SmartCoin use cases

[Helikopterben]

I have seen much confusion and many concerns questioning the use cases of SmartCoins, almost to the point of questioning whether SmartCoins are really necessary.

Just to set the record straight - I think no-one here questions SmartCoins as a financial product.

Yes most people here get it but I have seen people in other places question their use.  For instance, the other day someone on polo said, "why would I want to buy a bit-this or bit-that."

[maqifrnswa]

Incentives for the SmartCoin Seller

The next question becomes:  what are the incentives for the SmartCoin seller (liquidity provider).  As I look at the SILVER:BTS market right now I see a settlement price of 4289.5 and a latest price of 4619.  Assuming settlement price hasn’t changed since the latest price, the SmartCoin seller asked for a 7.69% premium to collateralize bts in the form of silver and sell it.  For simplicity, suppose this was for 1 ounce of silver.  That means the SmartCoin seller received 329.5 bts as compensation for providing liquidity in the silver market.  The buyer was willing to pay 329.5 bts to obtain 1 ounce of silver and the trade took place.  This premium is a function of market dynamics and fluctuates over time as buyers and sellers agree on prices and premium.  Premium is often charged for buyers of physical commodities and derivatives of physical commodities as outlined in the oil example above.  Rarely do buyers get a discount in these transactions except for some cases in futures contract backwardation.

Nice write up. Your description of shorting is great (assuming a liquid market). We don't have a liquid market yet, which is why the premium is so high.

I agree with jakub -- smartcoin technology/idea isn't the issue, it's system trust combined with low liquidity. Shorters are taking on huge risks (in a thin & low market cap platform), and longs don't seem too keen on paying the premium demanded. UIAs fix that by eliminating the need for shorters until market cap increases.

[Empirical1.2]

This is more or less the conversation I am having with business people:

Q: OK, so who backs SmartCoins?
A: That's the point. Nobody does. It's a kind of futures contract guaranteed by the whole BitShares system.
Q: So if this system crashes for whatever reason I lose my money. And what's the current valuation of this system?
A: About USD 8 million.
Q: That's not enough for me to feel secure.

I know this is not a rational answer as the security of SmartCoins is not related to our valuation.
But that's unfortunately the perception we have to deal with at this moment. UIAs don't have this problem.

One way to answer this is to explain that smartcoins are backed with shares of Bitshares DAC. When new smartcoins are created, BTS is needed. If there are lots of new smartcoins, it means that creators have to buy BTS from the markets and that will raise the price of BTS. That way the valuation of the system automatically goes up when people are making more smartcoins.

BitShares is a Decentralized company that exists on a blockchain like Bitcoin.

It offers currency stable Smartcoins like USD which are backed by a dynamic, over-collateralised pool of BitShares.

The system has proved so robust,  that even after an 80% decline in the value of the underlying BTS shares, all currency products maintained at least a 100% reserve ratio & held their respective curency pegs.

While there is systemic risk, Smartcoins have no counterparty risk. They are also private and cannot be seized or confiscated by any government.

[Samupaha]

This is more or less the conversation I am having with business people:

Q: OK, so who backs SmartCoins?
A: That's the point. Nobody does. It's a kind of futures contract guaranteed by the whole BitShares system.
Q: So if this system crashes for whatever reason I lose my money. And what's the current valuation of this system?
A: About USD 8 million.
Q: That's not enough for me to feel secure.

I know this is not a rational answer as the security of SmartCoins is not related to our valuation.
But that's unfortunately the perception we have to deal with at this moment. UIAs don't have this problem.

One way to answer this is to explain that smartcoins are backed with shares of Bitshares DAC. When new smartcoins are created, BTS is needed. If there are lots of new smartcoins, it means that creators have to buy BTS from the markets and that will raise the price of BTS. That way the valuation of the system automatically goes up when people are making more smartcoins.

[Helikopterben]

UIAs don't have this problem.

With UIAs, one doesn't need to care about how much the price/value of a BTS is.
But the problem is, in this way, why would the price/value of BTS increase? Even if the system is "profiting" by collecting more and more BTS's into reserved fund pool, the asset issuers have incentives to keep the price/value of BTS at a low level so that they can pay less to operate their businesses. The goal of BTS holders and the UIA issuers are not aligned.
It seems this is what Ripple is facing.

Fees will be lowered as prices rise, so asset issuers shouldn't worry about bts price.  Users will want to own bitshares to collect premiums for Smartcoin issuance.  You can't get that right now with any other crypto natively on the blockchain.  This should put upward pressure on price.  Also, when the bond market is implemented, users will be able to earn interest natively on the blockchain, which should put upward pressure on prices.

[Helikopterben]

Very cool summary ..

I am a little confused as to what exactly the "." means in your tables. Is it decimal separator or thousands separator?

From what I understand, Europeans use a "," and americans use a "." as a decimal separator.

[cube]

It's highly likely, the actual Fort Knox is quite empty but the idea/metaphor of BTS being your own personal vault is a strong one imo.

Yes, it was a powerful and yet simple message.  However, this message is somehow in the myriad of constant changes.

[Empirical1.2]

Everyone in this space talks about trustless transacting and permissionless innovation.
How about trustless and permissionless OWNERSHIP?
The end goal of Bitshares is the ability of anyone in the world to store wealth in the cloud, away from prying eyes of his enemies, family, criminals, or governments. The ability to invisibly lock wealth somewhere where it's untouchable and relatively stable, has to be worth so much to so many people, that my head starts to collapse on itself every time I think about it.

While I was reminiscing over Stan's pre-merger hype posts, I came across an old BTSX image he posted in that vein...

It's highly likely, the actual Fort Knox is quite empty but the idea/metaphor of BTS being your own personal vault is a strong one imo.

[triox]

Wholeheartedly agree with OP. I'll add that if smartcoins/bitassets are proven to work long-term, they may be the last and only method of true ownership.

Nobody really owns his bank account, his stock portfolio nor his cash (try traveling with more than a few grand).

Everyone in this space talks about trustless transacting and permissionless innovation.
How about trustless and permissionless OWNERSHIP?
The end goal of Bitshares is the ability of anyone in the world to store wealth in the cloud, away from prying eyes of his enemies, family, criminals, or governments. The ability to invisibly lock wealth somewhere where it's untouchable and relatively stable, has to be worth so much to so many people, that my head starts to collapse on itself every time I think about it.

[jakub]

UIAs don't have this problem.

With UIAs, one doesn't need to care about how much the price/value of a BTS is.
But the problem is, in this way, why would the price/value of BTS increase? Even if the system is "profiting" by collecting more and more BTS's into reserved fund pool, the asset issuers have incentives to keep the price/value of BTS at a low level so that they can pay less to operate their businesses. The goal of BTS holders and the UIA issuers are not aligned.
It seems this is what Ripple is facing.

We can address this issue by strictly adhering to the principle of keeping the fees in sync with BTS market price.
It's doable with the current scheme of committee proposals.

[abit]

UIAs don't have this problem.

With UIAs, one doesn't need to care about how much the price/value of a BTS is.
But the problem is, in this way, why would the price/value of BTS increase? Even if the system is "profiting" by collecting more and more BTS's into reserved fund pool, the asset issuers have incentives to keep the price/value of BTS at a low level so that they can pay less to operate their businesses. The goal of BTS holders and the UIA issuers are not aligned.
It seems this is what Ripple is facing.

[jakub]

  Nice analysis

I have seen much confusion and many concerns questioning the use cases of SmartCoins, almost to the point of questioning whether SmartCoins are really necessary.

Just to set the record straight - I think no-one here questions SmartCoins as a financial product.
What is being questioned is our ability to successfully pitch SmartCoins with the market cap being so low.

This is more or less the conversation I am having with business people:

Q: OK, so who backs SmartCoins?
A: That's the point. Nobody does. It's a kind of futures contract guaranteed by the whole BitShares system.
Q: So if this system crashes for whatever reason I lose my money. And what's the current valuation of this system?
A: About USD 8 million.
Q: That's not enough for me to feel secure.

I know this is not a rational answer as the security of SmartCoins is not related to our valuation.
But that's unfortunately the perception we have to deal with at this moment. UIAs don't have this problem.

[abit]

Very cool summary ..

I am a little confused as to what exactly the "." means in your tables. Is it decimal separator or thousands separator?

I think it's decimal separator

[xeroc]

Very cool summary ..

I am a little confused as to what exactly the "." means in your tables. Is it decimal separator or thousands separator?

[onceuponatime]

Brilliant! Great job!

[Helikopterben]

I have seen much confusion and many concerns questioning the use cases of SmartCoins, almost to the point of questioning whether SmartCoins are really necessary.  The question that should be asked specifically is:  what real-world problem do SmartCoins solve?  I will show how SmartCoins can potentially provide a much better alternative to wealth storage and trade for physical commodities (namely oil) than other investment vehicles.  I will also show how IMO incentives are correctly aligned for short sellers on a market-based approach.  This logic can be applied to any traded commodity such as gold, silver, copper, natural gas, corn, wheat, sugar, soybean, ect. and many other assets with similar risk profiles. 

Someone asked me the other day if I knew of a good way to buy and hold oil because he thinks oil is cheap right now.  I told him he will have to wait until openledger (bitshares) becomes more established and liquidity enters the system, at which point it may be the safest and cheapest way to own oil.  Otherwise, there is not a good way to own oil right now.  The only options are physical storage, ETFs and futures contracts.  None of which are extremely efficient.  SmartCoins have the potential to most efficiently and effectively offer this service.  The following table sums up the advantages of SmartCoins over legacy forms of trade and investment:





SmartCoin vs Futures Contract vs ETF example with current prices:

Tl;dr Summary:  if you want to own oil, these are currently your best options.  SmartCoins are theoretical at this point, at least until we get some liquidity.


Explanation:

Bob thinks oil prices are cheap right now.  WTI crude spot price is currently $41.68/bbl.  Bob could buy a futures contract which requires him to have exposure to the price of oil in 1000 bbl lots only and he has to pick an expiration date.  Bob decides he wants exposure to the price of oil for 1 year.  The Nov. 2016 futures contracts are currently trading at $48.53/bbl.  Bob will pay a $6.85(16.4%) premium for this exposure.  This is due to contango, which is generally considered the premium charged for storage costs in futures contracts.  Long-dated futures are often in contango, but this dynamic may be a bit different during periods of backwardation.  Also, Bob will pay transaction fees.  Total costs vary but a typical cost for 1 round trip oil futures contract would be about $25 ($12.50 to enter the trade and $12.50 to exit).  I realize that leverage is often used in futures contracts but price exposure and profit/loss effects are still based on 1000 bbls of oil.  Leverage may also be available some day with SmartCoins.  Total cost above spot for this trade is $6875.

Bob could buy USO, which is an ETF that tracks the price of United States Oil.  USO experiences decay over time due to the effects of contango when rolling front-month futures contracts.  This decay varies but is generally around 5% per year.  USO is currently trading at $12.93/share.  Bob could buy 3,223 shares of uso, which would equate to 1000 bbls of oil at $41.68/bbl.  Bob will typically pay about $20 for a round trip trade in USO ($10 to enter the trade and $10 to exit).  Total cost above spot for this trade is $2104.  USL is another ETF that tracks the price of oil by spreading out contracts among many expiration dates, but it is still not much better, if any better than USO. 

Bob could buy 1000 Oil SmartCoins.  Alice will take the opposite side of the trade but will require bob to pay a 3% premium above spot to cover the risks associated with possible forced liquidation and collateral maintenance.  Bob will also pay $0.40 in transaction fees ($0.20 to enter the trade and $0.20 to exit).  Total cost for this trade is $1250.80 above spot. 
Obviously the oil SmartCoin is not trading right now so this is just theoretical but as long as premiums are less than 5% then the Oil SmartCoin beats the next best option on price alone, without taking into account the added benefits of SmartCoins outlined in the first chart above.


Incentives for the SmartCoin Seller

The next question becomes:  what are the incentives for the SmartCoin seller (liquidity provider).  As I look at the SILVER:BTS market right now I see a settlement price of 4289.5 and a latest price of 4619.  Assuming settlement price hasn’t changed since the latest price, the SmartCoin seller asked for a 7.69% premium to collateralize bts in the form of silver and sell it.  For simplicity, suppose this was for 1 ounce of silver.  That means the SmartCoin seller received 329.5 bts as compensation for providing liquidity in the silver market.  The buyer was willing to pay 329.5 bts to obtain 1 ounce of silver and the trade took place.  This premium is a function of market dynamics and fluctuates over time as buyers and sellers agree on prices and premium.  Premium is often charged for buyers of physical commodities and derivatives of physical commodities as outlined in the oil example above.  Rarely do buyers get a discount in these transactions except for some cases in futures contract backwardation.


Use Case Example:

Alice travels 3,000 miles a month for her job and uses 100 gallons of gas each month.  She wants to budget for her gas expenses for the entire year and right now she thinks gas prices are relatively cheap at $2.00/gallon.  Suppose Gas Smartcoins are trading at $2.05.  Alice buys 1200 gas SmartCoins for $2460.  Alice will pay $2.05/gallon all year as she redeems gas Smartcoins every time she fills up her car.  If prices jump to $3.00/gallon, then Alice will save money.  If prices fall to $1.00, then Alice will not receive the discount but she will still have the certainty of knowing exactly what her yearly expenses for gas are.  Perhaps in the future gas stations will accept gas SmartCoins directly.


Conclusion

Physical commodities are naturally decentralized and limited in supply by natural forces.  Many other assets that SmartCoins could be useful for are not truly decentralized outside of the blockchain.  Fiat currencies are an odd hybrid of UIA, where governments are the issuers who do not have to adhere to supply constraints, and banks as the custodians.  So you get the worst of both worlds.  Stocks are ultimately UIAs where the value depends on the actions of the company in question.  Stock indices are a bit more decentralized and could be good use cases (S&P 500, Dow 30, ect).   Treasuries, bonds, ect are also ultimately UIAs where the value depends on the actions of the issuers.  In other words, trading a centralized asset on a decentralized system may not provide as much value as trading truly decentralized assets on a decentralized system.  I think we should focus on markets for physical commodities first and then branch out to other assets.  I also think SmartCoins have an advantage over legacy forms of trade because prices are based on the global flow of information about price instead of future expectations of price or worse, the custodian model.


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We need a quick and simple statement to pique the interest of potential users (especially non-tech-savvy users).  It needs to be something that is simple to understand and it needs to make it very obvious what problem is being solved.  Obviously we are not to this point yet, but here is something that may be acceptable:

Why trade futures, options and ETFs when you can trade the next generation of derivatives for a fraction of the price with state-of-the-art security, transparency, and solvency powered by blockchain technology.  i.e. SmartCoins. Learn more      Create an Account      Buy
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