There are more choices than ever when it comes to cryptocurrencies to invest your hard earned money in. There are coins, tokens, and blockchain projects as far as the eye can see. So choosing which projects to invest in can be a daunting one. In this article, we’re going to take a look at a few key points to consider when you’re looking for a new project to invest in. Just keep in mind that this isn’t financial advice, and is just our suggestions for how to increase your chances of finding quality projects.
Two types of cryptocurrency
Cryptocurrencies and tokens today can be broadly divided into two main categories. We will refer to these as currency-type, and business-type.
In our definition, a currency-type is a cryptocurrency or token that is designed to replace traditional money or fiat currency. For instance, its designed to be used for buying goods and services, or transferring wealth or value. Most of the early cryptocurrency projects that are still active today can be considered currency-type. A few examples of this would include bitcoin, Litecoin, Dash, PIVX, Monero, Bitcoin Cash, and Zcash. These cryptocurrencies (none of which are tokens) all broadly fit this criteria. That being, they are intended to be directly used as a means of payment.
When it comes to business-type cryptocurrencies, however, they typically exist for an entirely different purpose. They may exist to fulfill a market need using blockchain technology. They might want to disrupt an existing industry using a decentralized business model. Or, they may want to create a marketplace that uses their currency to operate on. These are just a few examples. For this category of cryptocurrency, the amount and type are effectively limitless. So for this article, we’re going to focus on these types of projects and businesses.
1: Does it have a good business model?
Now that we’ve defined the two main types of cryptocurrencies, we need to consider what the goals of the project are. That, and we need to consider how the company plans to make a profit for itself or its investors.
Let’s consider a hypothetical example. Suppose that a hip looking blockchain project has just been announced and is about to enter its ICO phase. People all over the web are clamoring about it, and declaring that it will “10x” in just a few months.
The project, called “Hotdog Coin” claims that it wants to disrupt the established hot dog industry around the world. Specifically, it wants to create an online marketplace for hot dogs where users can use Hotdog Coin to buy hot dogs and have them delivered around the world. The company won’t itself be making or selling hot dogs, but will instead be providing the marketplace to connect buyers and sellers. The company claims that they will make money by keeping 25% of all Hotdog Coin tokens to pay their staff and expenses until the business becomes profitable. From there, they will take a 1% commission on all orders put through their platform.
This example may seem silly, but it’s not all that far off from a number of real-world projects. Needless to say, this is a pretty lousy idea. But why? What about Hotdog Coin besides the silly premise makes it a bad investment?
The answer is quite simple. This project is not doing anything that isn’t already being done. People can already buy hot dogs online today. Not only that, but there are almost certainly a number of shops and retailers that will accept various forms of cryptocurrency as payment. What Hotdog Coin is doing here is creating a marketplace that requires all participants to use its own token in order to participate. Furthur, Hotdog Coin is trying to be a currency-type token that only works on a single marketplace.
Still not sure why this is a bad idea? Consider this. What if each time you wanted to go to a Starbucks, you needed to first own bitcoin (something most people on earth don’t have yet), have an account at a cryptocurrency exchange, then exchange your bitcoin for “Starbucks Coin“, transfer it out onto your mobile wallet app, and only then can you go to Starbucks and buy what you want.
As you can see, paying for your coffee using “Starbucks Coin” (which doesn’t really exist) does not in any way improve your experience, make it easier for you, or in any way add value to the business. If anything, it makes things more difficult, more expensive, and is likely to alienate many people and cause them to avoid the business. Especially if the only way to get something at Starbucks is to use Starbucks coin.
On the other hand, if Starbucks were to accept several popular cryptocurrencies as payment in addition to traditional payment methods, this would be widely celebrated.
2: Does it need its own coin or token?
This leads us into our next point. When you are considering a project to invest in, you need to ask yourself very seriously – does this project need its own coin or token?
Let’s consider the previous hot dog marketplace for the hypothetical Hotdog Coin. Instead of requiring customers to use its own proprietary currency, what if they created a hot dog marketplace that accepted all major cryptocurrencies, in addition to standard credit card payments? Now we’ve gone from a terrible business idea that is destined to failure, to one that at the very least stands a chance to become a successful niche market.
Perhaps hot dogs are not an ideal product, but making an easy to access marketplace that accepts many forms of payment and is convenient to use is far better than one that locks itself away and requires proprietary tokens or coins.
Many cryptocurrency projects today want to create their own token or coin, even if it doesn’t make much business sense. This is because if they are able to successfully run an ICO, they can quickly pocket many millions of dollars in value from selling their own cryptocurrency. If instead, a new blockchain startup chose to deal only in bitcoin, they would not get the advantage of getting this initial funding from an ICO event.
3: Is it pre-mined, or how are tokens allocated?
Speaking of pocketing wealth, the next important point to consider when analyzing a project is how the tokens or coins will be distributed. The vast majority of new projects today are tokens, meaning that they are a digital asset that exists on top of a preexisting blockchain like Ethereum. Ethereum tokens are not mined, so the creator of the tokens will have all of them initially.
Coins, on the other hand, which are custom blockchains that exist on their own, are sometimes pre-mined. Pre-mining means that before the blockchain is available to the public, the company or group that created it artificially sets the difficulty to effectively nothing and mines a large portion of the total coin supply and keeps it for their own purposes.
These are quite common practices in blockchain projects today. For good projects, this is done typically to provide start up funding for the business. Once the coins or tokens have a market value, then the supply held by the company is its start up money.
However, great caution must be exercised when looking into projects that keep a large portion of their cryptocurrency for themselves.
Most projects will offer a distribution chart which shows who will get what. If a company wants to claim anywhere from 10% to 40% of its cryptocurrency, this is often acceptable. However, some projects have been known to claim 50% or more of all assets immediately, leaving less than half for investors and the public.
In many cases, this should be considered a warning sign. It is not, however, an ultimate red flag. There may be some business models that require controlling a larger portion of the supply, but it is up to you to consider whether or not it is justified. If you do not feel that it is justified, then you should definitely move on.
4: Who is behind it?
Unlike bitcoin, today’s new cryptocurrency startups typically have to be clear about who is behind them. As ICO fraud has seen a steady rise in the last year, many investors have become quite cautious about whom they will trust. This skepticism is a good thing.
When considering a project, you should spend some time looking into who is behind it. Most project websites will offer a list of the key people and their advisors. We recommend that you do some research on the key leaders to see that they are not only qualified in their field of expertise, but that they are in fact real people.
Several scandals have come up where fraudulent ICO projects have been found to use fake people, and stolen or stock photos in an attempt to defraud investors. Some have even been so egregious that they have used celebrity photos alongside fake names.
One defense you may consider is using a Google image search to look into the photos supplied of the team. If the photo appears on a stock photo website, you will know that it is fake. Some fraudulent projects may put image filters on the images to make them unsearchable on Google image search. So if the image appears distorted (even artistically so), you may need to seek further evidence to verify whether or not the team is real.
Also be cautious when looking at the advisers section. Some projects will claim to be supported or endorsed by various blockchain celebrities like Vitalik Buterin or Andreas Antonopoulos. A quick internet search of the project name plus the name of the supposed adviser will often yield interesting results.
Do note, however, that occasionally blockchain superstars like Vitalik Buterin have indeed acted as advisers for several projects. One example is OmiseGO, of which Buterin is indeed an adviser to the project.
5: What do others think about the project?
Your final resource to consider is the cryptocurrency public itself. While it can sometimes be difficult or frustrating to get a straight answer, if others are doubtful of the project, they will have likely posted their sentiments on various websites which can be searchable online.
Reddit and Bitcointalk.org are both good sources for this kind of information. If you find many accounts of people providing suggestions alongside evidence that a project is fraudulent, then the odds of it being fraudulent are indeed high. If you can only find one or two random comments, then it’s likely that those are just one or two people speaking out of anger or misinformation.
DYOR
The phrase DYOR, or “do your own research” is the most critical point to take away from all of this. Fraudulent projects appear online all the time. They can even get endorsed by major news outlets or popular cryptocurrency personalities. In the end, we all need to remember to do our own due diligence, and always to DYOR. Lastly, pay attention to your gut feeling. If you feel any degree of suspicion towards a project, it’s probably better that you just leave it alone. Your wallet just might thank you for it.
1 Comment
well written in PLAIN speak…
thanks for the info.