During my 10 years of thinking and talking about crypto it became obvious to me that volatility is the single biggest problem that hinders the mass adoption and consequently the further success of this otherwise promising technology. This is true for all established crypto projects, but especially true for ADA that experiences a substantially higher volatility than competing projects’ tokens like ETH or BTC. Yet, I don’t see any orchestrated effort to address this problem. Like if it’s something inherent to the concept, if it’s a property of the design that we have to learn to live with.
While in this post I will concentrate solely on Cardano (ADA) - because some of my arguments are only applicable to this project -, my conclusions probably could be applied to other cryptos as well. The following is NOT an investment or financial advice. It’s only a thought experiment and the sole purpose of this writing is to solicit conversation about this pressing topic.
First of all, volatility is not inherently a bad thing. It is a crucial capacity of money like constructs to be able to express the changes of price relations between different valuables. We can’t and we don’t need to fight this natural volatility. It is very important to see that what is causing unnecessary damage to the ecosystem is too much volatility. I call it destructive volatility and I’m convinced that this is something that we can push against.
Destructive volatility is a chaotic oscillation of over- and undervaluation periods. While we tend to associate the term with high frequency changes in price, the truth is that volatility happens throughout the frequency spectrum - usually with higher amplitudes at smaller frequencies - and its destructiveness depends on the length of the application: for long term applications high frequency volatility doesn’t really matters, and for short term application long frequency doesn’t. What really matters is right valuation.
When ADA is undervalued people and projects already doing business in ADA are in trouble, when it’s overvalued people and projects who willing to do business in ADA are in trouble. When the two states start to oscillate chaotically the whole thing becomes a nightmare of unpredictability. IMHO it’s only the enthusiasm and the remarkable patience of the community that holds the ecosystem together. Which is admirable, but not sustainable on the long run.
I know that the silent - and not too confident - consensus is that it will go away as adoption grows, but we shouldn’t fool ourselves: volatility is the top reason why people are avoiding ADA, so it’s overly optimistic to expect adoption to solve the problem what holds adoption back. I’m not saying it’s impossible, I’m saying it will be painfully slow and we can not be sure if that enthusiasm and patience will hold out long enough. I say we better don’t risk that and start to do something about it.
So what can we do? To answer that we have to understand what causes destructive volatility. It’s one thing: low liquidity of the markets. Low liquidity is inherently linked to fixed supply that makes people HODL and in ADA’s case it is strengthened by the possibility of staking which is further incentivizes HODL. I have good reasons to say we don’t want to touch neither fixed supply nor staking, because fixed supply is the only meaningful decentralizable monetary policy we know, and staking is the only safe and economically and environmentally sustainable architecture of crypro we know.
So if we don’t want to change the defining attributes of Cardano’s architecture and monetary policy we have only one possible way to change the state of affairs: if we relaxing on HODL. Overvaluation is when there is less ADA on the market than needed, undervaluation is the opposite, when there is more. So if volatility is the oscillation between these two state than it’s easy to see that without moving ADA in (selling) and out (buying) from the market we simply can not solve this problem.
Of course the problem with this is that we can not know for sure when ADA is over- or undervalued: there is an elevated risk compared to staking. But how big is this risk?
I made a little and superficial - but rather conservative - analysis to see that from 2020. aug. 19. to 2021. aug. 19. how many days you could sell ADA and to buy back for 8% cheaper in a year, and the opposite, to buy ADA and sell it for 8% more in a year. (I will release this tool, but more on that in another post or in the comments.) In this period ADA’s price was in an almost steady rise, buying ADA and selling it for more was easy: there was 364 days you could do that. Selling ADA and buying back for 8% less was really hard for the same reason: on only 215 days you could do that. What that means is that without any thinking, any random day you had 99% chance to buy, and 60% to sell (in a pretty hostile market for that kind of move) to make double the interest that we make by staking.
So this is my rule of thumb: ADA is overpriced in my opinion if I feel certain that I can sell it and buy it back for a given percentage less (interest) in a given time-frame (duration). Not likely, not probably, not I have a feeling, not almost certain. No. When I’m certain. (I picked 1 year and 8% to make it comparable to staking.)
Certain like I’m certain that Cardano will prevail. Can I be 100% sure about that? No. We simply don’t see the future, so even if I’m certain in some outcome, I have to be prepared that things won’t go my way. ‘Certain’ in relation to the future only means that we made a very low risk prediction, and we did everything to our best abilities to make that prediction. From this it follows that staking also has an inherent risk: the price of ADA. And if we don’t make the markets more liquid, we’re increasing that risk, which renders this whole situation into a balancing act. All I’m saying is that if we avoid bearable risks too much we risk the whole game.
Because what is the worst case? Think about it. Let’s say we risk 10% of our staked amount on the market. We sell this portion but at the worst moment possible: in 1 year it goes up by 100% and never touches a price 8% lower. Bummer. Good news is that your staked 90% worth twice as much.
And that’s it, that’s what I wanted to say in this post: I think we have every reason to relax our HODL habit, take out a small portion of our staked amounts, bring it to the market and make long term, low risk bets, with our best abilities. En masse, everybody with his/her own numbers, decentralized as it should be, but sharing knowledge and experiences with each others. As strange as it sounds we would serve the community with this kind of ‘speculative’ trading in my opinion.
Thanks for reading,