The ability to generate a token in Ethereum (ETH) has basically existed since Ethereum was invented and is not a new phenomenon compared to DeFi. Many different variants of tokens have emerged over time.
From utility tokens, which are sold through an initial coin offering (ICO), to non-fungible tokens (NFTs), governance tokens that are widespread in the DeFi space, or even memecoins, the Ethereum community already has all kinds of of Witnessed tokens. experiments
This tangle of tokens, difficult for newcomers to understand, has caused many people to view tokens as useless. Many think that they are purely speculative and do not offer any fundamental value. But as with so much in the world of cryptocurrencies, that’s only part of the truth.
Especially in the world of decentralized finance, new token models are currently being created almost every day. These models are fundamentally different from NFTs or memecoins. They could be extremely interesting in the near future, especially for investors from the traditional financial world.
What are governance tokens?
Most DeFi tokens on Ethereum are primarily coordination tools. They allow people from all over the world to come together to achieve common goals. To achieve this, holders of many DeFi tokens are, in some cases, given monetary rewards or other benefits.
The best known example of this type of token is “governance tokens”. Many DeFi projects have been issuing “governance tokens” to their community since the middle of last year. Some of the best known projects that have done this include SushiSwap (SUSHI), Uniswap (UNI), Compound (COMP), or 1inch (1INCH). These protocols have used liquidity mining programs or airdrops, among others, to distribute governance tokens to members of their community.
Typically, these types of tokens are sold as “worthless” (likely for regulatory reasons). In most cases, their owners can only use them to vote on protocol changes or to submit protocol change proposals. Known DeFi tokens that can currently only be used for this purpose are UNI, COMP, and INDEX.
Therefore, the goal of these tokens is to decentralize DeFi protocols. The community must have a sense of joint ownership. Furthermore, this should merge both the interests of users and the interests of DeFi protocol operators. Therefore governance tokens can be anything but useless.
One criticism of governance tokens is how the tokens are distributed. In some DeFi projects, it happens that a large part of the tokens are already owned by some people or groups in the first rounds of investment. This centralized distribution may have long-term adverse effects for the DeFi protocol.
Can DeFi tokens have intrinsic value?
Existing governance tokens are seen by many users as worthless because they only grant voting rights and do not share in the profits of a DeFi protocol. Anthony Sassano, co-founder of Ethereum analytics site ethhub.io, finds this view short-sighted:
I think this is a short-sighted view, as many DeFi protocols are incredibly young. So I think it makes sense that most of the revenue they generate is reinvested in growing the protocol rather than being paid to passive token holders.
Today it is already possible for token holders of DeFi protocols to share in the revenue of a DeFi project. For example, SushiSwap and Aave (AAVE) token holders have already voted for SUSHI and AAVE holders to share a portion of the protocol revenue by staking their tokens.
If we look at the above graph of token terminals you can see that SushiSwap is currently generating over $60,000 in signup revenue almost daily. Currently, the SUSHI community has voted for just under 0.05 percent of this revenue, that is nearly $3,000 per day, to flow directly to all SUSHI stakeholders.
Because of this, governance tokens can actually have fundamental value. The community of a DeFi project only has to decide to pay the registration profits to the token holders. The fundamental value of a token can be derived directly from DeFi protocol earnings. The amount of income that the different DeFi tokens generate can be seen in the Token Terminal.
We are likely to see a variety of token models in the coming months and years. Many of the models will fail, but some of them may well have substance and effectively represent the value of their underlying networks.
In the future, therefore, investors from the traditional financial world in particular are likely to discover the DeFi space for themselves. This is because the business models of many DeFi projects are very similar in their basic operation to those of financial institutions in the traditional financial world. Therefore, many DeFi tokens can be valued using similar valuation criteria as companies in the traditional financial world.
This article was previously published in June 2021. It has been revised and updated accordingly for republishing.
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