Following the ruling last week, XRP’s 4%* market depth jumped by $3.8 million. This occurred across Ripple’s main pairs on Binance, OKX, Kraken, Crypto.com, Kucoin, and Coinbase. The 20% market depth grew by a total of $11.5 million. (*4% market depth refers to money bidding between +2% and -2% from the market)
The impact on liquidity and trading was partly due to Americans being re-allowed to trade XRP on Kraken, Crypto.com, Coinbase, and Bitstamp in the 24 hours following the ruling.
These are not huge liquidity numbers, especially compared to XRP’s $41 billion market cap. This is consistent with Kiko’s report, which noted that while XRP’s price traded at 15-month highs, the volumes are at just 10-month highs, suggesting that “despite this massively bullish catalyst, global trading activity remains subdued.”
This is a significant event in a small market that is still lacking retail interest, sufficient liquidity, and legal structure.
Summery of legal outcome
On July 13th, a New York federal court ruled that $729 million worth of XRP sold to institutional investors was an illegal securities sale. On the other hand, XRP tokens traded on cryptocurrency exchanges are in the clear.
This ruling stems from the technicality that XRP sold on exchanges may not be coming directly from the issuer. This somewhat confusing logic is likely to be appealed by the SEC and litigated over the next 2–3 years.
For now this ruling is sufficient for exchanges and traders and has lowered the perceived risk of cryptocurrencies in general.
“The only thing this ruling guarantees for cryptocurrency issuers…is continued uncertainty in the cryptocurrency markets, which only Congress can step in to correct,” wrote Preston Byrne, a cryptocurrency legal expert.
Future of digital securities
Digital securities are not bad words; there is just a need for clear regulation. Actually, distributed blockchains are the only conceivable future upgrade for today’s financial assets, which are currently hosted on antiquated systems.
This truth has trickled upward to the highest of the land, the CEO of BlackRock, Larry Fink, who recently said (when asked about Bitcoin), “We are a believer in the digitization of products… We believe we can create more tokenization of assets and securities. It can revolutionize finance again… the blockchain will help you accelerate the process of the transaction…If you have a ‘pure’ blockchain, then we don’t need custodians anymore.” If this is so, legal clarity is only a matter of time.
We’re coming up to what could be a meaningfully split in the crypto space.
First, some interesting numbers and background for context on the DeFi space:
On-chain (DEX) traders’ percentage of total crypto trading volumes has been growing, well, since it started basically. It now stands at 16.5% of centralized exchanges’ spot volumes. This is a meaningful share of the market, especially considering each Ethereum transaction costs dollars, not cents. In May 2023,for example, DEXs moved $65.5 billion worth of assets 📈
There are two reasons Americans are increasingly turning to DEXs:
Banking on-ramps like Binance US and FTX US, are no longer available while DeFi remains open for business.
DEXs provide access to thousands of tokens, many of which may be considered unregistered securities
2) International usage of privacy mixers and unregulated crypto activities is on the rise, as evident from the latest numbers shared by Chainalysis and CoinJoin.
These activities take advantage of crypto’s decentralized features, which were originally fostered by the cypherpunk movement, and we think will be increasingly utilized.
3) DeFi has become the sole means for Americans to access extreme financial products like 100X leverage and memecoins, which have gained significant traction.
On-chain open interest in perpetual contract DEXs has grown to $360 million, about half of it solely from the relatively new GMX on-chain derivatives exchange.
4) In the bigger picture, as economies become increasingly cashless, crypto and permissionless finance will play a more central role.
Reg-Fi or Dark-Fi?
Today the next logical step for the SEC could be to target DeFi activities. Will they request Uniswap Labs to KYC the frontend?
This poses a crucial fork in the road: Reg-Fi or Dark-Fi?
Reg-Fi: Regulated DeFi and crypto with full KYCed user interface
Dark-Fi: KYC resistant crypto and DeFi. Likely run by anons and/or offshore. KYC resistant clones or gateways to popular DEXs etc
While it is impossible to regulate the Uniswap protocol itself, the front end could be a target. The implications of such actions on the broader DeFi ecosystem are uncertain but noteworthy.
Meanwhile Bitcoin is being primed by Wall St. to be one of the next big asset classes. The more Bitcoin gets regulated, the more mainstream, fully regulated demand will grow (eventually even pension funds).
The more strict the regulators will be, DeFi and crypto activities will have to choose more consciously which side of KYC regulations they want to be on. The distinction between Reg-Fi and ‘Dark-Fi’ will grow.
The growing demand for Dark-Fi will put the decentralization of its technology to the test. Non-KYC activity and Dark-Fi will either be battle-tested and become stronger or vanish altogether.
Reg-Fi and Dark-Fi represent two sides of the same coin (pun not intended). Ironically, they may end up fueling each other’s growth.That’s the event horizon we envision. What comes after that is anyone’s guess.
The crypto industry is evolving and we’re at an inflection point. Let’s keep building and keep our eyes open to the bigger picture.
Sometimes bad news is also a bullish signal. In the recent weeks there’s been industry chatter about firms buying OTC tokens in significant size from crypto projects — at market price or below it. Following the purchase, the token’s market often appears to be manipulated upwards and then the exchanges are flooded with those tokens- eventually crashing market prices and draining its liquidity.
A few comments on this practice:
A) Whatever it is, that is NOT market making (or a legitimate investment.) Successful market making requires aligning both parties’ interests to increase liquidity in a market. It does often involve transfers of tokens for usage and incentive. Deal structures that offer discounted tokens are not market making deals and present a conflict of interest. At best, they mimic OTC trades with minimal benefits. At worst, they leave projects open to pump-and-dump schemes.
There are many ways to bamboozle project founders with little finance and trading experience, and there are tons of projects that have been rugged.
We’ve explained and documented illegitimate pump-and-dump schemes masquerading as market making firms in 2019. Unfortunately, this practice hasn’t gone away but rather morphed into a different form, as profitable market manipulation schemes often do.
B) A few words on real market making. To align a market maker’s incentives with a project’s long-term success, two main deal types exist:
A SaaS-like retainer model. The client takes the PnL and risk, while dictating the desired KPIs (spread, depth, uptime). The market maker in this deal is just a service provider. The incentive is straightforward — earning a monthly retainer.
2. The loan & call option model, in which the market maker takes on the market-making risk on himself and is willing to provide good KPIs in exchange for the call option on the token. At least part of the option has to be at-the-money or close-to-the-money in order to provide good KPIs, because the market maker must be willing to take risk and put liquidity on both sides of the book.
Market making deals in which the option is fully out of the money also make it impossible for the market maker to take on meaningful risk and provide deep liquidity in the client’s markets.
C) For those who’ve read this far, here’s the good news: This type of activity is another typical signal of the crypto bear market coming to its end. Struggling projects cashing out and shady firms pumping and dumping millions of tokens onto the market are probably signs that we are near the trough of the bear market. It’s an organized form of capitulation that must happen at the tail end of every bear market. This type of activity is a market’s equivalent to “hitting rock bottom”. The only way forward is up.
Since the start, Efficient Frontier’s mission has been to make the crypto market more transparent and provide an ethical service with the best KPIs in the crypto ecosystem. Join us in our crusade for more efficient and fair crypto markets by following us on Twitter or Substack.