The Fight Between Retail and VC
The zero-sum, or even negative-sum game between retail investors and venture capitals in Web3
VCs acquire tokens at a discounted price before the retail investors, dumping them at the market price at the end of vesting periods, creating considerable sell-side pressure.
The origin of the game came from the fact that startups, businesses, or organizations, whether it’s Web2 or 3, need financing to grow. Given that, they seek capital in return for some form of capital ownership, which can be equity, debt, or token. Once there is a liquid market or direct demand for those ownership assets, initial financiers can sell to exit, yielding a return on their investment. Hence, incentives of all parties, investors, and startups are somewhat aligned to make cooperation.
In non-Web3 oceans, ownership is generally in the form of equity or debt. In Web3, ownership can also be in the form of tokens. However, for the sake of this article, the fundamental difference between Web2 and Web3 is the timing of forming a liquid market, meaning that it’s about when investors can sell their positions. The initial public offering, the common liquidation event of non-Web3 companies, is a more late-stage financing event for businesses. It’s commonly regarded as an exit.
However, in Web3, the launch of tokens means forming the liquid market, which means an exitable position. Hence, launch of tokens == exit. That’s why there are generally extended vesting terms; otherwise, whoever puts money into the magic box of the startup game, can get an appealing return on investment in just months. This wasn’t a problem in Web2 because IPO is a late-stage financing event, and the business has a long record of tracks and data to valuate the company. As the initial token offering is a launch event, there’s no data to model the company's valuation. Hence, valuations are free-floating numbers that came from thin air. Generally, it’s a number game. VCs want higher price differences between financing rounds, making them yieldly. Then, founders open the tokenomics sheet and change the token prices according to what VC wants. Isn’t it super fun to play around with numbers that make you rich?
The economic and business effects of an early-stage form of the liquid market are not the talk of this piece, but I think it’d be an excellent topic also to discuss. In greatest terms, VCs make retails their liquidation.
We have two players in the game.
Venture capital is investment funds that deploy capital into startups to make an appealing amount of money. VCs can invest at a discounted price earlier than retail, before the ICOs. Hence, VCs are strategically better off than retailers as they acquire tokens with an attractive discount. Moreover, they generally have comprehensive information about important dates, maybe a listing or a new partnership.
Retail is an individual investor, primarily a non-professional player, looking for profitable trades to make money. They generally can’t participate in discounted deals as VCs, only eligible for public deals like ICO or IDOs. Moreover, they can only perceive what’s reflected, not what’s behind the scenes; hence their information set is not extended as VCs.
Retails already start off the game behind 2-0 back as they don’t have discounts and extended information sets.
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Let’s talk more about what’s happening. Private investors (generally VCs) buy tokens at a discounted price. Once the market is created, they have a technically positive balance sheet; hence they can sell immediately to realize the profit. Wait, what?
However, they typically have vesting terms, including cliff; hence their tokens are locked for a certain amount of time and will be released according to the vesting periods. Generally, they have linear monthly distribution over 6-18 months with 3-6 months of initial locking (cliff).
Given that they had an attractive discount on the initial token investment, they often dump tokens at the market price, creating considerable sell-side pressure. Sorry guys, but this is free market capitalism. What do you expect from VCs? Not selling?
Hence, the real point here is not diving deeper into why VCs are dumping the tokens but what you can do as retail. First thing off, knowing when the unlocks are super helpful. There are some interesting projects like @UnlocksCalendar (no affiliation), which provide retail investors with which token will be released and when.
Moreover, if you have an understanding of the unlock timelines, you can set up trading strategies accordingly. For example, you can open short positions in the market, maybe with leveraging, to compensate. Don’t need to say this is not financial advice.
Hence, the design of vesting terms to align the incentives of all parties, founders, VCs, and retailers, is a supercritical action to take before token sales.
As VCs help founders to ground up, I think they fairly deserve some discounts. But if these discounts are superior, they can create a super downside trend.
Here are some thoughts on the design of vesting terms.
Discounting: 10-15% per round is good (Don’t ask why)
Retail-first & VC-second vesting: As VCs have an attractive discount on the token price, their vesting terms can be extended more concerning retailers. For example, VC unlocks can begin once retail unlocks are completed. This ultimately prevents retailers from VCs dumping. But, then, VCs will be dumped. The thing is, even though there is a public dump, there is a great probability of being still positive as the publdump’sp’s effect may be inferior to their discounts.
OTC: Big shorts can be made in the over-the-counter market. Probably, there will be private demand who wants the buy a large portion of VC tokens, and this can be the founding team or treasury.
Inverse Bonding: It’s the same philosophy in OTC but with a different implementation. Inverse bonds sell tokens to the project treasury in return for some treasury assets, commonly LP pairs, with a above market price with short vesting terms, somehow preventing the huge dumps of tokens at the market.