#13 The Context: DeFi’s hackers and backers

Apr 07, 2022

Hi, I hope you’ve had a good week. Our latest collation includes a look at the different kinds of challenges facing DeFi, how big VC investments not only impact DeFi, but are changing the strategies of the VC world itself. And a peek at payment processors and how they are trying to get their heads and arms around crypto.

As usual, a disclaimer: This newsletter collates the main themes and headlines of the week in DeFi/crypto/metaverse/web3/NFT land and offers some context. It’s aimed at anyone who wants to keep an eye on the space but isn’t following it too closely, or is on the hunt for story ideas and angles. It’s put together by a team at YAP, and doesn’t contain any promotion of our clients (if one is mentioned, we’ll flag that).

Your feedback is as always welcome. Ping us at thecontext@yapglobal.com

[tl;dr]

DeFi faces tests from all quarters: regulators, speculators, judges and hackers. Signs of strain or growing pains?
VC money is pouring into crypto, but in having to bend to crypto’s status and quirks, we’re getting a clearer picture of just how much
Payment processors — a favourite target of DeFi disruption — have already embraced crypto, mainly through partnerships with crypto exchanges and platforms to allow easier passage between crypto and fiat. So why is Visa suddenly funding artists?

[Testing Times]

DeFi is constantly being tested for its vulnerable spots — by speculators, lawyers, hackers and normal, but unpredicted, market moves. What doesn’t kill it will make it stronger:

Making Waves: Crypto’s nascent mechanisms are being forged in the white heat of the marketplace, where novel ways to make money walk a tight line between scam and smart thinking. Atop that are the governance mechanisms, which allow communities in each ecosystem to move the goalposts. All of which seems to be happening around the Waves blockchain project and trading firm Alameda. In TradFi markets are battlefields and traders will always be pushing the edge of the envelope. DeFi is unlikely to be any different. More here: Waves' USDN Stablecoin Loses Peg, Drops 15% Amid Manipulation Scare

Docket Wars: Other mechanisms are being tested in court -- in this case NFTs. Jessica Rizzo of Wired explores in The Future of NFTs Lies With the Courts that the first cases involving NFTs are now being heard, and how those cases are resolved is going to be vital to the space. “Because the law relies heavily on precedent, early judicial opinions in the coming wave of NFT-related litigation will have an outsize impact. Very soon, a judge is going to have to answer some foundational questions about the legal status of NFTs that will have major consequences for art and commerce in the metaverse."

And for a glimpse into the complexity and dependencies of the DeFi world, this piece, Can Terra escape the coupon coin curse?, is worth a read. In it ‘damsondao’ looks at Terra, which despite (or because of) its success at outperforming the markets, has attracted questions about the design of its stablecoins and partial use of bitcoin reserves. Its conclusion: Everything could pan out right for the Terra ecosystem. “Yet there is also a world where unfortunately Terra falls short of its ambitions, creating chaos across multiple chains as UST implodes.”

Hackers: And crypto is becoming a target for hackers, leveraging knowledge of the space and of more traditional hacking methods, including phishing. None of this is new, but the threat surface is. Now hackers have more options.

They can get in via third-party tools: Hackers found their way into the Discord chats of Bored Ape Yacht Club, and other major NFT projects. All relied on luring users to click on a link which would lead to stealing a user's NFTs and other wallet information. Elsewhere hackers also went after newsletter distribution service MailChimp's internal tools, enabling them to impersonate users or administrators. The hack appears to have been used for targeting customers of hardware wallet Trezor.
The Axie Infinity hack, on the other hand, used weaknesses within the crypto universe -- see “Fallout from the Ronin hack” below. Similarly, DeFi lender Inverse finance lost $15.6M after an attacker exploited a vulnerability in a price oracle used to track token prices. And Ola Finance lost $3.6M to an attacker who took advantage of a bug in one of Ola's smart contracts.

[VCs and Crypto]

VCs are having to open their kimonos a tad to be able to invest in crypto. As investors in companies, they are not obliged to reveal the value of their holdings. But if they want to invest in crypto they need to file their reports as ‘registered investment advisors.’ Which means more disclosure. It’s a quirk that allows us to peek inside VCs, and the numbers are big. Crypto fund Paradigm's assets under management rose 343% since December 2020 to $13.2 billion, while Andreessen Horowitz disclosed last week that its assets under management reached $54.6 billion. That’s up 53% from $35.8 billion in its previous disclosure (its crypto-focused funds total about $9 billion, and there's no data on how much that's grown.)

As Eric Newcomer, the author behind Newcomer (and a former Bloomberg and The Information reporter) points out: “These assets under management figures offer a glimpse into the sheer scale of firms like Paradigm and Andreessen Horowitz and how their size has continued to grow as they’ve poured money into crypto and startups.”

[NFTs and payment processors]

Payment processors — a favourite target of DeFi disruption — have embraced crypto, mainly through partnerships with fiat/crypto exchanges. Though their most recent partners might raise an eyebrow or two: struggling artists, musicians, film-makers and fashion designers.

**Visa** has created a program geared towards entrepreneurs working in the arts "looking to accelerate their small business through NFTs.” Visa jumped into the NFT world last August when it bought an NFT for $150,000, arguing that it saw “an emerging new category of commerce that we're calling NFT commerce”. Dig a little deeper and Visa's thinking is that NFT is less about art collectibles and more about a “new set of payment mechanisms that help companies reach customers and consumers earn rewards." Check out NFTs mark a new chapter for digital commerce ( PDF) for more.

Mastercard has made similar noises. “Getting more people involved safely and securely is perhaps the best way to help the NFT market thrive. As it does, Mastercard sees even greater potential for NFTs’ underlying tech to go beyond art and collectibles into many more areas,” Mastercard’s Raj Dhamodharan was quoted saying by Kate Rooney after it signed an NFT payments deal with Coinbase in January. The same month it announced it was hiring 500 college graduates to help expand its consulting services to cover NFTs and other services.

[Fallout from the Ronin hack]

What are the implications of last week’s $600 million Axie Infinity hack? Akash Pasricha of *The Information’s* Crypto Global newsletter quotes Justin Kan, founder of Twitch and more recently Fractal, as saying the lesson is to be careful when using your own infrastructure. Sky Mavis, the creator of Axie, based the game on its own blockchain, Ronin.

Hackers attacked the Ronin bridge, a sidechain built to make transactions faster and cheaper. The hacker used nodes for validating transactions using the bridge that were overseen by a DAO via an agreement that had lapsed last December.

Max Galka, CEO of crypto forensics firm Elementus, pointed to the lapsed DAO deal as a major oversight, according to Business Insider’s Phil Rosen, noting that vulnerabilities arise when cryptocurrencies are stored in sidechains rather than native blockchains.

Indeed, for some the infrastructure as a whole was shaky:

“If you go and make your own infrastructure … [security] is something to be wary of, to be honest,” Kan told The Information’s Pasricha. “I’m not saying you should never do it” but there’s a risk and reward tradeoff.

[Country adoption]

UK: The UK Treasury has outlined plans to regulate stablecoins and issue an NFT. Britain of course wants to be as much a DeFi hub as it is a CeFi one, and has lost a few players as it dithers over regulation. This seems to be a “Dad jeans" moment where the Financial Conduct Authority (FCA) tries to reverse course, calling for contributors for its first “Crypto Sprint” event on May 10-11 to bring together industry leaders — including technologists, crypto specialists, academics, regulated financial institutions, and consumer bodies. Check out Reuters' version of the story.

India: In a Hot Year for Tech Hiring, Coinbase and Rivian Grew the Fastest: Coinbase is hiring big, and apparently is the source of a lot of other crypto entrepreneurs.

China: China is pushing ahead with its central bank digital currency, or CBDC, with the People’s Bank of China adding 11 more cities to its digital yuan pilot program. It's also embracing the metaverse, preparing to launch its 2022 China Metaverse Week in Shanghai on May 20 (assuming the Covid outbreak there is under control by then).

U.S.: Pressure for the U.S. to create its own CBDC is coming from surprising quarters, including Democrat Senator Elizabeth Warren. She's no fan of crypto, believing it to be a bubble, and her main interest in CBDCs is as a way to tighten control of banks. This is not a new look for her: last year she told a hearing that “legitimate digital public money could help drive out bogus digital private money. It could help improve financial inclusion, efficiency, and the safety of our financial system.” Meanwhile lawmaker Patrick Toomey has proposed a bill that would specifically regulate stablecoins.

Australia: Australia, meanwhile is taking aim at crypto 'finfluencers', who face tough new legal restrictions if they fall wittingly or unwittingly into promoting financial products. The grey areas are legion: Cointelegraph quoted financial blogger Dave Gow as saying “writing almost anything could influence someone to invest or use any financial product.”

[Tidbits]

Ukraine: Ukraine’s digital ministry and crypto efforts are still going strong, with its official donation platform raising over $70 million in crypto. That would buy about 1,000 Javelin missiles or 2,000 NLAWs. More details on Ukrainian crypto donations here.
Facebook: Facebook owner Meta hasn’t given up on creating a currency, drawing up plans to to introduce ‘Zuck Bucks’ and creator coins, a virtual currency for its metaverse. This is unlikely to be blockchain-based, says the FT, but instead involve in-app tokens centrally controlled by the company.
Mining: Norway has almost 1% of the global BTC hash rate, all of it based on renewable energy. There's potential for more, especially from northern Norway’s’ abundant and cheap hydropower facilities, ‘stranded’ from the lucrative European market because of limited transmission capacity. The original report by Arcane Research is worth a read: Bitcoin mining around the world: Norway. Miner PrimeBlock says it plans to go public via a $1.25B SPAC merger. PrimeBlock says 60% of its power usage is from non-carbon emitting sources, roughly the industry average.
Elon: Elon Musk’s acquisition of a 9.2% stake in Twitter, making him the largest single investor, has had a beneficial effect on Dogecoin, one of his favourite cryptocurrencies, rising 9% in the 24 hours after the news.
A new generation: Nearly half of some 30,000 owners of crypto first bought digital assets in 2021, according to a Gemini survey published by Reuters. Brazil and Indonesia top adoption with 41% of those surveyed saying they owned some crypto.

[Reading]

Why web3’s wealthy are donating crypto instead of cash: a deep dive into why, and how, donors are turning to crypto. Mostly it's to do with tax, but it's more complicated than that.
The New York Times wrote a Latecomer’s Guide to Crypto which started something of a backlash from those who felt it was a puff piece: The (Edited) Latecomer's Guide to Crypto was put together by 12 contributors, many known for their critical stance on crypto. The piece, presented in an annotated form, is well worth a read. Some of the contributors have written their own critiques: The Emperor's New Blockchain by Ed Zitron, Neil Turkewitz’s A Few Thoughts and The New York Times Has a Crypto Blindspot, by Stephen Diehl.
The FT explores the culture clash at the heart of efforts by FTX to get US futures markets to use its automation technology: Blockchain and financial markets: will computers push out brokers? by Gary Silverman and Philip Stafford.

[Events]

April 13 2022 London 6:30 PM BST A good opportunity to get a snapshot of DeFi from Bobby Ong, Co-Founder and COO of CoinGecko who will be presenting their State of the Crypto Markets Report for Q1 of 2022. Following his presentation, he will be joined by Ahmed Al-Balaghi, Co-Founder & CEO of Biconomy, Will Harborne, Co-founder and CEO of DeversiFi and Samantha Yap, Founder & CEO of YAP Global for a panel discussion. Details here (password: decentralise) If you can’t make it, we can email you the deck; drop us a line at the email above. And there are drinks.

This newsletter is pulled together by a team led by Jeremy Wagstaff, formerly of the WSJ, BBC and Reuters and Samantha Yap, founder of YAP Global. Other members: Ruby Wu, Roslyn Tear, Rebecca Campbell and Becky Corbel. Many thanks to Joey Woo for production. Any views expressed here are not necessarily those of the writers, YAP Global or its clients.