Introducing The Token Transparency Framework

This episode unveils the Token Transparency Framework, a new initiative designed to combat the critical lack of transparency in crypto markets and rebuild investor trust by providing a standardized way for projects to disclose vital information.

The "Lemon Market" Problem in Crypto

• Felipe, CIO of Thea, kicked off the discussion by likening the current token market to a "lemon market," an economic concept where asymmetric information (sellers knowing more than buyers) devalues good assets.
  • In used car markets, this meant good cars ("peaches") were undervalued because buyers couldn't distinguish them from bad cars ("lemons"), leading sellers of good cars to exit the market.
• Felipe argues tokens face a similar crisis due to issues like:
  • Insufficient legal protections for token holders compared to equity investors.
  • The risk of teams launching multiple tokens, diluting value for early backers (unlike equity where early investors benefit from all future products, e.g., Amazon's AWS).
  • "Parasitic equities," where project revenues flow to equity holders instead of token holders. Felipe cited Uniswap, where "$90 million of fees through the front end [went] to equity holders, not UNI holders."
  • Founders conducting large over-the-counter (OTC) sales and abandoning projects.
  • Teams siphoning funds from project foundations for personal gain through inflated invoices for minor work.
• These problems create a high "token risk premium," which Felipe estimates at 20% or higher, compared to the ~5% equity risk premium. This translates to a potential 80% valuation discount for tokens.
  • Actionable Insight: This significant discount deters high-quality founders from launching tokens, potentially leading to a market dominated by "lemons" if transparency isn't improved.

Understanding the Valuation Discrepancy

• Yano, the host, and Dan Smith, Head of Data Block at Block Works, reinforced that token creators possess crucial information that buyers lack, exacerbating the lemon problem.
• Dan pointed to Circle's IPO performance (opening significantly above IPO price) as potential early evidence that markets may prefer the guarantees of equity, even for crypto-native businesses.
• Felipe detailed the math behind the valuation discount:
  • Equity: A 5% equity risk premium plus a 4.5% 10-year Treasury rate implies a 9.5% required return. For a company growing at 5%, this necessitates a 4.5% cash yield, leading to a Price-to-Earnings (P/E) multiple of around 22.
  • Tokens: A 20% token risk premium plus a 4.5% Treasury rate implies a ~24.5% required return. For a similar 5% growth, this demands a ~19.5% cash yield, resulting in a P/E multiple of around 5.
  • This stark difference (P/E of 22 vs. 5) illustrates the ~80% discount tokens may face due to perceived risks.
  • Strategic Implication: Crypto AI investors must factor this "token risk premium" into their valuation models, recognizing the higher cost of capital currently associated with tokens due to structural issues.

Structural Flaws and Market Dynamics

• Louisie, Investment Partner at L1D, highlighted that the 2021 VC bubble amplified the supply of "lemons" by funding numerous early-stage projects, many of which lacked sustainable models.
• A core issue, according to Louisie, is the ambiguous relationship between equity and tokens. He used GameFi as an example, where tokens often incentivize user activity and spending (in real dollars/ETH), but the generated revenue accrues to equity holders, while the token value diminishes.
  • "As a token holder you want to know what are your rights what are you entitled to and same thing for the equity holders because you're maybe competing with them," Louisie stated.
• Felipe added that the "everything bubble" of 2020-2021, characterized by zero interest rates and massive fiscal stimulus, allowed tokens to appreciate without fundamental justification, teaching the industry the "wrong lessons." Only now, as market conditions normalize, are fundamental questions about value accrual and cost of capital being seriously addressed.

Emerging Solutions and the Need for Standardization

• Dan Smith noted positive shifts, such as Morpho Labs transitioning to a shareholder-free entity and a16z's Miles Jennings discussing "the end of the foundation era," with new legal structures like Dunas and Borgs emerging.
  • Dunas (Decentralized Unincorporated Nonprofit Associations) and Borgs (Blockchain-Organized Re-Generative Guilds): These are experimental legal frameworks aiming to provide off-chain entities for DAOs and crypto projects that better align with decentralized principles than traditional foundations.
• While regulatory discussions like Hester Peirce's Safe Harbor proposal and the market structure bill are progressing, Dan emphasized their current disclosure requirements are insufficient.
• The Token Transparency Framework aims to fill this gap by providing a standardized, bottom-up tool for projects to communicate essential information, allowing the market to differentiate between projects.
  • Dan: "We wanted to give create a tool where markets or projects could simply communicate this set of information to the market and then let the market decide on that."
• Louisie used Morpho's decision to eliminate its equity component as an example of "opening the Schrödinger's box," ensuring future value accrues to the token, a move he believes other teams will watch closely.

Real-World Manifestations of Token Market Issues

• Felipe shared an anecdote of a project that, after receiving help, "rugged the token" by diverting IP and cash flows away from token holders to the founding team.
• He also mentioned the uncertainty created when Aave initially discussed launching a separate token for its Real World Asset (RWA) business, potentially diluting value for existing AAVE holders (though this was later clarified).
  • RWA (Real World Assets): These are physical or traditional financial assets (like real estate, bonds, or commodities) tokenized on a blockchain.
• Yano clarified that while some actions like rugging are illegal, others, like not directing revenue to a token, often stem from regulatory ambiguity rather than malice, but still make tokens less investable.
• Dan discussed issues like undisclosed founder secondaries and opaque market maker deals. He also highlighted the problem of core teams billing project foundations excessively for minimal work, effectively siphoning funds.
  • Louisie elaborated: Foundations, meant to support ecosystem growth with a token supply, can be exploited if the associated "Labs" entity (the development team) overcharges for services, especially when managed by interconnected individuals.
  • Dan described the investor experience: "You're sort of also being asked to be a ballerina in the middle of a minefield in the middle of a war zone."

The Challenge of Market Makers and Exchange Listings

• Dan pointed out that centralized exchanges (CEXs) often demand a significant portion of token supply and hefty listing fees, with terms frequently hidden by Non-Disclosure Agreements (NDAs).
• Similarly, some market makers abuse their position, leading to artificial price pumps and subsequent collapses, as seen with some foundation-only projects reaching enormous valuations before crashing.
• The Framework aims to encourage disclosure on these terms, though Dan acknowledged the difficulty due to NDAs. He rated the industry's current disclosure regime a "-2 out of 10."
  • Actionable Insight: Investors should be wary of projects with opaque CEX listing terms or market maker agreements, as these can hide significant risks and extractive practices.

Introducing The Token Transparency Framework

• The Token Transparency Framework is a bottoms-up, voluntary disclosure tool designed to be additive to existing regulations. Dan explained it as a "crypto-native S1," a standardized form projects can fill out.
• The process involved extensive consultations with investors (who showed strong demand) and projects (with positive reception from those committed to transparency).
• Louisie emphasized its open-source nature, allowing anyone to use, adapt, and share the framework and its findings.
• What it is: A form with approximately 20 questions covering critical areas. Responses lead to a score or grade, which will be publicly available.
  • The weights for questions were determined by surveying liquid funds, VCs, and top builders.
  • Felipe noted the questions are fundamental, covering aspects like the equity-token relationship, project finances, and team OTC sales.

Ensuring Honesty and Iteration

• Addressing concerns about teams providing false information, Felipe stated that while on-chain data is preferred for verification, lying on a public document intended for investment decisions carries significant reputational risk.
• Dan acknowledged the Framework is an initial step (moving the industry from a "-2 to perhaps a 3 or 4 out of 10") and envisions future iterations, potentially including periodic updates (e.g., every six months), similar to proposals in Hester Peirce's Safe Harbor.
• Yano framed this as an evolution: "It starts with reputation and it eventually ends up being law if this is successful."
• Louisie added that with multiple information sources (on-chain data, other investors), false disclosures are likely to be called out.

Framework Structure: Four Key Categories

• Dan outlined the four main categories of the Framework:
  1. Project and Team: Includes project description, revenue streams, the relationship between equity and token, and the team's relationship with the foundation. Scoring rewards clarity and alignment of interests (e.g., no direct competition for value accrual between equity and token).
  2. Token Supply and Allocation: (Details not fully elaborated in this segment but implied to cover tokenomics, vesting, etc.)
  3. Transactions and Market Structure: (Implied to cover market maker deals, exchange listings, OTC transactions.)
  4. Financial Disclosure: (Implied to cover project treasury, revenue, expenses.)
• Crucial Point: The Framework provides a transparency score, not a valuation or investment recommendation. A project could be highly transparent but still a poor investment.
• Felipe: "Let the market decide. Tell teams how much you're selling OTC and then see where the market punishes your token valuation."

Aspirations for the Framework's Impact

• Dan hopes reputable projects will use the Framework to showcase their commitment to transparency, and that key industry players like exchanges and market makers will engage and help refine it.
• Felipe's measure of success: "In a year if you asked a liquid fund who had never seen this... who are the good actors in terms of token holder transparency... and then you looked at this framework it would separate it out just the same way."
• Yano envisioned practical integrations, such as visual indicators (e.g., a green checkmark) on platforms like CoinGecko or CoinMarketCap for projects compliant with the Framework, and exchanges potentially using it as a listing criterion.
• The Framework and its results are publicly accessible at blockworks.com/tokentransparency.

Potential Effects on Token Valuations

• Felipe anticipates that projects scoring well on transparency will command a "token premium" over time, attracting long-term institutional capital. This could also lead to increased overall investment in the liquid token market.
• Louisie believes that in the short term, projects with strong fundamentals but poor communication will benefit most, as the Framework will help them "surface more easily the noise."
• Conversely, Felipe expects projects engaged in nefarious activities or value extraction to see their valuations "smashed," which he views as a net positive for the industry, redirecting resources towards genuinely productive endeavors.

Call to Action

• The speakers encouraged projects to participate by applying through the website and invited the broader community to provide feedback to iterate and improve the Framework.
• Felipe concluded by stressing that solving the "lemon problem" benefits all legitimate projects by improving overall market credibility and valuations. "If somebody does a market maker scam halfway around the world, it will impact your tokens valuation because you get lumped in with them."

Reflective and Strategic Conclusion

The Token Transparency Framework offers a crucial, grassroots-led tool to combat information asymmetry in crypto. For Crypto AI investors and researchers, actively tracking project participation and disclosures within this framework can provide a clearer lens on governance, risk, and potential long-term value accrual, distinguishing credible projects from "lemons."