the opportunity to snap up certain launch platform tokens and truly reap gains of up to 100x. However, during this cycle, with many tokens being issued at extremely high valuations (e.g., $5 billion, $10 billion, or even $20 billion+), there was little room for price discovery in the public markets. When the unlocked portion of these tokens began to flow into the market, their prices tended to continue to fall due to the massive increase in supply, creating further challenges for retail investors.
This is a complex and multi-dimensional question that involves multiple aspects and participants in the cryptocurrency market. While I cannot give all the definitive answers, here are some thoughts and perspectives on the current dynamics of the cryptocurrency market.
Exchanges can strengthen the fairness of token distribution
Teams can prioritize community allocations and larger pools of funds from real users
A higher percentage could be unlocked at token issuance (perhaps implementing measures such as a tiered sales tax to discourage sell-offs).
Even if insiders don’t enforce these changes, the market will eventually do so. Markets always self-correct and adjust, and as the effectiveness of current models diminishes and the public reacts, things may change in the future.
At the end of the day, a more retail-oriented market is good for everyone. For projects, venture capital, and exchanges. More users is good for everyone. Most of the current problems are symptoms of short-sightedness (and the industry’s immaturity).
Also, on the exchange side, I’d also like to see exchanges be more pragmatic. One way to offset the crazy new listings/dilution is to be equally ruthless on delistings. Let’s clear out those 10, 000 dead projects that are still sucking up precious liquidity.
The market needs to give retail investors a reason to come back. At least, this can solve half of the problem.
Whether it’s Bitcoin’s rally, an Ethereum ETF, a macro shift, or a killer app that people actually want to use.
There are many potential catalysts.
Hopefully I have been able to provide some understanding to those who may be confused as to the recent price action.
Fragmentation is not the only issue, but it is certainly a major one – and one that needs to be discussed.
