Stubborn Pablo

I am very stubborn. This has been a great boon for my investment career, because I am quite indifferent to market cycles and the latest fads. I am proud to say I only invested in one ICO in 2017, and it turned out great (Tezos). I long ago committed to the teachings of Benjamin Graham, and they have been a safe harbor in crypto hurricane after crypto hurricane; but this inflexibility has led to my team having to sometimes drag me kicking and screaming, to a pile of profit.

Long before incentivized testnets became a thing, around 2018, our senior researcher, I`ll call her “Eve”, noticed that Mina, a project we had already decided to invest heavily in, was giving away token allocations to testnet users. Several years later, in 2021, they also expanded this program by distributing large Mina token stakes to validators who participated in these testnets and met certain conditions. These validators made a 5% fee of the top off any block rewards, which at the time of writing (Nov 2021), amount to around $7,500 per month. The tesnet allocation ended up being 66,000 tokens, vesting once per year over 4 years. Currently valued at a total of $350,000. All this on a paltry investment of around $3,600 in VPS time and no more than a 200 hour time commitment, over the 18 month life of the incentivized testnet.

But when this new mode of distributing genesis tokens was pointed out to me, it promptly entered my right ear, and straightaway exited my left ear. Since the specifics of the incentive rewards would be announced only years down the road, I did not find the idea of spending an undetermined amount of time running Mina hardware, for an undetermined reward, at an undetermined date, appealing. After all, I planned to invest heavily in Mina with cash already on hand, and this newfangled “incentivized” distribution system struck me as a giant waste of time for what would likely turn out to be a measly reward. Seldom have I been so wrong.

Graham once said:

An investment operation, is one which upon thorough analysis, offers safety of principle, and a satisfactory return.

To Graham, who made his investment bones during the Great Depression, investment was at its core, the management of risk and a defensive art. Above all, one must not lose capital, and each operation must be backed by a large margin of safety in terms of value. Eve’s suggestion, that we sink capital into running nodes for Mina, at a time when we were not sure of what the sale price of the token would be, or even the amount of the incentive reward, struck me as madness, because without any measurable value anywhere in the equation, there was no margin of safety (I thought).

But what “principle” (value) did I have at stake here, really? I value my time highly, but this conundrum reminds me a lot about what a reading coach once said to me: “If you want to read a book a week, you don’t need to sit down and read 20% of the book every weekday, you just sneak reading in where you can. You read on your break, on your commute, at night before bed. A half hour here, 15 minutes there, and without realizing it, you’ve finished your book”. The same applies here, I was looking at this as a huge, continuous, investment of time. But what if I could work on the testnet when my time was selling at a discount (with a large margin of safety)? At night instead of watching TV, or after work while my kids were doing their homework? This is cheap time. The cheapness of my principle (time) provided a large margin of safety.

Let us consider how to secure “a satisfactory return” then. There are spreadsheets circulating the internet with dozens of running and rumored incentivized testnet projects where people are staking out positions, sometimes before announcements, or even alpha deployments, are made internally by teams. I am willing to invest “cheap” time, but chasing down each of these testnets, would more than certainly eat into my “expensive” time, time I spend with on my core obligations; even as a professional crypto investor, I can not “afford” to try my luck, testnet by testnet. Especially when we remember the 92% attrition rate over two years of crypto tokens in general.

To maintain my margin of safety, I aim to invest only my cheapest time, thus sorting these incentivized testnets becomes a matter not just of sanity, but of profitability. Chasing each of them down, would, on average, cut my profits to near zero, because of the many duds I would be bound to run into. Much like with crypto investing, it is possible to sort incentivized testnets using a modified criteria we have explored before: “team, technology, and funding”.

First and foremost, sort for great teams. We should sort testnet candidates for great teams. LinkedIn, Google, etc. are great sources to track the trajectory of key individuals. It is possible to get one or two high grade people into a low grade project by promising incentives, but all round great teams are easy to distinguish and hard to miss, merely because most everyone has an excellent personal trajectory and clear roles and goals within the organization. People who look great on paper but do not have clear roles and means to help achieve the protocols mid and long term goals through insight or networking can be disregarded.

The incentivized testnets’ technology should be appealing. You are going to be investing a couple of hundred hours of your time into any given testnet, you better be interested in what it is trying to do, or you will not be able to hold on. The technology should be unique, and form the basis of an ecosystem others can build upon. A “platform” technology, one with building blocks that can be used to build upon is ideal. Think early ethereum and the myriad projects that have been built atop the smart contracts innovation; this is the best possible scenario. The protocol implementation must be unique, if not the technology. Mina uses Zero Knowledge Proofs, a technology common to other blockchains, such as ZCash, but Mina implemented a unique build, a blockchain that is never longer than a few kilobytes. This is the kind of technology we are looking for.

The testnet should be well funded. I am not referring to the amount of seed or A series funding committed to the project, but rather of the quality of the people doing the investing. I once reached out to a nascent blockchain project and offered a high six figure investment in the technology with no strings attached in exchange for tokens at seed valuation. I was turned down, because this protocol did not need help raising funds, they needed help finding investors who could open doors for them. Any project that will politely turn down my money, is a project I want to be invested in. The bonafides of the prospective testnet protocol investors are more important than the amounts committed to the token. There is a lot of “cheating” that can happen with venture capital commitments and announcements, especially at the periphery.

Protocols sorted in this way, will tend to have very high survivability, and thus will tend to offer excellent returns on your invested time and resources. In all likelihood, exponential returns. If your only cost is this same cheap time, and some VPS hours, it is hard to go wrong, in the worst case scenario you greatly improve your CLI skills as a node operator and the money you will spend on VPS operations (200 USD a month average for heavy use of 3 VPS’s) is money well spent on developing your skills as a crypto entrepreneur. There is absolutely no downside to selective incentivized testnet investing, whichever way it goes, you end up ahead. Even if the token goes to zero after launch (which is very unlikely if properly sorted). High quality incentivized testnets are as close to a free lunch as any of us are likely to get in our lifetimes.

I originally judged incentivized testnet operation as speculative, it was my impression that there was an absolute vacuum of information upon which to make a rational investment decision. But this was only because I misunderstood the cost of investing in these incentivized testnets, by investing cheap time ad a little money, with no downside (because even if the token disappears you have professionalized your skill set for a micro sum) you are making an asymmetric bet, because the upside of receiving incentive tokens on a future successful protocol, has exponential value. You can turn a $3600 investment over 18 months into $360,000. That’s a fantastic return. And if you lose? It cost you 200 bucks a month and some of your “free” time.

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Stubborn Pablo was originally published in DataDrivenInvestor on Medium, where people are continuing the conversation by highlighting and responding to this story.