Figure 1: Survey by the digital asset marketplace Bakkt for investors in H1 2021. Why do they buy?
Large inflow into blockchain applications
Comparing 2021 to 2017, the inflow this year into the crypto market is more diverse, both within different cryptocurrencies and different use cases for the crypto tokens within the blockchain space. These cases include the value storage narrative, decentralised finance, non-fungible tokens (NFTs), gaming and stablecoins. The store of value narrative, particularly for Bitcoin, has intensified upon the increasing inflation, considering companies like MicroStrategy, Tesla and Square have added Bitcoin to their balance sheets.
The increasing risk appetite has not only affected Bitcoin, but has also impacted blockchains supporting smart contracts such as Ethereum. Smart contracts allow functionalities in addition to the classical transfer of value, and they have a variety of use cases in protocols operating on these blockchains. One major application is within decentralised finance (DeFi), which in the beginning of the year was rather unknown to the majority of crypto investors. The overall scope of DeFi is to facilitate classical banking services such as lending on a blockchain, removing the need for a potentially costly middleman to facilitate the service.
Since September 2020, the value locked in DeFi protocols on Ethereum has grown from $8bn to $84bn (see Figure 2), and other similar blockchains have seen comparable growth in value locked in DeFi. The value is mostly locked in protocols concerning trading, lending and stablecoins. By locking crypto tokens in decentralised protocols, investors are promised yields of up to 10% yearly, compared to the often negative interest rate of keeping fiat in a bank account. This is however not without risk, as when lending on decentralised protocols the lender covers the smart contract risk associated with hacking and errors, as well as the risks of a decentralised system such as forgetting the credentials to the wallet.