The crypto venture capital industry has become more selective thanks to the general market downturn and wavering trust caused by a slew of scandals and market disruptions, but investors at major firms are still writing checks in the space.
Amid market volatility, decentralized finance, or DeFi, is an area that continues to be in focus in both the crypto VC world and across the community as new use cases, protocols and projects arise.
Anywhere from 20% to 50% of crypto-related pitches today are DeFi-focused, several investors we surveyed said. That shows there’s a vast number of DeFi projects looking for funding.
“To stand out in this crowded space, founders should focus on highlighting unique technology and a clear advantage for a specific use case, as well as a defensible moat,” Alex Marinier, founder and general partner at New Form Capital said.
Ultimately, DeFi is a mirror reflection of traditional finance (TradFi), and founders who have deep sector expertise in TradFi, coupled with a fundamental understanding of blockchains will stand out from the other teams, Paul Veradittakit, general partner at Pantera Capital, shared.
Last year, the crypto world faced a handful of massive industry-changing events like the Terra/LUNA ecosystem collapse in May and the cryptocurrency exchange FTX collapsing in early November. Both events brought down a lot of smaller startups and big players who intermingled with those now defunct market players.
As the market looks toward the future, some venture capitalists are revamping their investing strategies, while others are holding to their current plans, with perhaps a small tweak or two. Read on to find out how active investors are thinking about DeFi, how they’re advising their portfolio companies amid the lack of funding, the best way to approach them and more.
We surveyed:
- Michael Anderson, co-founder, Framework Ventures
- Alex Marinier, founder and general partner, New Form Capital
- Samantha Lewis, principal, Mercury
- Paul Veradittakit, general partner, Pantera Capital
- David Gan, founder and general partner, OP Crypto
- Mike Giampapa, general partner, Galaxy Ventures
Michael Anderson, co-founder, Framework Ventures
How big is the DeFi market today? How much do you expect it to grow in the next five years?
When thinking about the DeFi market, we look at the total market cap of DeFi assets, total value locked (TVL) and trading volume. While total value locked (TVL) as a metric certainly has its flaws, we think it’s still a decent measure of activity in the sector. As TVL increases, we also think it’s possible that total market cap could follow.
We’re keeping a close eye on the sector’s relative activity, like trades, volumes and users, compared to centralized alternatives like exchanges. Despite the negative sentiment surrounding crypto today, we still believe activity will eventually return to the industry. However, in the aftermath of all of these dramatic centralized finance (CeFi) explosions, we think that the next time users decide to enter the space, they’re going to think twice about trusting a CeFi exchange or company and instead opt to use decentralized protocols.
What were the biggest challenges your firm faced in 2022? What steps are you taking to better prepare for 2023?
As with most investors in the space, our biggest challenge has been navigating the seemingly endless CeFi blowups and failures that have rocked our industry. We were able to avoid the vast majority of these blowups, as we passed on several FTX ecosystem projects.
As a result, Framework wasn’t hit nearly as hard as many of the big VC firms in the space, and we’re in a pretty strong position to continue deploying capital in this new market.
These CeFi incidents have caused plenty of collateral damage across the industry, so a major priority over the last 12 months has been making sure all of our portfolio companies are sound, liquid, well capitalized and can survive the next 1-3 years. This means helping the founders in our portfolio cut costs, prioritize high growth activity and providing advice on product, growth and future fundraising strategy in a less friendly funding environment.
In general, our position is a validation of our core theses over the last three years, and we’re going to continue doubling down on DeFi, web3 gaming and more. Given that a lot of the other firms aren’t actively investing at this time, we see this market as a great opportunity for Framework to selectively deploy capital.
How are you advising your portfolio companies going into 2023?
We’re working with them to cut costs and focus on surviving the next 1-3 years. We believe in crypto long term, but we don’t know how quickly the market could bounce back, and so survival should be the top priority.
We’re also encouraging founders to think more strategically about project development. If a team was focusing on three different areas, we’re encouraging them to instead prioritize the highest-growth activity only.
Of all the pitches you get, what percentage are DeFi protocols or projects? What can they do to stand out in the broader crypto landscape?
These days, around 30%-35% of the pitches we receive are firmly DeFi-focused.
If a DeFi project wants to really stand out, we want to see that they’re thinking about where the puck is going. We’re looking for projects that have the potential to be regulation-friendly. It’s a non-starter if the team is not thinking about regulation or thinks they can just figure it out down the line.
Additionally, we’re interested in projects that have direct connections to institutions or at least a compelling growth strategy that involves institutions. We don’t think that retail will offer projects a large enough market in DeFi over the next two years, so creating something attractive to institutions should be more of a core focus than previously.
We also want to see that the project is differentiated from a product perspective. We’re not interested in another Uniswap clone, or an Open Sea copycat of the flavor of the week alt-L1.
What is your current strategy for investing in DeFi protocols and projects? How has that changed from past quarters?
In 2020, during the height of DeFi summer, the market was big enough that projects courted retail and DeFi degens [a nickname for people interested in risky, niche, speculative crypto projects]. The market is totally different now.
Unfortunately, retail was blown up more than a dozen different ways last year, and they’re unlikely to come back for a few years. As a result, we’re focusing more on projects that are thinking about addressing new, more institutional users and markets.
We understand that regulation is likely coming down the line, so we’re very interested in projects that are pro-regulation, or at the very least, regulation-friendly.
What types of DeFi use cases do you think will gain more mainstream adoption going forward? Which areas of DeFi are now perceived as more significant than they used to be?
With the Merge officially behind us, liquid staking has become a big area of excitement for us. We think liquid staking projects will receive much more attention after Shanghai goes live and users have the opportunity to withdraw their assets without worrying about illiquidity.
How can the gap between traditional finance (TradFi) and DeFi be bridged?
We need to see more DeFi products and services that more realistically accommodate institutions. This means projects that have pro-regulatory elements baked into the products themselves, including KYC, the ability to limit certain assets and more. Projects that institutions will be able to transact with won’t look and feel like the traditional DeFi we’re accustomed to and will coexist as a relatively different ecosystem.
How do you think regulatory frameworks can affect the DeFi space? Which country or region seems to be going in the best direction?
At some point in 2023, we’ll have the landmark crypto regulation that everyone has been waiting on for years. More clarity could be very positive.
We don’t have a firm position, but on the surface, it looks like the U.K. is rapidly becoming one of the most open, from a thought-leader perspective.
How do you like to receive pitches? What’s the most important thing a founder should know before they talk with you?
We really like a good storyline. We want to know why you’re working on this problem, why it needs to be solved now, and why you think you can beat everyone else. Competitive advantage is key for us.
Alex Marinier, founder and general partner, New Form Capital
How big is the DeFi market today? How much do you expect it to grow in the next five years?
The DeFi market is currently around $50 billion in TVL. In the next five years, we expect the market to bifurcate into two categories: permissioned and permissionless.
Permissioned DeFi will gain traction among institutions, because it marries the benefits of blockchain technology with the compliance standards of traditional finance. If just a small percentage of traditional finance activity moves on-chain, it could create a market opportunity worth more than $1 trillion.
When you add in permissionless DeFi, which is more geared toward individual users and makes up most of DeFi today, the combined market has the potential to become worth anywhere from $500 billion to $2 trillion by 2028.
That said, DeFi’s growth will depend on more than just an increase in use cases. It will also be influenced by developments in infrastructure, regulation and financial innovation.
What were the biggest challenges your firm faced in 2022? What steps are you taking to better prepare for 2023?
Navigating the high-profile collapses (Terra, Celsius, FTX) was certainly the focus of 2022. We had to take more time to support our founders and ensure they have sufficient runway to endure an extended bear market.
This year, our focus is on helping founders find creative ways to grow through this market and position themselves for the next bull market. We’re also focused on sourcing opportunistic investments at attractive valuations and incubating more projects in-house.
We think 2023 will be a turning point for regulation, especially in the U.S., and we’re spending more time helping our founders respond to a rapidly evolving regulatory environment.
How are you advising your portfolio companies going into 2023?
First and foremost, we’re advising founders to focus on minimizing burn and maximizing runway, given that this bear market cycle may last two years or longer. It’s going to be extremely hard for companies to grow during this period, so survival is critical.
With that in mind, we’ve supported a number of founders raising bridge rounds to extend their runway. We’re also encouraging founders to use this time to iterate on product and explore new partnerships while keeping a close eye on the regulatory front.
Of all the pitches you get, what percentage are DeFi protocols or projects? What can they do to stand out in the broader crypto landscape?
We’ve continued to see a consistent percentage of pitches from DeFi projects, around 50%. However, the pace has diminished compared to earlier in 2022.
To stand out in this crowded space, founders should focus on highlighting unique technology and a clear advantage for a specific use case, as well as a defensible moat. Too many projects are simply positioning themselves as “X protocol, but on Y chain,” without offering anything truly innovative or novel.
One way founders can differentiate themselves is by taking a contrarian stance. Given the prominent role of Twitter and a common culture in crypto, founders can really set themselves apart by focusing on underrated themes that buck the popular narratives. Contrarian thinking also demonstrates a high level of conviction and creativity, which is what we seek in founders.
What is your current strategy for investing in DeFi protocols and projects? How has that changed from past quarters?
Our current strategy for investing in DeFi protocols and projects has changed slightly from past quarters. One major shift has been an increased focus on valuation as competition among VCs to back the strongest teams becomes less heated.
In terms of thematic focus, we’ve been putting more time into exploring projects that are working on permissioned DeFi, tokenization of real-world assets and identity. These are all enormous markets that represent, in our view, critical technologies for the next chapter of DeFi. Despite the market conditions, we’ve been able to find great founders tackling these problems.
What types of DeFi use cases do you think will gain more mainstream adoption going forward? Which areas of DeFi are now perceived as more significant than they used to be?
For permissioned DeFi, we expect innovations in identity, compliance and tokenization to create use cases in lending, borrowing and on-chain capital markets. We’re already seeing examples of institutions transacting in these types of networks, with UBS pricing the first bank-issued digital bond settling on a blockchain, and JP Morgan executing a DeFi trade.
On the permissionless side of DeFi, we expect technical innovations in DEX infrastructure, DAO governance, cross-chain communication and security to support new payments-oriented use cases (remittances, payroll, B2B payments).
As DeFi continues to onboard new users, we believe that interoperability, UX/UI design and data privacy will grow in significance.
How can the gap between traditional finance (TradFi) and DeFi be bridged?
Regulation is the most important factor by far. Without regulatory clarity, traditional finance institutions will be hesitant to fully engage with DeFi. While FTX set back trust in the industry, we believe that it will ultimately expedite lucid, sensible crypto legislation.
Another factor is the lack of trust in existing DeFi projects among TradFi institutions. Smart contract hacks, market manipulation-driven exploits and law-flouting founders have diminished trust in the industry that can only be won back through a track record of security and integrity. Focusing on high-quality partnerships can help protocols build trust and credibility. Permissioned DeFi, with its focus on compliance and reliability, will likely be the first choice for TradFi institutions looking to participate in DeFi.
Given the turbulence of the industry, how can companies and investors grow trust and boost adoption beyond crypto-native players?
DeFi companies and investors need to prioritize regulatory compliance, data security, transparent accounting and operational security. Beyond smart contract security, it’s important for founders to have predetermined policies for how assets are custodied, transferred and tracked, as well as emergency plans.
By focusing on accounting transparency with customers and investors, either by reporting on-chain or relying on auditors, companies can win the trust of more traditional players.
How do you think regulatory frameworks can affect the DeFi space? Which country or region seems to be going in the best direction?
Regulatory uncertainty is the largest factor hindering the growth of DeFi. A clear, sensible regulatory framework would open the door for institutional participation in DeFi, which would result in massive growth in the sector while protecting customers from bad actors.
A handful of countries are leading the way in terms of regulatory clarity. Europe has been a leader, making significant progress on MiCA (markets in crypto assets) regulation that will provide common standards across the EU. Switzerland, especially, has emerged as a European blockchain hub because of its favorable regulatory framework, treating most digital assets as commodities rather than securities.
We’ve also seen significant progress from the UAE and Singapore, with both jurisdictions working to create a favorable regulatory environment for crypto. The U.S. and U.K. have been lagging on the regulatory front, but policymakers in both countries are beginning to prioritize the development of a clearer regulatory framework for the industry.
How do you like to receive pitches? What’s the most important thing a founder should know before they talk with you?
We generally receive pitches over Zoom/Google Meet or in person at our NYC office. In-person meetings are ideal because they allow us to build personal relationships with founders from the start. But we understand that this isn’t always possible, so video conference pitches are a good alternative.
The most important thing for founders to know is that we place a lot of emphasis on a founder’s ability to articulate a long-term vision for the business. Pitch decks are helpful for providing information and context, but it’s ultimately the founders’ ability to convey their vision and why they are the right team for the opportunity that will make the biggest impact.
These skills go beyond just selling investors; they are also critical for attracting talented employees and building high-quality partnerships. It’s also important for founders to manage their time during the pitch and leave room for questions.
Samantha Lewis, principal, Mercury
What were the biggest challenges your firm faced in 2022? What steps are you taking to better prepare for 2023?
Luckily, all of our web3 companies raised in the first half of 2022, so our balance sheets are bulked up and we are prepared to ride out the storm.
That makes us a lot more fortunate than most of my peers, but there is definitely one thing all of us are experiencing together: the negative press and toxic narrative surrounding the web3 space in general.
When those not following the industry day-to-day only get snippets of information from the meltdowns like FTX and Luna, it creates this narrative cycle that can easily spiral and cause hysteria and sow mistrust. This is bad for a nascent industry that is still trying to find its footing and prove to big capital allocators and corporates that it deserves to be part of their strategy.
How are you advising your portfolio companies going into 2023?
Bring cash in while it is still available. Bulk up balance sheets. We are seeing a lot of companies open rounds at the same valuation they did 6-12 months ago just to bring in capital. This is a smart move, and honestly, every company should very thoughtfully consider this, especially because all the reports of dry powder can be misleading.
People tend to think that because there are billions of dollars committed to venture funds, those billions will be deployed. That’s just not the case. We’ve seen proof of that in the 2000 and 2008 eras.
The data is also showing that deal velocity will diminish, so companies need to be ready for longer fundraise cycles, lower valuations and much more due diligence. There will continue to be a flight to quality, so be that quality.
Of all the pitches you get, what percentage are DeFi protocols or projects? What can they do to stand out in the broader crypto landscape?
About 20%-40% are DeFi protocols or projects depending on whether I’m working on deal flow with VC3 DAO or Mercury.
To stand out, you must show you’re thoughtful and have a deep understanding of your market and the regulation surrounding it. I never take pitches from projects that focus on hype instead of showing real, tangible value.
What is your current strategy for investing in DeFi protocols and projects? How has that changed from past quarters?
Now that the hype of DeFi for DeFi’s sake is fading, it’s much more important to qualify potential investments based on whether blockchain technology is actually providing an advantage to the particular market or instrument (access, affordability, clearing time, etc.) instead of investing in projects based on completely unsustainable advertised yields.
This has been consistent with my strategy since I entered the space in 2016. What is changing is a renewed focus on teams’ regulatory expertise and background, at least adjacent to the instruments they are working to bring to market.
What types of DeFi use cases do you think will gain more mainstream adoption going forward? Which areas of DeFi are now perceived as more significant than they used to be?
I am most excited about DeFi for financial inclusion. My investment theme at Mercury is called “Power,” and it’s all about using technology to empower people.
DeFi has the most potential in spaces where traditional centralized intermediaries don’t exist or are far less developed than they may be in OECD markets.
Beyond financial inclusion, the intersection of DeFi and ReFi (regenerative finance) has the potential to produce some exciting new market opportunities where financial incentives and sustainability incentives are aligned.
How can the gap between traditional finance (TradFi) and DeFi be bridged?
Web3, and especially DeFi, is a nascent industry trying to find its footing. We can’t continue to have fiascos like we had this year and expect TradFi players to really lean into adoption. TradFi will embrace DeFi as soon as there is enough incentive to do so, and the risk can be better understood and managed.
Right now, web3 is the Wild West, and we must start building more trust for TradFi to decide it’s worth it.
Given the turbulence of the industry, how can companies and investors grow trust and boost adoption beyond crypto-native players?
To state the obvious, we must stop putting billions of dollars into irresponsible companies.
- We need governance structures that are actually adhered to, and we need more responsible VCs who practice good governance.
- We can’t run from regulation. At times when trust is shaken, companies building legitimate companies in trusted jurisdictions can go a long way in alleviating concerns and mistrust.
- Proof of reserves. Right now, we as an industry are creating this concept ourselves since regulation isn’t moving forward. We need to hold ourselves to a higher standard if we expect to weather this winter.
How do you think regulatory frameworks can affect the DeFi space? Which country or region seems to be going in the best direction?
Bad regulation can kill the industry and good innovation can create the most exciting wave of financial innovation we’ve likely witnessed.
The EU’s new MiCA framework is probably among the best examples of a crypto regulatory framework that is workable for the industry, but not excessively “friendly” to leave room for fraud.
Others that are friendly — at least as of now — are Singapore, Switzerland, Estonia, Slovenia and Mexico with their new fintech license that lets companies experiment with new fintech/DeFi protocols.
How do you like to receive pitches? What’s the most important thing a founder should know before they talk with you?
I wear two investing hats: (1) a partner at Mercury, where we seek to invest in infrastructure companies, and (2) VC3 DAO, where we have a very broad mandate to invest in innovation across web3.
Founders should, as always, do their homework on my investment strategy. They should focus on how they plan to build for the next bull run in a sustainable way that uses business fundamentals to drive returns. I don’t care about hype; I care about substance.
Paul Veradittakit, general partner, Pantera Capital
How big is the DeFi market today? How much do you expect it to grow in the next five years?
The DeFi market today can be measured via several metrics, such as number of users or total revenues, but the most commonly used metric is TVL, which is another way of expressing how much money is being entrusted by customers into the smart contracts of DeFi protocols.
As of today, DeFi protocols handle about $40 billion of retail and institutional capital, but this number used to be about $200 billion at its peak a year ago. The $200 billion peak TVL was partially driven by speculative use cases (often targeted at retail users), with little participation from institutions.
Naturally, we expect that in the next five years, as DeFi matures and begins catering to (as well as capturing share from) its TradFi counterparts, the TVL metric could easily surpass the $500 billion mark, which represents a CAGR of about 90% from the market size today
What were the biggest challenges your firm faced in 2022? What steps are you taking to better prepare for 2023?
For us, the biggest challenge was navigating the chaos resulting from a sudden influx of talent and funding into blockchain ventures that started in late 2020 and didn’t slow down until recently.
This led to the following:
- Higher pressure from founders to close deals quickly, often at historically high valuations.
- Less time to separate noise (in the form of inorganic traction) from progress (real product-market fit), and spending much more time on deal negotiations than research or company (process) building, which are both equally important tenets of running a venture business.
In the latter half of 2022, we saw healthy improvements in both the fundraising and founder sides of the market. Going into 2023, we expect to tackle these challenges proactively thanks to an increase in headcount across investing and operations, improved internal processes and friendlier investor timelines (induced by macro-induced valuation drops and the pullback of mercenary talent from the space).
How are you advising your portfolio companies going into 2023?
Like most VCs, we are advising portfolio companies to aggressively reduce burn and strive to maintain at least two years of runway.
However, one important facet that is especially true of blockchain businesses is the need to find organic product-market fit. We’re urging our founders to strive for that before running any expensive marketing experiments or giving out token incentives (which were common tactics in 2021-2022, even for pre-PMF startups).
Finally, we encourage founders to keep an open mind about pivoting, especially if they have the runway to do so and the clarity that the hypothesis for their initial ventures has been disproven (given a lot of these hypotheses were formulated during a bull market with limited data on hand).
Of all the pitches you get, what percentage are DeFi protocols or projects? What can they do to stand out in the broader crypto landscape?
Roughly about 20% of the pitches we receive are DeFi protocols. As venture investors, we’re looking to back innovators who are not afraid to experiment and create new products.
Hence, the following can help DeFi protocols stand out from the competition:
- Creating 0 to 1 innovation and not just incremental improvements.
- Creating organic or new demand for blockspace: The 2020-2021 bull market saw several DeFi protocols generating endogenous revenues (i.e., trading crypto for crypto or borrowing crypto against crypto). We like to see DeFi protocols that can either create exogenous demand for blockspace (e.g., real-world assets on-chain) or bring new users to crypt-native products in a novel way (e.g., retail-friendly perpetuals built on-chain with a CeFi wrapper).
- Tradfi expertise: Ultimately, DeFi is a reflection of TradFi, and founders who have deep sector expertise in TradFi coupled with a fundamental understanding of blockchains stand out from the other teams.
What is your current strategy for investing in DeFi protocols and projects? How has that changed from past quarters?
Fundamentally, our strategy has not changed much at a high level, as we remain bullish on DeFi and still look for the three areas mentioned above.
However, as DeFi has matured over the past two years, the sustainability of certain business models is now documented well, and we evaluate the growth potential of DeFi protocols from a more realistic lens, backed by data on competition/GTM/market size, as well as looming risks such as regulatory hurdles.
We also use metrics such as wallet growth and usage, a project’s integrations and emission-adjusted revenue when analyzing a potential investment.
What types of DeFi use cases do you think will gain more mainstream adoption going forward? Which areas of DeFi are now perceived as more significant than they used to be?
Several sectors within DeFi have arguably discovered product-market fit already. We expect these to continue to grow going forward. Examples include stablecoins (especially yield-generating stablecoins), DEXes (both for spot trading and derivatives, such as perpetuals) and liquid staking protocols.
In 2023, as block space becomes more valuable, we believe more individuals will want to stake their Ethereum tokens to earn revenues generated on-chain while enjoying the composability and benefits of DeFi.
This need, combined with the upcoming Shanghai hard fork (which will allow withdrawals from the Ethereum Beacon Chain) will push several users toward liquid staking protocols. These protocols will now have to spend much less in token incentives to maintain the peg of their staked ETH assets against ETH, encouraging more value accrual to the token.
Another winner we expect, in the aftermath of FTX, to be DeFi derivatives protocols, especially as clear regulations guide the way for novel innovation (e.g., bringing more types of assets on-chain) and distribution (e.g., serving U.S. customers).
How can the gap between traditional finance (TradFi) and DeFi be bridged?
I think the biggest gap between TradFi and DeFi results from three factors:
- Lack of regulatory clarity regarding what type of products can be offered on-chain, as well the role of tokens as securities or commodities. This causes large financial firms that do not want to become infamous examples of SEC rulings from building businesses on the blockchain, offering advisory services or trading tokens directly.
- Security and custody risks, often perpetuated by a lack of education on custody frameworks for the secure handling of digital assets. This hinders first-time digital asset managers from entering the space or getting access to the entire spectrum of on-chain assets (given an inflexible/inefficient custody framework).
- Smart contract risks, which are being addressed by the adoption of battle-tested smart contracts and improved audit processes. We’re already seeing crypto-native institutions deposit money in battle-tested smart contracts like AAVE. A combination of the passage of time and improved self-custody options (like smart contract wallets) will encourage more TradFi firms to at least experiment with blockchains.
Given the turbulence of the industry, how can companies and investors grow trust and boost adoption beyond crypto-native players?
I believe that there are four critical components to this:
Education: A lot of the mistrust that companies or investors harbor stems from the acts of a few bad (but very influential/well-advertised) actors, which means that we’re still failing at educating the public about the difference between cryptocurrencies and blockchains, as well as centralized and decentralized companies.
Regulation: Today, we put all our money into banks without batting an eye. That’s thanks to FDIC insurance, which provides peace of mind that our funds are safe. Regulations for cryptocurrencies will do the same thing, especially for CeFi companies like crypto exchanges or crypto banks.
Security: Crypto storage, custody and smart contracts continue to see key innovations in safety and ease of use. So many users have lost funds to phishing scams, smart contract frauds or rug pulls that they may never come back. However, these problems are being solved very aggressively, and we think will help boost confidence in the self-custody of funds by users.
Abstraction: Does Uber expose Twilio’s API to us when it asks us to rank our ride or message our driver? In the same way, blockchain businesses need to abstract away jargon so the average Joe can focus on the value these businesses have to offer. This is already happening, with big brands like Starbucks creating loyalty programs enabled by public blockchains (Polygon), without the use of “crypto” or “NFTs” anywhere.
How do you think regulatory frameworks can affect the DeFi space? Which country or region seems to be going in the best direction?
The biggest difference regulation can make is by providing much-needed clarity to builders on how they can innovate and create products that lead to mass adoption, as well as to asset managers on how to allocate capital.
There are several countries trending well in that direction, with the most extreme example being El Savador, where Bitcoin is legal tender. And places like Singapore and Portugal do not impose capital gains taxes on crypto trading. Nigeria is also an interesting example of a country where the government has shown that a CBDC (the eNaira) can harmoniously coexist with other cryptocurrencies, allowing both the public and private sector to benefit from blockchains.
How do you like to receive pitches? What’s the most important thing a founder should know before they talk with you?
We receive pitches in the form of warm or cold introductions, and often, we reach out to founders as well.
Warm introductions generally have a higher chance of leading to a first call, but this is not always necessary. While we do not have a preferred way of receiving pitches, we do expect founders to put their best foot forward and come prepared with a thorough understanding of their business, competitors and the market they operate in.
David Gan, founder and general partner, OP Crypto
How big is the DeFi market today? How much do you expect it to grow in the next five years?
According to DeFiLlama, the total value locked in DeFi stands at around $40 billion. In the long run, we expect to see institutional adoption and institutional players playing a pivotal role both from a TVL and volume perspective.
What were the biggest challenges your firm faced in 2022? What steps are you taking to better prepare for 2023?
As an early-stage VC, one of the biggest challenges is to help founders fully appreciate our operational focus — helping with GTM strategies, growth and listings. In 2023, we are focused on building a more consistent brand as a high-conviction, operational-focused VC and more proactively engaging and working with the builder communities. We are open to any feedback on how to better engage with prospective founders.
How are you advising your portfolio companies going into 2023?
Going into 2023, we want to establish more transparent communication channels and hone in on GTM and user growth. A lot of times, founders see communication with VCs as a one-way street, where they have to deliver good news to their investors.
However, our perspective is that we really want to work and grow alongside our portfolio companies, and we want the communication to be two-way. We want to let our portfolio companies know that we want to hear their feedback (good or bad) and understand how we can really help them.
Of all the pitches you get, what percentage are DeFi protocols or projects? What can they do to stand out in the broader crypto landscape?
About 30% of the deals we get are DeFi protocols or projects. Our view is that DeFi primitives are established and crowded (AMMs, lending, NFTfi, etc.). Founders need to go back and think about the true use cases and pain points for non-crypto/non-technical users, and then build solutions and user experiences.
From a technical standpoint, Layer-2s also present new opportunities to leverage a meaningfully larger design space enabled by lower/negligible transaction costs and speeds.
What is your current investment strategy for DeFi protocols and projects? How has that changed from past quarters?
We’re investing in the building blocks for institutional adoption, projects that fill the gap in the completeness of DeFi and protocols geared toward non-crypto users. We have been consistent in this strategy throughout past quarters.
What types of DeFi use cases do you think will gain more mainstream adoption going forward? Which areas of DeFi are now perceived as more significant than they used to be?
When we look back on DeFi in the last few quarters, we are most excited by the potential for real-world assets and derivatives to gain mainstream adoption. Industry leaders in equity markets, credit markets, real estate, trade finance, insurance and ReFi, among others, have highlighted the desire for and the shift toward the straightforward and cost-effective securitization of real-world assets.
We believe the importance of DeFi will first be exemplified in solutions tailored toward long-tail assets and emerging markets, and then eventually find product-market fit in larger traditional markets.
How can the gap between traditional finance (TradFi) and DeFi be bridged?
Based on our conversations with TradFi institutions, we see regulation and a talent transition (from TradFi) as the main drivers of DeFi interconnectivity and adoption. Given the current market landscape, there’s still a lot of hesitation from institutional players who are waiting on the sidelines as a result of either being prohibited from moving into the space or due to the lack of institutional-grade infrastructure that allows them to safely navigate the space.
That said, the custody, compliance and risk-assessment solutions, just to name a few, that are being built now will facilitate the adoption of DeFi.
How do you think regulatory frameworks can affect the DeFi space? Which country or region seems to be going in the best direction?
Realistically, it’s too early to say what regulatory frameworks will look like. We look at and are optimistic about countries like Hong Kong, where laws, licensing, and taxation of digital assets and services are not only favorable and defined, they are also similar to the treatment of traditional institutions and investable assets.
How do you like to receive pitches? What’s the most important thing a founder should know before they talk with you?
The best way to receive pitches is to DM our team on Telegram @davidgan1818 and @calvin_du1. We appreciate founders who are prepared to share clear, detailed and preferably data-driven insights on the problem statement (pain point).
Mike Giampapa, general partner, Galaxy Ventures
How big is the DeFi market today? How much do you expect it to grow in the next five years?
DeFi volumes took a big hit in 2022, along with the broader crypto, tech and fintech markets. Despite the large reduction in overall on-chain activity, DeFi was, in many ways, a bright spot across crypto. Stalwart protocols like Aave, Compound, Maker and Uniswap continued to operate flawlessly, while centralized lenders and exchanges struggled mightily.
DeFi is still a relatively small and new market, but it has grown rapidly over the last three years. From January 2020 to today, DeFi TVL grew about 65x from around $600 million to around $40 billion, including the rise and fall from its 2022 peak of about $170 billion.
While it’s difficult to predict a five-year trajectory with nuance, the underlying activity we’re seeing from entrepreneurs building in the space paints a bright future for this segment going forward. DeFi’s next wave of adoption is largely reliant on advancements in protocol security, risk management, capital efficiency and bringing more assets on-chain.
How are you advising your portfolio companies going into 2023?
It’s not one-size-fits-all. Our companies all find themselves in different circumstances, but there are some macro factors that impact everyone. The fundraising environment is challenging, so it’s crucial for companies to be mindful of their burn, hire well and maintain focus on their core objectives.
For some companies, their core objective is growth, and that’s great. However, with new market landscapes come many new opportunities and distractions. The most effective founders maintain discipline about everything they decide not to pursue. The successful companies will be defined by smart capital allocation and a focus on their roadmap.
What is your current strategy for investing in DeFi protocols and projects? How has that changed from past quarters?
Our approach hasn’t changed. We continue to be thesis driven, identifying software, protocols and financialized applications that we think will be the most disruptive over the next decade. Our venture team has the benefit of being part of the broader Galaxy organization, which operates a number of businesses across capital markets, asset management and emerging infrastructure. We continue to push the boundaries as a firm, operating more and more on-chain. This work uncovers obstacles and gaps in the market, which serve as insights for our venture team and opportunities for entrepreneurs to solve.
What types of DeFi use cases do you think will gain more mainstream adoption going forward? Which areas of DeFi are now perceived as more significant than they used to be?
The last few years have proven that blockchains can be effective financial rails and that DeFi works. We believe the expansion of on-chain assets is the core KPI for the DeFi industry going forward. Blockchains can provide global liquidity, broader access, instant settlement, programmability, transparency and lower cost of capital.
We envision a world where crypto expands beyond governance tokens and stablecoins to include a broad range of tokenized assets on-chain. This will be a long-term trend and we’re starting to see the early stages of adoption.
How can the gap between traditional finance (TradFi) and DeFi be bridged?
There is no shortage of opportunity to build institutional-grade infrastructure in DeFi. Improvements across trade execution, data, risk management, compliance, and tax and accounting are all essential.
More broadly, security continues to be a major gap as well. As an industry, we can’t expect institutions, corporations and retail users to truly engage on-chain if we can’t protect their funds. DeFi participants face an array of hacks, exploits and rug pulls. More sophisticated tooling to ensure security at the protocol level as well as at the front-end/application level, is needed.
Many solutions in the market are reactive and services based. Market participants need software-based products that proactively safeguard funds and provide more granular incident response and remediation if exploits do occur.
Given the turbulence of the industry, how can companies and investors grow trust and boost adoption beyond crypto-native players?
Actively converting mainstream users “into crypto” is likely to be the wrong mental model for broad crypto adoption. We’re thinking a lot about “embedded crypto,” where crypto primitives are integrated into platforms where users already spend their time.
Reddit’s NFT avatars and Starbucks’ NFT loyalty program are interesting early examples, where hundreds of millions of users could “adopt crypto” without really knowing it’s crypto or feeling like they need to onboard into a parallel universe. These companies have established trust with their user bases and are constantly looking for ways to differentiate and monetize in competitive markets.
How do you like to receive pitches? What’s the most important thing a founder should know before they talk with you?
Telegram works, as do Twitter DMs. It sounds straightforward, but know your market, know how your product differentiates and know your business model.