Let’s imagine that there’s a private company you want to invest in—a Stripe or Figma or Plaid. You check out a site to buy private shares, possibly EquityZen or Forge Global, but you run into issues. Maybe there aren’t any shares to buy, or maybe they’re only being sold by a single party at an exorbitant price, or maybe you need to be an accredited investor with at least 2.1 million dollars. Luckily, since this is an imaginary exercise, we can imagine you however we like. So let’s even imagine that you are quite wealthy, with a couple million in wealth—after all, you’re an investor looking at pre-IPO private shares, dammit!
But unfortunately, our imagination hasn’t gone far enough: you can’t include the value of your primary residence, that nice imaginary townhouse you just renovated downtown, and you realize that even your imaginary timeshares in Deer Valley or Tahoe still aren’t enough to get you across the threshold. And so, when you look in the mirror, you see what the SEC sees: that being a mere multimillionaire won’t give you the privileges of the accredited class.
But let’s imagine that a new crypto project comes along—let’s call it Synthesyze—that lets you mint tokens pegged to the value of pre-IPO projects like Stripe or Figma or Plaid. You have to put up some collateral in $SYZE, 150 or 200 percent of the asset’s value, but if you can do that, you don’t need to have a house in Deer Valley or Tahoe. You don’t even need to have any more money than you’re putting in. You effectively own equity in Stripe, and Figma, and Plaid. Not real equity, of course. But synthetic equity—and isn’t it more or less the same thing?
You have effectively discovered User-Generated Finance: the possibility not only of recreating entire financial markets through decentralized, peer-to-peer platforms, but of creating and pricing whole new ones you never would have had access to.
As it turns out, there’s at least one project working on synthetic shares like the one above: Terra’s Mirror Finance, which lets you purchase derivative shares in public stocks like Amazon (mAMZN), Tesla (mTSLA), and Twitter (mTWTR). They don’t currently offer shares of private corporations, which are presumably harder for their oracle to price every 30 minutes and more boring to day-trade with valuations that remain constant for years. But they do let anyone anywhere with access to crypto invest in these markets—well, these synthetic markets—at any time of day.
The premise is a simple one: knock-off crypto tokens for equities are better than the real thing. What’s startling is that this premise appears to be true.
We can see why if we imagine Mirror Finance letting anyone anywhere invest in private companies à la Synthesize. Let’s compare synthetic equity to angel investing:
Synthetic equity would anyone invest; angel investing only lets accredited investors
Synthetic equity would allow anyone to invest whenever they wanted; angel investing only allows for investments for specific raises
Synthetic equity would let users find and invest in any project they like; angel investing forces them to access from the company or a syndicate
Synthetic equity would let investors keep all their profit; angel investing typically costs setup charges and 20% in profit through syndicates
Synthetic equity allows investors to sell their shares whenever they want; angel investing (and Venture Capital generally) requires investors to wait years for an acquisition or public listing
It’s possible to make a case for angel investing over synthetic equity, but only by acknowledging the terms above and pretending they’re in favor of the angels. Exclusive deal flow is a proprietary advantage! Private market investors don’t have to think about their deals all the time! Deadlines for investments help angels to commit! And so on.
Of course, a squabbler might point out the impolite fact that synthetic equity isn’t available for private markets, at least not yet. That’s true, but misses the bigger point. Every comparison above holds true in comparing crypto against private markets as a whole. In crypto’s user-generated finance, anyone anywhere can invest and sell at any time and keep full profits. None of that holds for private markets, which remain highly exclusionary to retail investors.
As every consumer and creator market barrels towards disintermediation, crypto in many ways marks the final step: past the streams of robo-advising and hills of Robin Hood, crypto lets anyone with a bit of savings put their money directly into projects that excite them. Given that crypto likely marks the first time retail investors ever beat professional investors to major success, we might think about defi crypto doing the same thing for investors that Substack, Only Fans, or Roblox have done for creators: giving them a peer-to-peer platform.
This is why synthetic equity is crucial for understanding crypto. As the Gamestop saga recently showed, giving retail investors more avenues to invest also means giving them more pricing power. And how should retail investors price crypto tokens? There are a few ways, but the most powerful, I think, is to price tokens as synthetic equity.
Let’s take Uniswap as an example. Uniswap’s token, $UNI, currently stand with a market cap of around $15 billion, the #8 cryptocurrency on the market—but much like bitcoin, it has no great utility. Uniswap, the most popular decentralized exchange, processes over a billion dollars of transactions per day and pays out commissions to liquidity providers on each, but none of this is done with the Uni token. In fact, Uniswap only released its token after its competitor Sushiswap had launched its own, for good reason: it’s never needed a token. Uniswap’s site dubiously says that the token offers some governance rights and “ownership” of the community treasury (worth about $500M, 1/30th the market cap), but it’s not really clear what these mean as Uniswap makes its own decisions on updates. Uniswap also promises that if they implement a protocol fee, the commission will go to $UNI holders, but there’s no guarantee this will happen.
A professional investor would likely wag their finger at the retail investor for such colossal stupidity. Even if the tokens did earn some commission, the professional might say, we’d have to remember that tokens are not equity. Tokens don’t give us partial ownership in a profit-aiming enterprise; they are not shares in a company. Ok, the professional might pause to admit, there are a few exceptions for tokens that offer partial ownership in securitized assets like real estate, but we all know that the SEC crushed many of these in the ICO craze and forced the rest to jump through legal hoops. As a result, the remaining tokens might give us transaction commissions or governance rights in a DAO, but they don’t give us equity.
Here, the retail investor might think for a second before giving two answers. First, they would say, the pricing does make sense. Uniswap has said that it will implement a protocol fee of 0.05%, or roughly $300M a year under current conditions. That implies a Price-to-Earnings ratio of around 50x to get to a $15B valuation, but that’s for an almost entirely decentralized operation that incurs close-to-no costs and continues to grow exponentially; consider that a capital-intensive company like Tesla has recently been trading at a P/E of around 1000x. Of course, it just requires two assumptions: 1) that Uniswap will become a DAO in distributing its fees among its token-holders, 2) that Uniswap will implement the protocol fee when it does. In other words, we have to treat the tokens as synthetic equity, standing in for the valuation they would have if they operated like shares in a company.
These are some pretty tremendous assumptions to make about a pretty unnecessary token, of course, but that’s also the point. Sure, many tokens don’t have any inherent value. But what if we all just agreed to treat them as if they were equity anyway? All we really need is just a little nudging from the vague promises of some big-name projects. And very quickly, every token would become synthetic equity—for its very own project.
Now the retail investor prepares the coup de grâce. Of course, they acknowledge, the professional will balk at this logic of pricing a token as equity, of pricing something as what it’s not. But that’s what retail investors are used to doing anyway. For professionals, stocks can offer significant ownership rights for hostile takeovers and pressuring the board based on advanced analysis of cash flows; for retail investors, though, they usually are just enthusiastic bets on how much everyone else is going to like the thing. Stocks don’t really have any more value than tokens either for retail investors: if they don’t bear dividends, they don’t offer any direct value to the retail investor beyond what everyone else assumes they should be worth.
In other words, all stocks are just synthetic equity for the retail investor, derivatives for the ownership we wish we had.
Still, we have to admit that this is a somewhat unstable arrangement. Once we’ve given power to other retail investors to price tokens as synthetic equity, to price them as something they’re not, we open ourselves to more speculative leaps as well—to price tokens based on sentiment and to discard cash flows altogether. At a certain point, we have to accept a bubble’s logic that it is irrational to price prices rationally, and it is much more rational to price prices irrationally. Like all money, these tokens only have the value everyone else thinks they have… or rather, the value everyone else thinks everyone else thinks they have.
So who wins this battle, the retail investor or the professional? User-generated finance or the old school gatekeepers?
On the one hand, it seems clear enough that the professionals are already moving in to make crypto respectable. Crypto firms and hedge funds are claiming huge segments of the market and applying Wall Street models to make their valuations. Defi projects in particular lend themselves to the professionals’ discounted cash flow modeling, and even if we find the logic of standard models to be suspicious, it is logic nonetheless that should ground prices long-term in a more or less agreed-upon value. It is telling that despite the massive advantages for individuals to invest in crypto rather than venture capital, crypto is becoming more like traditional venture capital rather than vice-versa: crypto VCs drive valuations (with analysis), drive value (with their mere involvement), and get significant discounts on tokens.
So sure, in all likelihood, the Gamestop Era of speculative investing will come to an end. The volatility of the markets will likely decrease, bear-bull cycles will shorten and become less extreme, and crypto may, one day, become fairly boring. Tokens like $ORN and $BAT that actually have financial utility will last while many others fade away. Those of us who go to the moon will stay there and invite our neighbors for the Sunday game.
But on the other hand, we have definitively entered the era of User-Generated Finance, in which finance itself is increasingly disintermediated, decentralized, and (hopefully) democratized, just as the creator economy has been. What synthetic equity shows us is that retail investors are the ones with power to decide that tokens have worth—even if professionals will try to dictate what that worth is. It’s the retail investors who determined that Bitcoin has value, and so, the professionals must concede, it does.
Just as the Fidelities and Schwabs have had to compete against Robinhood for allowing easy access to the stock market, it’s not unrealistic that private investment protocol will have to compete against crypto for easy access to up-and-coming projects that are created and funded by retail individuals. To some extent, this has already been happening for a decade. Both Medium and Kickstarter found ways to amplify the voices of individual projects in the 2010s, though neither the creators (Medium) nor funders (Kickstarter) could effectively monetize. Crypto’s disintermediation of finance offers the next step, allowing individuals on both sides to monetize and invest through platforms like mirror.xyz.
We’ve focused so far on advantages for investors in pursuing crypto rather than private markets, but we can make a last note here: User-Generated Finance offers massive advantages to projects as well. Above all, these projects now have investment armies of thousands that become their proselytizers, just as creators increasingly tap into superfans to distribute their work. Instead of paying to advertise, they effectively get paid for it in the form of more democratized funding. Hostile shareholders and old-fashioned marketing tools like corporate advertisements and sponsorships may become a thing of the past. I’ll let you decide if you think people-as-ads represents democracy, dystopia, or both. The real point is that in the UGF era, we’re not only all patrons and creators: we’re the means of distribution as well.