Translating: "A Summary of 9 Catalysts and Narratives Worth Paying Attention to in the Third Quarter" Note: This is a direct translation of the given Chinese text. The accuracy and clarity of the translation may vary.
Original Title: "9 Narratives To Watch In Q3 & Reviewing The Winners of Q2🔮"
Original Author: THOR HARTVIGSEN
Original Translation: Deep Tide TechFlow
The second quarter was indeed a turbulent period for the cryptocurrency market. The market reached its peak around the middle of this quarter, but was then hit by a series of negative news, including lawsuits against major exchanges and concerns about the decoupling of USDT and TUSD.
Before delving into the upcoming plot, let's evaluate the protocols that performed well in the past quarter.
In the DeFi space, several sectors continue to grow and attract organic demand. These include liquidity mining and on-chain perpetual trading.
Perpetual DEX
In the second quarter of this year, on-chain perpetual exchanges such as dYdX, GMX, and Gains generated a total of $117 million in fees. These products maintained high utilization during the bear market period. The ability to trade cryptocurrencies, forex, and other assets on-chain remains one of the most organically demanded areas in the DeFi space.
The table below compares the trading volume on the largest perpetual protocols in the first and second quarters.
Compared to the first quarter, the total trading volume decreased by 8.2%, which is not a significant drop considering the overall bearish market environment we experienced in the second quarter. Although dYdX still leads in terms of trading volume, the protocol experienced a significant decrease in market share between quarters. Other "OG" perpetual exchanges such as GMX and Gains also saw a similar trend.
New protocols such as Level and Kwenta have shown significant growth, mainly due to the substantial trading rebates (i.e., native token issuance) provided to traders on the protocols. It remains to be seen whether users will continue to stay on these protocols or migrate to other trading platforms as these incentives decrease over time.
Vertex opened their native Arbitrum exchange to the public in April and has recently seen a substantial increase in trading volume. Since Vertex has not yet launched their native token, a portion of this trading volume may be generated by speculative airdrop participants.
Ethereum Liquidity Mining
In the past six months, the liquidity collateral has increased from about 7 billion USD to over 18 billion USD. With the overall DeFi Total Value Locked (TVL) remaining at around 45 billion USD, the influx of 11 billion USD is quite significant.
After the hard fork in Shanghai, the unlock and attract a large amount of liquidity in this field. Here are some data comparisons about collateral assets in the first and second quarters:
The projects that benefited the most from the first quarter to the second quarter were Lido, Rocket Pool, and Frax Finance. Not only did Lido attract 1.6 million ETH (3 billion USD), but despite the emergence of new competitors, the protocol also gained a considerable market share.
Rocket Pool and Frax both have unique moats that attract new liquidity.
Rocket Pool launched their 8 ETH mini-pool, while Frax Ether consistently offers the highest staking yield due to its dual-token model.
Swell was launched in the second quarter and also gained significant TVL. They are currently running a campaign where early depositors can mine the upcoming $SWELL token. Therefore, some of this new liquidity may come from users hoping to participate in the airdrop.
Chains
Here are the financial statements of the larger-market-cap L1 and L2 blockchains in the cryptocurrency space. The numerical explanations are as follows:
Gas fees = transaction fees paid by users on the chain;
Revenue = the remaining portion of the gas fees obtained by the validating nodes after taking their share;
Profit = revenue minus token emissions.
Ethereum achieved its best quarter ever in terms of profit, with an increase of over 300% compared to the first quarter of this year.
As shown below, Ethereum generated $4.3 billion in fees in the fourth quarter of 2021, but due to the release of a large amount of ETH before transitioning to proof-of-stake, the revenue was largely negative.
In the current environment, how will these fee amounts translate into profits?
If Ethereum averages $4 billion in fees annually, and the profit margin is similar to that of the second quarter of 2023, the annual profit would be around $24 billion, resulting in an Ethereum price-to-earnings ratio of no more than 9.5, considering the current price of $1900.
Arbitrum has also seen a significant increase in fees during this period and is one of the few chains that is profitable. Currently, L2 profit margins are relatively low as most of the fees are paid to the mainnet validators.
With the launch of Proto-Danksharding later this year, it is expected that profit margins will increase as Rollup fees decrease.
Chains like Solana, Polygon, and Optimism have experienced significant negative profitability due to the issuance of a large number of tokens to incentivize users and pay validators.
9 Catalysts and Narratives to Watch in the Third Quarter
Cryptocurrency is an attention-driven economy. Protocols with product updates and narratives are more likely to attract attention and perform well in the short to medium term. Here are some top narratives worth closely monitoring.
Bitcoin ETF
Due to institutional interest in Bitcoin, the second quarter was very positive for the cryptocurrency market. Companies like BlackRock and Fidelity have applied for Bitcoin ETFs, and it is widely believed that their approval is highly likely. A few days ago, the U.S. Securities and Exchange Commission (SEC) stated that the recent applications were incomplete. Despite initial selling in the market, prices quickly rebounded as these applications seem to only require more specific guidelines to determine which exchange will be used to provide the product. Many ETFs have been re-submitted, such as Fidelity Bitcoin ETF that lists Coinbase as the exchange used.
When might the ETFs be approved?
The deadlines for BlackRock and Ark ETFs are August 12th, although there may be delays, experts predict that the answer is likely to be announced on this day.
The market seems to anticipate approval in August, so a rejection or delay could have a negative impact on prices. The final deadline for the BlackRock ETF is February 23rd next year.
The significance of Bitcoin ETFs
In the coming months, this is the most important driver among all the factors worth closely monitoring. Bitcoin ETFs not only allow large institutions to access this asset, but also usher in a bullish period for the entire cryptocurrency market. Without proper Bitcoin price volatility, other alternative coins cannot experience a rebound.
DeFi also cannot receive new liquidity injections for the same reason. If ETFs are approved later this year, the benefits will extend beyond Bitcoin. Considering this, the following catalysts may result in particular assets performing well in a more optimistic environment:
EIP-4844
You may already know that EIP-4844 will introduce Proto-Danksharding into Ethereum in the third or fourth quarter. With this implementation, Rollup will be able to send batches of transactions (called blobs) to the Ethereum mainnet, reducing fees on these Layer 2 chains by up to 20 times. Therefore, the main beneficiaries will not be the Ethereum mainnet as fees here will not decrease until the full version of Danksharding is launched, but rather rollup chains like Arbitrum and Optimism. The trading prices of $ARB and $OP are much lower than earlier this year and, if history repeats itself, they may experience a rebound before this event.
Liquidity Staking and LSDfi
As mentioned earlier, liquidity staking in Ethereum (ETH) was the fastest growing segment in the DeFi space in the second quarter. Here are some protocols worth keeping an eye on in the third quarter:
frxETH - Frax will launch frxETH V2 and the Frax Chain later this year, including a native lending market created for LSD, with frxETH serving as the native gas token on-chain to boost staking APYs, and more.
EigenLayer - Eigenlayer has garnered strong interest from investors and is likely to see significant liquidity injection when they officially launch later this year.
swETH - Swell is running an activity where early minters of their native LSD swETH can earn "pearls," which can be exchanged for a native $SWELL token airdrop. As long as this activity continues, the protocol is likely to keep growing.
ETHx - Stader Labs will launch ETHx on the mainnet on July 10th. Its main feature is the ability to run an Ethereum node with just 4 $ETH.
The rapid growth seen in the LSD space in the second quarter is unlikely to continue at the same pace in the third quarter. Higher staking rates and less on-chain activity have led to a general decrease in APYs. In the face of lower returns, stakers are looking for ways to increase their yield, and that's where LSDfi protocols come into play. The table below shows the current statistics for top LSDfi projects as highlighted in last week's news briefing.
Pendle has seen significant growth in terms of liquidity, with its native token $PENDLE rising over 100% in the past week, reaching a recent high after announcing its listing on Binance. The Pendle team likes to keep quiet about new features on the protocol; however, it can be safely assumed that there are many plans for the protocol in the third quarter. They recently applied for an OP-grant to drive liquidity on Optimism and hinted at a launch on the BNB chain. Cross-chain expansion seems to be imminent.
Stablecoin protocols supported by LSD, such as Lyra and Raft, have also recently experienced significant growth. It is evident that there is demand for this type of product, but it is even more apparent that recent success is largely attributed to a large number of token incentives/airdrop mining. Currently, there are three or more protocols planning to launch very similar products in the coming weeks/months, so competition for liquidity will undoubtedly increase.
Base (Coinbase's layer 2 scaling solution)
Just last week, Coinbase announced that Base had passed all security audits and met 4/5 criteria for mainnet launch. Base is built on the OP-stack, and the recent launch of Bedrock by Optimism has significantly lowered transaction costs for Optimism and OP chains like Base. Now, only the "testnet stability" condition remains, so mainnet launch is likely to occur in the third quarter. Coinbase has over 40 million registered users, many of whom may have never come into contact with DeFi before. This is likely one of the most significant "Onboard" events of the year. Coinbase may only provide support for mainstream protocols like Uniswap and Aave, which have undergone large-scale testing, but having a large user base of retail investors is excellent for the entire ecosystem.
In addition, this could be a good narrative for $OP, as Base will commit a portion of its transaction fee revenue to the Optimism treasury.
Frax Chain
Frax Finance has developed various products, including the $FRAX stablecoin, $FPI price index, Fraxswap, FraxEther, FraxFerry (cross-chain bridge), and more. Frax also announced that they are building an Ethereum-based Layer 2 blockchain to consolidate all these products into one DeFi hub. This is a hybrid Rollup, meaning it adopts the Optimistic Rollup architecture and utilizes zero-knowledge proofs for achieving state consensus. Its aim is to provide end users with high scalability, fast confirmations, and robust security. The chain is planned to launch in the third or fourth quarter of this year, and the most significant part mentioned in the announcement is that frxETH will become the token for transaction fees. This could result in a significant increase in the supply of frxETH if there is demand for the new Layer 2 solution. However, more frxETH being used for gas fees could also lead to fewer frxETH being staked as sfrxETH, thus increasing the staking yield. Nevertheless, switching to another token to use the chain might be a burden for some users and, in the worst case scenario, could slow down adoption. I have some reservations, but overall, I am excited about this outcome.
Polygon 2.0
Polygon recently announced "Polygon 2.0 ", which brings together various innovations built by the team over the past few years. It includes both Optimistic Rollups like Arbitrum and Optimism, and combines cross-chain security mechanisms similar to Cosmos. Polygon 2.0 consists of four layers.
Staking Layer: Validators stake MATIC tokens similar to PoS chains.
Interact Layer: Shared cross-chain bridge allowing assets to be minted and burned across chains in an interoperable manner on Ethereum.
Execution Layer: Polygon 2.0 will run two different execution layers.
Superweb: Application-specific chains similar to subnets on Avalanche or app chains on Cosmos.
Public Chain: zkEVM will use Ethereum for data availability and is the most secure but also the most expensive Rollup solution. The PoS-based zkEVM uses Polygon for data availability (secured by MATIC) and then only submits proofs to Ethereum for achieving higher scalability.
$MATIC has been falling recently due to Celsius selling its assets to buy BTC and ETH, resulting in forced selling. Therefore, once Polygon 2.0 is launched in the second half of this year, the price may rebound.
dYdX V4
The goal of V4 is to decentralize dYdX by launching the exchange on a custom application chain in the Cosmos ecosystem. The previously centralized off-chain order book will now be managed by validators on the application chain through an in-memory order book. Validators from each block will submit transactions, ensuring all transactions go through and they have the same version of the order book/chain. The current testing has achieved a transaction volume of over 500 per second. $DYDX has faced criticism in the past due to high inflation and low token utility. With V4, the token is likely to gain more significant use cases and potentially include aspects of revenue sharing. This was mentioned in previous articles about the protocol.
"Starting with dYdX V4, dYdX Trading Inc. will no longer operate any part of the protocol. Therefore, it will no longer generate revenue from protocol transaction fees. The same applies to all other centralized parties unless the community decides otherwise."
The unlock schedule for $DYDX is as follows:
30% unlocked on December 1, 2023;
40% unlocked in equal monthly installments from January 1, 2024, to June 1, 2024;
20% unlocked in equal monthly installments from July 1, 2024, to June 1, 2025;
10% unlocked in equal monthly installments from July 1, 2025, to June 1, 2026.
The launch of the public testnet indicates that the mainnet launch is nearing. If there are any announcements regarding the $DYDX fee-sharing mechanism, this could become a strong narrative for the token. However, it's important to remember the significant unlock schedule starting from December this year.
GMX V2
With the public testnet going live weeks ago, GMX V2 seems closer than ever. This upgrade brings many new features, one of which is adopting Chainlink's custom low-latency price oracle for better trade execution. Another significant change is the independent liquidity for each trading pair and the possibility to create synthetic trading pairs.
Each trading pair will have its own liquidity pool, for example, ETH/USDC with ETH as the long collateral and USDC as the short collateral. Synthetic trading pairs can also be SOL/USDC, with ETH as the long collateral and USDC as the short collateral in its liquidity pool. This pattern aims to simplify the deployment of new liquidity pools, and the main benefit of independent liquidity is reducing the risks associated with providing liquidity.
Synthetix V3
Synthetix is a DeFi liquidity center that supports various derivative protocols (such as Kwenta, Lyra, Thales, Polynomial, etc.) on Optimism. The trading volume this year has significantly increased, with the majority of the trading volume coming from Kwenta traders.
Synthetix V3 is an upgrade that has been conducted over the past two years, aiming to make the protocol the liquidity layer for all DeFi. Currently, all synthetic assets are collateralized by the native governance token $SNX. V3 will introduce various upgrades, including multi-collateral staking, risk-isolated permissionless pools, cross-chain liquidity, and more. V3 is already live on the mainnet technically, but core innovations like Perps V3, Pools V3, Teleporters, and Cross-chain Synthesis are still in development.
Others
Some other protocols in this space that may be worth watching:
The Vertex protocol recently launched and has seen strong growth in trading volume;
Level recently launched on Arbitrum and now accounts for about 50% of the trading volume on that chain;
The Pear protocol is about to launch and will leverage existing infrastructure for its trading platform's liquidity.
