Horn! Here comes the crypto clown car.
Sam Bankman-Fried, CEO and founder of Bahamas-based crypto exchange FTX, appeared on Bloomberg’s stellar Odd Lots podcast Monday, joined by Matt Levine of the Borg and regular presenters Joe Weisenthal and Tracy Alloway.
Bankman-Fried is widely regarded as one of the brightest and most established people in the entire crypto world, having recently been courted by Goldman Sachs for a possible defense against Pac-Man takeovers. Levine took the opportunity to ask SBF about the mechanics of “yield farming,” which involves using coins or tokens for some form of interest.
Levine:
Can you give me an intuitive understanding of farming? I mean, to me, farming is like selling some structured puts and collecting premiums, but maybe there’s a more sophisticated understanding.
Sam Bankman Fried:
Let me give you an actual toy model of this, which I think offers a surprising amount of legitimacy for what farming could mean. Do you know where do you start? You start with a company that builds a box, and in practice, that box will likely be designed to look like a life-changing, you know, world-changing protocol that will replace all the big banks in 38 days or whatever. Maybe you’re actually ignoring what it’s doing for now, or pretending it’s doing literally nothing. It’s just a box. So what this protocol is, it’s called Protocol X, it’s a box, and you take a token. You can take Ethereum, put it in the box and take it out of the box. All right, you put it in the box and sort of get a promissory note for putting it in the box, and then you can redeem that promissory note back for the token.
What we’ve described so far is the dumbest ETF or ADR or anything like that in the world. It doesn’t do anything other than that you can put things in it if you wish. And then this protocol issues a token, we call it whatever, “X-Token”. And the X Token promises that whatever happens because of this box can ultimately be leveraged by the governance vote of the X Token holders. You can vote on what to do with the proceeds or other cool things that come out of this box. And of course we haven’t come up with a compelling reason why there should ever be proceeds from this box, but I don’t know, you know, maybe there will be, so start with that.
And then you say, okay, well, you’ve got this box, and you’ve got a What we’re going to do is they take half of all the X tokens that were re-minted. Maybe two thirds will do that, two thirds will offer X tokens and they will give them away for free to anyone who uses the box. Anyone who leaves, takes some money and puts it in the box will drop 1% of the X token prorated to everyone who put money in the box every day. That’s what the X token is doing for now: it’s being given away to the box folks. And what happens now? Well, the X token has a certain market cap, right? It’s probably not zero. Let’s say it’s a $20 million market…
Levine:
Wait, wait, wait, by first principles it should be zero, but okay.
SAQ:
Uh sure. OK. Totally reasonable comments.
Levine:
I mean, that’s not entirely true, but when you describe it in this totally cynical way, it sounds like it should be zero, but go ahead.
SAQ:
When you describe it like that, you might think, for example, that with an internet connection you could create a box and token like this in about five minutes and it should look like, you know, it should be worth about $180 some market cap for something like that, you know, for the amount of effort you put into it. In the world we live in, if you do that, everyone will be like, “Ooh, box token.” Maybe it’s cool. If you buy in-box tokens, that will appear on Twitter and have a market cap of $20 million. And of course, you could keep the float very low, and whatever, you know, maybe $20 million hasn’t gone into the fund yet. Maybe this is some sort of fully watered-down mark-to-market valuation or something, but I’ll admit it’s not entirely clear that this thing should have a market cap, but empirically I’d say it should have a market cap would.
Levine:
I agree.
Weissenthal:
In theory, it shouldn’t have a market cap, but in practice it always does. OK.
SAQ:
That’s right. So, and obviously, we’re already hiding some of the magical effects, aren’t we? Some of the magic is in how to even get to that market cap, but you know, whatever, we’ll get to that shortly. So, you know, X tokens [are] All these sophisticated companies come out every day and say, um, that’s interesting. For example, if the total amount in the box is $100 million, then $16 million will be issued in X-Tokens that year. That’s a 16% yield. That’s very good. We’re going to put a little more into it, aren’t we? And maybe that’ll keep happening until there’s $200 million in the box. You know, experienced traders and/or people on Crypto Twitter or other similar parties collectively put $200 million in the box and start getting those X tokens in return.
And suddenly everyone’s like, wow, people just decide to put $200 million in the box. That’s a pretty cool box, isn’t it? So it’s a valuable box, as evidenced by all the money that people seem to have decided should be in the box. And who shall we say they are wrong in this? You know, I mean, boxing can be great. Look, I love boxes as much as anyone. And what happens now? Suddenly people kind of recalibrate themselves, well, $20 million, that’s all? Do you like the market cap for this box? And it’s been about 48 hours, and it’s already $200 million, even from equally experienced players. They say, “Come on, that’s too low.” And they look at those ratios, TVL, the total value locked in the box, you know, as a ratio to the market cap of the token of the box.
And they’re like 10X, that’s crazy. 1X is the norm.’ And then, you know, the X token price goes up significantly. And now the token’s market cap is $130 million because people’s usage of the box is so positive. And suddenly, of course, the smart money is like, oh wow, that thing is now making about 60% a year in X-tokens. Of course I’ll take my 60% return, right? So they pour another $300 million in the box, you get a psychologist, and then it goes on to infinity. And then everyone makes money.
Levine:
I consider myself quite a cynical person. And that was way more cynical than I would have described farming. You just think, well, I’m in the Ponzi business and it’s doing pretty well.
Weissenthal:
At no point did this require any economic justification, it’s just like other people putting money in the box. And I will do that too, and then it will be more valuable. So they’re going to put more money into it, and at no point in the cycle did there seem to be any comparable economic purpose?
SAQ:
So on the one hand I think that’s a pretty reasonable answer, but let me play around with it a bit. Because this is a framework for it. And I think there’s a certain depressing amount of validity…
Levine:
Can you say something about sustainability? Because on the one hand you think that a trillion dollars of institutional money will flow into Bitcoin. And on the other hand, you think there are basically a lot of Ponzis that have done really well.
There is actually nothing more to add.
However, if you want a better look at “valuable boxes” with no economic use case that go “to infinity” because “people are so optimistic about using the box,” don’t forget to sign up for the FTs The Crypto and Digital -Assets Summit begins on Tuesday.
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