Issue #71: Why Bear Markets Can (and Should) Last Years
I’ve had several discussions over the last month about how long the crypto bear market will last.
I rarely write about trading and asset prices…intentionally…because I don’t have a clue what the market will do. There are so many factors dictating whether something goes up or down, and fundamentals usually aren’t one of them.
I did, however, want to explore why previous crypto bear markets have lasted for 2-4 years. It’s less of a case study about trading and more a case study about the pace of innovation and human behavior.
When markets crash, people with low conviction run for the hills. Capital and users are sucked out of the market.
Getting them back at the same pace and scale as before requires net new utility, and that takes time to develop. Bear markets can last 2-4 years because building new user experiences, asset classes…even an entire financial system, takes time.
There is one caveat though.
Let’s zoom in…
Fair Weather
Crypto is full of fair-weather investors and users (is there a difference?).
When the market is up, they rush in. When it’s down, most leave as quickly as they came. Their actions are motivated by fear, uncertainty and doubt, and those emotions are powerful in the absence of conviction.
Here’s a chart showing Active Ethereum Addresses per day over the last five years. As you can see, active addresses and price are tightly coupled.
At the peak of the last bull market on January 8, 2018, there were 615,000 active Ethereum addresses. At the bottom of the bear market in December 2018, there were 170,000 active addresses. A 72% decrease.
Active Ethereum Addresses didn’t reach their 2018 highs again until the Summer of 2020, 2.5 years later.
It’s the same thing this time around…
At the peak of the most recent bull cycle in April 2021, active Ethereum addresses reached 905,000/day. At the time of writing (June 18, 2022), there are 520,000 active Ethereum addresses. A 42.5% decrease.
I expect active addresses/day to continue dropping. It takes more than a small bump in price to get new users back to the table, and they aren’t enticed by the same thing that brought them in the last time.
This highlights an interesting and potentially problematic reality of Web 3 I heard from @nvs last week - that your investors are your users. When capital leaves, so do the people using your platform.
Web 3 users are investors first, users second, and economic incentives are driving behavior, not utility. This may be our biggest problem today and going forward, but it’s a topic for another issue.
Bring Em’ Back
Bear markets end when enough new utility (and momentum around that utility) is created to shift the narrative and market sentiment, attracting a wave of new capital and attention. Creating new utility and attracting attention takes time.
It took 2.5 years for active Ethereum addresses to revisit their 2018 highs. What brought them back?
DeFi.
The Ethereum community literally had to create a financial system from scratch using smart contracts to end the previous bull market. MakerDAO, Compound, Aave, Synthetix and Uniswap all raised money in the second half of 2017 (in the case of Uniswap, a series of personal and Ethereum Foundation grants between over 2017 and 2018). Coincidentally, it took 2.5 years for those protocols to be developed, tested, launched, and to find meaningful product market fit.
2.5 years.
To put this in the context of Web 2 growth cycles - it was four years between the burst of the .com bubble in April 2000 and the founding of Facebook in February 2004, and six years between the founding of Twitter in March 2006.
New ideas take time. And they should! We want entrepreneurs to be ambitious. To chase ideas that seem borderline impossible, and grind it out for years in obscurity until the stars align.
None of us want to wake up in 12 months and see another DeFi protocol fork with juicy incentives that evaporate in 6 weeks, or another NFT drop for 20,000 gimmicky jpegs. That’s not progress. That’s a money grab.
As a user first and investor second (because that is the correct order), I am willing to wait - 2.5 years if necessary - for real innovation that pushes Web 3 forward. You should too.
Here’s a great read on the History of Uniswap, written by creator Hayden Adams, describing his journey building and launching Uniswap V1.
The Caveat - “Multiple Narratives”
Do we really need to wait 2.5 years?
Macro-economic conditions aside, maaaaybe not.
In the early days, there was one narrative: Bitcoin. The crypto narrative revolved around one asset. When Bitcoin was up, the narrative around crypto was positive. When Bitcoin was down, the narrative around crypto was negative.
Today there are at least half a dozen quasi-independent narratives in the market:
Bitcoin
DeFi
L2s
NFTs
DAOs
Gaming
There is a ton of activity (both funding and development) happening in each vertical. These pockets of activity are evolving and finding product-market-fit at different times. Most importantly though, they can appeal to different users. There’s a segment of NFT users that don’t use DeFi, and vice versa. There’s a lot of DeFi users that don’t use or care about Bitcoin because they feel priced out.
Recall this last cycle - DeFi popped in the Summer of 2020, attracting millions of new users into Web 3. NFTs popped a year later in the Summer of 2021, bringing millions more, many of them new.
I’m not ruling out one or two of these narratives resonating with a new user segment and picking up steam in the short term, but I’m also not betting on it.
Parting Thoughts
Looking back at past cycles, one thing is obvious. Single, incremental steps forward don’t unlock the next growth cycle.
It takes dozens of complimentary, incremental steps forward, all colliding at the right time. The means hundreds of teams (because a lot of projects fail), working tirelessly for months, sometimes years, on really hard problems, in parallel.
Remember, Uniswap didn’t cause the last bull cycle. DeFi did.
Thanks for reading,
Andy
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