Are layer 2 tokens a good investment?

Transcript

GM good morning welcome to the milk Road show The Daily crypto show that's as satisfying as Crossing off that last item on your to-do list I'm your host Jay Hamilton and today we're joined by milk road head of research and co-owner Kyle rehead today we'll be answering two questions rl2 is a good investment and if so which ones now before we jump into Today's Show we got a really exciting raffle happening right now all you have to do is subscribe to our channel on whatever platform you are listening to and you can be entered to win a whole bunch of prizes our crypto investing Master Class A milro Pro subscription and a mystery prize as well check the link in the details in the show notes

and make sure you get involved Kai let me start off by asking a very simple question why should anybody care about l2s right now uh if you look at the price probably you shouldn't uh but in reality l2s are probably the biggest stopping ground for crypto use right now outside of salana which obviously is getting the most transactions out of any blockchain l2s are really the one of the fastest growing ecosystems in the space whether you're looking at bass or optimism Etc obviously they they all kind of have their moment some are are growing faster than others but either way a lot of apps a lot of developers a lot of users are all moving onto layer twos over the past you know year maybe

two years let's say a lot of capital has moved there uh the LTV on on l2s is just skyrocketed the transactions the users and so outside of salana it's probably the most popular place to build and use crypto and so obviously right now that matters and I think a lot of people are asking the question well if we're all using this stuff should we invest in it that is a great question which we will answer today in this episode uh Kai let's start off with can you set a little bit of context what are l2s what's their purpose and why do people use them yeah so last cycle ethereum got too expensive and you couldn't really use it and so we needed either different layer one blockchains which we're going to try to scale crypto or we need to

build blockchains that connected rolled up a bunch of transactions and settled it over on top of an L1 so we obviously have our fast l1s like salana and aptose and soie and Avalanche Etc that are all trying to be the like monolithic chain where they're going to do it all in one spot actually Avalanche is not that but the other three I said are uh and then you have ethereum scaling road map which is hey we're going to continue to keep the ethereum layer one decentralized as a result must be a bit slower more expensive but we'll just create other chains called layer twos which will roll up a bunch of transactions and settle it down on the ethereum L1 and so that's been the ethereum's road map and it is succeeded in that and now there is something like 60 or 70 layer twos that

exist today and I think another 70 or so lined up to launch in the coming few months and so there are a lot of l2s and I think that scaling road map has shown to to work I mean as you have on the screen here most transactions on l2s now sub one penny which is massive and unlocks a lot of new use cases in crypto so I'd say they're they're doing their job currently yeah one thing that's obviously very difficult is to know which l2s you should invest in if there is 6070 and then double that coming in the future so make sure you stick around to the end because the final question today is about exactly answering that but let's break down a little bit of the investment thesis for l2s I would love you to take us through three different lenses to look at this let's look at the

good of L2 choose let's look at the bad nothing's perfect and then let's look at the ugly from an investment standpoint so maybe start us off with the good Kai yeah I'm GNA walk us through those and then I think after that Jay we'll talk about where I think this all goes in the future because I think what we're seeing and this is true with a lot of things with crypto right now the way we use crypto right now is going to change really really big in a year two years three years however long that's going to be uh so the way we think about valuing these assets the way that we the way that we currently value or measure the success of these assets I think is going to change sign ific L uh and So currently the good of course is everyone's using it right if you look at

the metrics you can go to grow the pie you can go wherever but in terms of users it's just month over month it's Skyrocket if you look at transactions month over month it's just skyrocketing across all l2s I think uh June or July was our B yeah July was our biggest month ever August probably we're going to surpass that again we basically pass it every single month and you know you've got people like coinbase who's launching an L2 okx and Kraken the other two big exchanges are going to be launching an L2 they've already announced that you've got big retail companies launching l2s and e-commerce companies launching l2s You've Got Time Magazine who's launching L2 you've got defi protocols that we apps now are moving their app to a specific app specific L2 and so there's there's so much Innovation happening in this space and whether that's a general purpose L2

like you think of optimism arbitrum even Bas is general purpose or you think of more use case specific like immutable which is a gaming specific L2 you don't really do much on there but gaming and then you have app specific l2s like time magazine who's got their I think it's called verify where you can verify like content on the internet so there's many different reasons one would have an L2 and I think the the good right now is there's so much Innovation competition is actually a really good thing because it means people are going to push harder to innovate and move faster and then as we've seen from these charts users transactions all these things are just going through the roof uh and then costs to use these things as a user anyway and as a developer are going down and down and down so all the things you want to

see in an ecosystem are are looking pretty good in terms of these these main sort of highle metrics okay so high level fundamentals onchain soaring as you said month over month every chart is going basically exponential but it's not all good in l2s and I think everybody listening to this is probably thinking well yeah the prices suck so what's going on with the prices then so the other one other good thing by the way is profit these are all working properly which is really nice we talk about the a lot at milk road is like we want to see protocols applications which are which are building a business and doing it profitably and right now when you look at l2s they are all profitable and that's because they basically just

repackage transactions they take the gas from others and then they go and spend it over on on ethereum and they take a bit of a cut from it so like their business model is just only works uh profitly now we'll talk more about that because I don't think that's going to continue so onchain profit good thing but the problem is the prices have not done well now and I mean that since basically year-to date if you look at any of them we are down real bad I mean you look at the last 30 days the last 60 days the last 80 days I don't care what you look at if you looking in 2024 the pric are down like more than 50% and basically every L2 except for the ones that just launched like a week ago and haven't been able to go down 50% just

yet so they're real bad now why is that happening I mean first all altcoins are down bad so I wouldn't say this is an L2 specific thing if you look at the crypto market cap in the last since March basically we're down I don't know what we're down today maybe 20 30% whatever it is but we were down real bad right what does that say there what are we down currently crypto Market 37% we we reach 37% yeah so to see that LTS are down 50 60 70 whatever it kind of makes sense I mean if you look at any altcoin they're all down pretty much the same now one of the issues with l2s who have been hit probably a little bit more than others at least more than let's say defi protocols and things is they suffer from what we've talked about a bunch the low

float High fdv basically what happened here is a bunch of these tokens launched and um and they only launched a small amount of their tokens and and so they have a bunch of tokens that are still kind of sitting there that are vested which unlock on a monthly basis and they unlock to whether it be VCS whether it be to the team Etc and so there's increased you know sell pressure on these tokens as they continuously unlock now this could be a bad thing this could also be you mentioned ugly this is probably more in the ugly side I would say because there's a lot of tokens that still need to be unlocked from these l2s and so I think that's an addition to why the prices are going so wrong for l2s currently uh and also probably competition I mean we just talked about

this so many of them it's like if I want to invest in salana because I see that the activity on salana is doing well I just buy soul but if I want to invest in l2s because I see l2s are doing good as I just said in the good section well where do I go there's like 60 tokens you know so there's there's obviously some fragmentation there and I think that that causes some issues in the price as well okay so fundamentals strong price bad Market bad where do you think this is all going in the future you sort of tease that you don't think the profit it sustains itself if you were to look out project the L2 ecosystem 5 10 years from now what do you see so first one other thing I guess we should touch on for the bad and or

ugly again it could be either right along with token unlocks is that LTS are Ser very centralized right the whole goal of crypto is to build decentralized protocols uh most l2s actually all l2s are not that they are very centralized whether it's controlled by coinbase or Optimus Etc now they are working their way of getting to become more decentralized and I think that is key uh and so we'll probably see that happen over time fault proofs for example just launched over on optimism and so like it's getting there but it's definitely we're still a long ways out from getting to that point I think that's probably still holding back price because there's just I know there's just additional risk there than there is if you hold eth or if you hold Soul which are are obviously a little bit more decentralized one final thought right now and where the

market's at is the L2 tokens are or l2s in general are used their tokens to bootstrap their ecosystem and so if you look at op for example they have um op rewards where if you do things on chain they'll give you retroactive uh rewards right every chain is doing this blast is doing points points programs arbitrum gives away tokens like they're all giving away grants and tokens right now and all that is is just saying hey if you build on my ecosystem or if you use my ecosystem I'll give you tokens what do those people do with it they're usually going to sell because they're getting paid to hire a team to build whatever app and so again these are all just really bad demand Supply demand factors that are put in these tokens now what we need in the future is to take profit from these l2s and use that

profit to buy back tokens I think if we can figure this out kind of like what ethereum does in terms of their burn then maybe these tokens are going to do much better once the supply Dynamics get figured out and we start to use profit to buy back we talk about this a lot with maker and a lot of defi protocols who are already doing this l2s are not there now l2s their form of profit right now is through transaction fees so they they have a higher margin on their transactions that they skim off of before they go and pay back ethereum I don't see this continuing long term and the reason I say this is It's So competitive in l2s what do you think they're competing on well on cheapness right if you want users to come and use your chain you want people to come and

build on your chain well it needs to be cheap and the best way they can do it is to keep lowering and lowering their fees and I think we'll keep seeing this if you look at immutable for example it's free to use immutable chain because they just said we're going to subsidize the cost for you will pay for those fees and apps and users you don't have to do it at all and I think all chains are going to go this way because it's the best way to create the best uux for users so if we think about where things are going to go with layer twos there's a million of them right now I mean there's hundreds of them let's call it not a million but maybe one day there will be Millions so in terms of the general purpose ones anyway I think we have power LW effects

where liquidity users apps devs they're all going to kind of go to one of them maybe two of them it looks like that's probably going to be base for a while it looked like it was arbitr optimism now Bas is part of the op stack so like we'll see what happens there but obviously Bas has coinbase which has all the users the distribution and so I think we're going to see Power laws where there's not going to be hundreds of general purpose l2s there will probably be hundreds of like app specific ones so like I don't know Amazon wants to move on chain they're not going to use general purpose L2 they'll just create their own L2 where they can have their own token if they even use a token they'll have their own functionality for their layer 2 and how their block space Works maybe their own

wallet Etc that only works in their one little ecosystem and they'll build there and so like those will happen we'll probably have a ton of these I think we'll see many many many businesses do this and they'll probably do on ethereum they'll also do it on salana everyone thinks salana is just going to be its own L1 it's not they're goingon to have l2s as well there's already five l2s on salana no one's talking about it but that's going to happen more and more so we're gonna see that continue and I think we'll see these power dynamics where the general purpose ones will collect most of the liquidity most of the users and I think that's probably going to be base but we'll see maybe polygon maybe our Trum I'm not really sure we'll see what happens there the key reason for this I think the

underlying Tech doesn't really matter anymore there's no longer really a moat like back in the day it looked like optimism had a lead on the tech or ARB had a lead on the tech right and now every general purpose L2 is basically the exact same now there's are there are some with like I don't know ZK Tech and whatever but like they'll all just end up having that and so like there isn't much I guess like competition or moat around the tech side right and I think what happens eventually is we start to connect all these l2s where there's not much motor on the liquidity either so let's say optimism has I don't know5 billion in LTV well once we make this once we remove the fragmentation from all the l2s that liquidity is just going to be shared across any L2 and so you

don't really have a moat there either and so I think there's two Moes that matter and I think those Moes are one distribution which we've already seen this is why Bas is doing so well it's why ton also is doing so well because they have the distribution from telegram so I think l2s especially general purpose that have distribution or op specific actually like if Amazon launched one they're going to get a ton of users the moment they decide to have a ton of users and so distribution obviously matters here and then the second thing I think that matters is ux and I think where we're going to start to see l2s go is trying to control the ux from top to bottom the best example of this as I said already is immutable the way that immutable works is it's an L2 specific for games

they've got hundreds of games building on there millions of users already using it but what they've done is they've sort of made their layer to sort of closed and the why they did this is now they can control how the fees work and so as I said there's no gas fees for games there's no gas fees for developers there's no gas fees for users immutable pays for it but what immutable has done in the back end is they have created an underlying Marketplace let's call it for nfts and for dexes okay and so every single trade that happens on immutable goes through this underlying Marketplace and what they do is they take a fee out of the volume of every trade that happens so again users never need a gas fee and so they don't need to put eth in their

wallet to play a game okay which every other blockchain does this and I don't think people understand how bad of a ux that is immutable has gotten rid of that and they have a new business model has nothing to do with transaction fees instead it's just from trading volume that's how they make their money and so when EIP 444 happened and lowered the fees to ethereum all that did was just significantly lower the expenses to immutable right and now people can trade more Etc and they just make more money that's all it is and so they also have their own wallet where if you use this wallet again no gas fees you can connect into any of these games you can use all the different things and so they're controlling the ux from the moment someone signs up to play a game all the way through to when they want to

trade an nft to when they want to swap to a different token they control the whole thing and so it feels like you're in one ecosystem it's like if you use I don't know fortnite or you're going to use Amazon or you're using Facebook everything you do is in that platform it feels all the same branding all the same ux that's what a has done for gaming specifically and I think that is a moe right a user right now that plays any game on immutable any game on IM mutable actually let's take developers un immutable they can't just go and move to base because they'll lose it all right everything that's in there exists with that same ux that immutable has built that is extremely powerful and no other L2 has that okay if you look at what blast is doing I know a bunch of people

are bearish on blast I'm actually extremely bullish on blast and the reason is they are trying to control the ux from top to bottom they've built some amazing Tech where you have native yield they're building a wallet a mobile app that's all done from within the same thing and so if you go to use defi you use it under the blast brand you don't just use I don't know whatever Dex is on top of blast so I think if you can get distribution and you can control the ux you can find new ways to create business models in terms of an L2 and it's not necessarily about gas fees anymore and I think at least I hope l2s are going to move away from charging gas fees at all because how can you get people to start using let's say bass or an L2 instead of

salana just even though salana has 0.001 or Cent whatever to to transact on salana there's still friction right there's still the idea that when I open up my Phantom wallet I have to put some soul in that wallet to start that's such a barer to entry to anyone new in crypto space whereas if I can just get rid of that completely I'm going to dominate the market and I think immutable has figured that out I think we'll see more l2s starting to figure that out so that's where I'm starting to see the L2 go and the reason that exists is you can't do that on the l1s you can't do that on salana you can't do that on on ethereum you have to control the the functionality of your blockchain which only exists when you build on top of a layer one when you build a layer two uh

and so I think that's where we're going to see the world go and um I think that's GNA be super bullish for this Bas okay so you kind of teased a few tokens that you clearly like there but if we step back what are the L2 tokens that you feel like are a good investor when there's 70 of them right now and 70 more coming feels tough to pick a winner yeah so outside of IMX every token is a general purpose sell too and so if we think of where this world goes right gas fees and onchain profit as you had that chart up is probably going to go down to next to zero it's going to go very low I'm sure some will still have a bit of a margin but it's going to be very very small to what it is today now that might

work out in the future once there's so much volume that you can charge just the tiniest little bit above but right now that we don't see that so I think those margins get lower and lower and lower okay I think liquidity gets not fragmented and moves to anywhere so you no longer have a moat on your liquidity and so I think it's gonna be very tough to choose the token that wins on the general purpose so this is your ARB your op Your Bass well bass doesn't have a token but mettis mantle every single Al you think of today I'm actually very bearish on all of them all of them have huge token unlocks all of them have tons of competition and all of them have zero moat so I actually don't think any is worth investing in right now at least on the general purpose side the only one I

do invest in because my thesis could be wrong and so the only one I do invest in right now that I think is is probably the top of these would be optimism now the reason I say that is because they have a different business model which is their op stack model which is whatever revenues Bas makes or mode or any other L2 that's in the op stack they pay I think it's 10 or 15% over to optimism so I think there's an opportunity there that if they can be the lead general purpose blockch chain they might be able to drive revenues to their token so that's sort of my bet on there am I super convinced they will not really but like obviously there's a lot going on in the L2 space I want some exposure to it so op is my main way of of getting

access to that otherwise like honestly I don't see these tokens doing very well now look when we get into the banana Zone as we've talked about a million times like every token's going to go up if l2s catch a narrative then like they're going to go up but in terms of like are they really going to outperform I'm not sure and so do do I have strong conviction fundamentally I don't think think so because I think the business model of l2s gets disrupted in the next year or two so if I was to take one on the general purpose side it's probably op now moving out of that I start to model these things and look at them very differently which ones aren't looking at l2s the old way we use l2s which ones are building something completely different and that's immutable right I've talked a bunch about immutable

already and how their business model works it's not on fees it's on something different and they actually have something that's very different than every other L2 right they're niche in terms of gaming they have their own that controls the ux from top to bottom so they have potential to have a moat around their ecosystem all they need is just one or two or maybe three games to finally work out and they are going to crush it now they have hundreds of games already committed to building on them there's like five games already at least that are picking up traction that have like two to three million I think daily or monthly I can't remember which um which number it is but daily or monthly active users so like they've got something going there and with gaming it takes like one out of you know a 100

games is going to make it it's going to make it real big and if that happens a mutable setup because every trade that happens in every single game on a mutable they're taking I think it's 1% or 0.25 whatever it is but they're taking a cut off of it all so they just need a few games to really work out and they they make that money and they also buy back the IMX tokens from every transaction that happens so not only do they have a revenue mechanism that makes sense long term so long as you know something works on their on their L2 they also have a way to drive demand to their token which is BuyBacks so they've already figured it out in my opinion we're just waiting for a game to take off so IMX have been very bullish on for a long time one other the reason I'm

bullish on IMX is they don't have many token unlocks left they launched way before most other l2s and so most of their tokens are in full Supply I think it's something like 80 or 90% already so there's not much left over there to be put on the supply so to me yeah what's the number on there 78% and this this is as of like a month ago so right around 80% right so they're kind of you know they're a lot farther through their maturity of their token than most other l2s so I think that's one reason that that I'm bullish there the only other one and I actually don't well I guess I do hold some of this the only reason I hold it though is because I got the air drop so blast blast is one where I'm not necessarily super bullish on it right

now there's a lot of token unlocks to come out a lot of people are nervous on blast at the moment and it's done really poorly lately because once their airdrop released and their token was released uh month or two ago their stats have gone down big so if you look at the active users on blast G down like 70% but I mean this happens on every protocol so it's not really a huge concern what my what I really want to look at is like is there anything there that exists that gives them a Moe and the one thing Blast has that no other L2 has and no other chain has is native yield and I still think this is one of the coolest things this is actually where I said um l2s don't have any mo around their Tech blast currently does because they've built in something that no other L2 has

where if you hold eth on their chain or you hold a stable coin on their chain it autoc converts it into a native uh yield bearing asset and so it basically what it does in the background is if you hold eth it uses uh Lio to give you the yield of stake deth if you hold forget what their stable coin is B us usdb yeah it's using maker to give you the yield from SD from from D from maker and so you can create apps now that you can't create anywhere else on blast and I think that's really cool because you can start to use this native yield to create a business model and so think of like predictions markets for example poly Market yeah you can go use poly market and polygon but if there was one on blast well now you can actually earn

yield while your money is sitting there in a predictions market right sometimes it takes months for your prediction to play out but you could actually be earning some income while it's in there waiting to see if that if that prediction plays out or not and so and that's just one example but there's many different examples that blast can do in terms of like an app that just can't exist anywhere else and so to me that builds Network effects to me that's way more valuable than them having a lot of users right now or a lot more tvl than anyone else because they just have something different and they have a chance that an app will be created there that just can't be created and moved anywhere else so when I think of who has a moat more long term blast does absolutely blast does and so I know a

lot of people are bearish on it which is the best time to be buying uh maybe it's still got some more room to go down I'm not even sure what the price is at right now I haven't bought any of it I just I didn't sell my um my airdrop and and I'll just kind of see where it goes from here but let's see what the uh what the FD sitting at one cent right now in terms of price yeah but what I'm looking at is uh is the fdv is what I want to see FTV is sitting at 1 billion and the market cap is 200 million right so it's it's fairly low uh I think arbitrum optimism are 1.5 or more at this point getting close to two billion so probably still has a more way to go down but I think as markets start to pick up if

blast can show that it has some apps just like if IMX can show that it has some games I think this thing's going to do really well because just in terms of it has something different than everyone else which everyone else is the exact same Kai thank you so much for uh breaking that all down for us everybody listening I want to know which L2 tokens you hold which ones are you invested in and throw a comment in wherever you're listening on YouTube and as I said at the beginning if you're not already subscribed to our Channel Please Subscribe because if you subscribe by the end of the month you could win some free prizes in our raffle that is happening right now details in the show notes remember everybody none of this is financial advice investing in crypto l2s in particular is risky you should only

invest what you can afford to lose thanks so much for listening in see you next time have a wicked awesome day