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Jamie Dimon was widely ridiculed for his statements on Bitcoin a few weeks ago. Laura Chin and other cryptocurrency “experts” called him out for both ignorance and hypocrisy for comparing Bitcoin with the Tulip market craze of the 1700’s. Dimon may have missed the mark and displayed an ignorance of what Bitcoin is and how it works, but one thing is certain: we are witnessing an Initial Coin Offering (ICO) fever inspired by the rise of cryptocurrencies.
This “fever” has been driven by a disruption in how ventures raise funds. We are at an extraordinary time in financial history, and the tech world is being transformed as startups move away from IPOs and turn to crowdfunding and ICOs. As fascinating as the rise of ICOs and cryptocurrency have been to watch, those of us working in tech cannot help but think back to the first dotcom bubble burst in the mid 90’s when funding seemed limitless and values rose at startling rates.The fever around ICOs is not dissimilar. Those of us familiar with startup tech in southeast Asia and other emerging markets have been witnessing this ICO fever first hand.
Recently an entrepreneur in Thailand told me they were planning on raising $20M-$30M in an ICO. They are a first time entrepreneur with an early stage venture, but stil counting on an ICO to raise mad money. One cannot help but step back and wonder where this all will end. For that reason, having a firm understanding of how ICOs work is necessary to navigate this new world of fundraising and investing.
How ICO’s Work and Why They Found a Niche
ICOs, or Initial Coin Offerings, are defined by Investopia as “an unregulated means by which funds are raised for a new cryptocurrency venture.” They are used, particularly by startups, as an alternative source of funding and allow startups to bypass regulated capital-raising measures required by venture capitalists and banks.
An ICO is usually a crowdfunding event that lasts over the period of a week or more. A specific fundraising goal may be set, and every token issued may have a predesignated price during the fundraising period. Alternatively, there may be a dynamic fundraising goal; the more funds received, the higher the value of the token. The token supply can be static or dynamic, depending upon the parameters set by the fundraising entity.
A percentage of the cryptocurrency raised in an ICO is sold to early backers of the project, usually in Bitcoin. Early investors are primarily motivated by the hope that the venture is successful and the value of the ICO will increase dramatically. Every investment naturally brings risks and the hope of a windfall upon success. ICOs are more risky, however, because they lack the regulation of traditional fundraising, and some ICO fund raising initiatives have been found to be fraudulent.
What Is Driving the Rise of ICO’s and Cryptocurrency?
Understanding the fever around ICO’s requires understanding the strong desire for cryptocurrency. Cryptocurrencies are digital currency that uses digital security, like blockchain to create a secure form of currency that is not regulated by governments nor hackable by those with sordid intentions. They also fluctuate in value much like stocks, meaning there is the opportunity to earn by investing in them. They worked their way into the mainstream as stories of early investors becoming millionaires based on investments of $500.
These instant fortunes brought lots of attention to cryptocurrencies from outside of the traditional investment market.
Yet, for many people who have never dealt with virtual currency and are used to traditional, hard currency, cryptocurrencies are so foreign in nature they are difficult to understand. The language around them in itself is intimidating. If you’re a traditional investor living in a country with a stable financial sector, they may not seem worth the risk.
However, if you are living in a region where banking or governments are not necessarily trusted or stable, the idea of a currency not regulated by potentially corrupt governments and banks is an attractive one. Add to that the security that blockchain lends, and the appeal to regions with unstable financial institutions is not only obvious, but potentially transformative.
Cryptocurrencies provide both a safe vehicle for currency, but also a method for investment as value fluctuates. Each coin is self contained and timestamped, and behaves like data moving through a network. They can be controlled by one entity as a centralized currency, or by the public and be totally decentralized. Because they inhabit thousands upon thousands of nodes all over the world, no one entity can control them.
The Potential for Transformation of Entire Markets
In 2016 the IMF released an IMF Staff Discussion note where they described Virtual Currencies (VCs) as offering “many potential benefits, including greater speed and efficiency in making payments and transfers—particularly across borders––and ultimately promoting financial inclusion.” That financial inclusion may mean that markets in Sub Saharan Africa, Southeast Asia, and other regions where financial stability has been lacking will have a secure vehicle for saving and investing.
The opportunity for global transformation, for access to fundraising, investing, and secure financial vehicles is so powerful it is driving the IOC fever, along with the opportunity to make a tremendous amount on an investment.
There is a lot of money to be made, and a lot of risks inherent in investing in IOCs. Understanding how IOCs work and the viability of the ventures utilizing them will go a long way to ensure wiser investments.
Key Takeaways to Raise or Invest in ICOs
Dragon Corp, a gaming company based in Macau, recently announced their intention of raising $500 million in ICO to integrate blockchain into the online gambling market. This news has created quite a stir, as China recently banned cryptocurrency sales yet investors are backing the ICO. This leads to the question: how can an investor assess ICOs? Here are some questions you should be able to answer before investing:
- Does the venture have integrity? No matter what the technology or business model, the venture you’re investing in needs to solve an existing problem. The most successful startups solve a problem that the market is desperate for, and the bigger the problem, the more chance of success.
- Is disruption possible? The greatest possibility for success is if an industry is ripe for disruption and the ICO you’re investing in provides the means to do just that. Think of Airbnb and Uber; neither the hotel industry, nor the taxi industry, is the same since they came onto the scene. If the venture you’re investing has the opportunity to disrupt an industry your investment has a better chance of paying dividends.
- Have the founders done their research? A glitzy sales pitch does not a success make. Take time to investigate the claims of the venture you’re considering. Do their statements and predictions stand up? Learn as much as you can about the industry they’re attempting to disrupt or change, and verify what you’re being told.
- Research the people. After you’ve done due diligence on the sales pitch, research the people who will be making the venture come to life. What is their background? Is there proof of past success related to the goals of the startup? Is there transparency into internal communications? Basically, are these people worth investing in?
- Is the timing right? The best ideas in the world won’t get traction if the market isn’t ready for them. Solving problems that don’t yet exist won’t make a start up successful, nor will new solutions to a problem that’s already been solved.
The ICO market is growing at a staggering rate, estimated at over $100 billion. Some financial experts predict it reaching $1 trillion in 2018. ICOs have created incredible, unregulated opportunity for investors and startups, but that lack of regulation is the reason investors need to be more vigilant than ever about the ventures they’re considering and the ICO market itself.
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