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The Rise of the DAO
You’ve heard the term by now:
DAOs, aka Decentralized Autonomous Organizations.
These groups have become the hottest new trend in crypto. By pooling money from thousands of individuals, DAOs have allowed regular investors to buy everything from million-dollar Cryptopunk NFTs to promising DeFi startups.
There have also been major flubs.
In January, Spice DAO paid $3 million for an original 1975 copy of Dune, allegedly believing it granted copyright to the source material (It didn’t). And scams are a regular occurrence in this space. In December, blockchain security and analytics company PeckShield estimated that hackers had pilfered $115 million from BadgerDAO investors.
But DAOs also represent the next big thing in token finance. If you can’t afford a $25 million Cryptopunk, you can still become a stakeholder by buying into the right DAO.
I’ve long written that the time to invest in tokenization is already here. With DAOs, it’s possible for investors to join in for even less cash up front.
The 3 DAOS to Buy
Let’s be honest.
DAOs usually aren’t 2x… 5x… 10x returners.
Instead, they’re often aimed at supporting causes. The Komorebi Collective and HerstoryDAO seek to support women in crypto while Buy the Broncos DAO (BBD) has a more simplistic goal of… well… buying the Denver Broncos.
Personally, I fully support buying into charitable DAOs with noble goals. But there are some DAOs where profit is the key motivator. Rarible DAO (RARI-USD) has seen its token rise 10x in the past year, and Ethereum Name Service (ENS-USD) has seen revenues grow 20x since the start of 2021.
From this list, I’ve selected three DAOs with promising characteristics:
- Underlying Quality. Invested in a high-growth, high-quality asset.
- Governance. Large enough to minimize “51% attacks,” with proven governance strength (i.e., probably won’t run away with your money).
- “Special Sauce.” Adds unique value in its own way.
Compound Finance (COMP)
Would you like to earn passive income from your cryptocurrency?
With Compound Finance (COMP-USD), you can.
The DAO’s star-studded governance board — which includes Andreessen Horowitz and Bain Capital Ventures — has helped COMP go from a small startup to one of the largest platform lenders in the world. And because Compound Finance is a market-maker (rather than a direct lender), COMP investors have some degree of protection from crypto volatility and defaults.
Prices are also beginning to look reasonable. Since November, COMP tokens have fallen 70% in value, down to the $100 range. Regulators have also turned their attention away from non-bank lending as they struggle to contain Bitcoin’s (BTC-USD) rise.
That’s making Compound Finance’s token look reasonable again. Though every lender runs the same risk all banks face, COMP is the closest thing you’ll find to a Wells Fargo (NYSE:WFC) in the Wild West of crypto.
When it comes to risky bets, there’s an old saying: There’s safety in numbers.
And when it comes to BitDAO, that idiom rings true.
The world’s largest DAO-directed treasury has become a source of level-headed decision making while other organizations fall victim to in-fighting.
BitDAO was founded in August 2021 in partnership with the Founders Fund, Bybit and 30 other members. Its goal: to invest in promising DeFi projects and build the BitDAO ecosystem.
The DAO has benefited from its relatively centralized control. The organization has now funded three major projects with a 100% unanimous “yes” votes.
- Blockchain Gaming. Game7 will focus on open-source public goods fundings, education, and strategic capital.
- Education. Edu DAO will fund university blockchain ecosystems.
- Scaling Solutions. zkSync will create a Layer2 scaling solution for the Ethereum network.
BIT prices hover around $1.40, not far off their all-time lows. If BitDAO succeeds at turning these open-source projects into a strong ecosystem, investors might expect a return to the $3 range it commanded last year.
Finally, investors looking for some stability should consider Uniswap (UNI-USD), the largest automated market maker (AMM) governed by a DAO.
The reason for buying Uniswap is straightforward. Liquidity pools have positive network effects; larger pools attract more market makers, which lowers prices and incentivizes more users to join. It’s a virtuous cycle.
But the timing has always been tricky. In September, I called Uniswap a “traditionally high-priced crypto,” and said “investors need to selectively use dips to buy.” $15 billion for an AMM was too steep a price, even for such an outsized organization.
Now that prices have fallen 70%, it’s time to start taking Uniswap seriously again. With DeFi trading on the rise, this DAO has found itself in just the right industry at precisely the right time.
Dogs of the DAO
Many DAOs have also fallen far short of their promises. In November, a group known as ConstitutionDAO failed to buy an original copy of the U.S. constitution. And CityDAO, a group that bought 40 acres of Wyoming land, would ultimately lose several hundred thousand dollars in a high-profile phishing scam.
It turns out that the DAO’s most promising feature — namely, leaderless decentralization — can also work against it. With no central authority, DAOs often struggle to find a direction or respond to unexpected threats.
- Badger DAO (BADGER-USD). The hacked DAO has struggled to agree on restitution for members who lost money in a high-profile hack. Token prices are down 90% from their all-time high.
- SuperRare (RARE-USD). The promising NFT exchange has degenerated into a haven for wash trading. Token prices have fallen 85% as insiders have cashed out.
- Horizon Protocol (HZN-USD). Synthetic assets are great in theory, but HZN couldn’t deliver on the dream. Prices are down 97% since its 2021 ICO.
The Governance Trouble With DAOs
On Feb. 9, BUILD Finance DAO suffered a “hostile governance takeover” after a member hijacked the group’s governance system.
By disabling the DAO’s Discord server bot (which was meant to announce new proposals), the unnamed member was allegedly able to propose and make lopsided changes without anyone noticing.
The results were devastating. Once the perpetrator gained control, they would mint 1 billion new BUILD tokens for themselves before withdrawing everything.
The saga emphasizes a problem that Ethereum co-founder Vitalik Buterin highlighted in 2014:
“DAOs are… vulnerable to collusion attacks, where (in the best case) a majority or (in worse cases) a significant percentage of a certain type of members collude to specifically direct the [DAO’s] activity.”
In the case of BUILD Finance, the scammer managed to wrest away control with underhanded tactics. But such shenanigans can also happen legitimately; initial members that own 51% of a majority-controlled DAO could theoretically walk away with the other 49%.
Public companies have long used corporate boards to help protect the rights of minority holders. Perhaps with time, DAOs will realize they will have to as well.
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On the date of publication, Tom Yeung did not have (either directly or indirectly) any positions in the securities mentioned in this article.
Tom Yeung, CFA, is a registered investment advisor on a mission to bring simplicity to the world of investing.