The rise of DeFi: Kyber Network (KNC) token analysis & model

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Decentralized financial application tokens have continued their record run, with a brief pull-back over the last 24 hours as the space at large takes a modest breather. This past week, the total market cap across identified DeFi tokens reached a record high $13.5 billion–3.7% of the total market cap of all digital currencies. In this report, we highlight the increasing demand DeFi is experiencing along with an analysis and model for one of the leading DeFi tokens, Kyber Network (KNC).
 

Three reasons for DeFi’s record run
The demand for DeFi applications has surged over the past three months for three reasons: increased DeFi dapp usability, heightened demand for yield bearing assets and loans, and the rush of momentum traders to find the next upstart token.

DeFi app usability has increased considerably over the past six months. Products that were once very clunky and difficult to use function nearly as smoothly as their centralized counterparts. Front end development for the leading decentralized exchanges has come a long way, making DEXs, such as Uniswap, Kyber, and others nearly as easy to use as large user friendly centralized exchanges, such as Binance and Coinbase. While some clunky aspects do still exist when utilizing these decentralized platforms, we expect that the difference relative to centralized platforms to further decrease in the coming months and years.

With interest rates near historic lows and with digital currencies seeing limited price action in 2018 and 2019, digital currency investors began searching for yield bearing offerings in the space in order to gain some return on capital. In the figure below, we diagram the Fed funds rate over time–in recent months the key benchmark rate reached decade lows.
 

Figure 1: Federal funds rate over time


 

Lastly, digital currency markets often trade on momentum in the short term, and over the past few months, DeFi has been the stand-out momentum trade. Traders have piled into DeFi tokens as they continued on a record bull run. In the figure below we diagram the total market cap across the top 10 largest DeFi tokens over time.
 

Figure 2: Total DeFi token market cap over time


 

Kyber Network analysis & model
Kyber Network functions as an on-chain liquidity protocol which can be integrated across various channels to enable the exchange of digital currencies without the need of a centralized intermediary. Over the past six months, transactional volumes on the Kyber Network platform have ballooned on the back of increased demand for DeFi tokens–some of the most active markets on Kyber are for DeFi tokens. In the figure below, we diagram Kyber Network’s transactional volume over time. Additionally, over the past six months, Kyber Network has continuously maintained between 5-20% market share across the top 10 largest DEXs.
 

Figure 3: Kyber Network notional transactional volume over time


 

Kyber Network, as a decentralized transactional ecosystem, is governed by a community of token holders. KNC tokens can be traded on the open market at a multitude of exchanges. Token holders vote on governance mechanisms for the platform, including the often highly important incentive aspects. Currently, KNC token holders receive fees similarly to a dividend for holding the asset.

The fees that are paid to token holders come from users who transact on the Kyber Network platform. At time of writing, Kyber Network has trading fees of 10bps on both the ‘maker’ and ‘taker’ side. A market maker provides liquidity to an order book whereas a taker removes liquidity from an order book by transacting at the standing bid or ask price. KNC token holders then vote on the distribution of these fees, with a portion allocated to reserves, rebates, and rewards (dividends) to holders.
 

Absolute valuation metric
In our model we borrow from the traditional financial markets to determine an absolute valuation metric for KNC by constructing a ‘discounted cash flow’ (DCF) analysis. In our model, we treat fees allocated to the token network as ‘cash flows’ even though these funds, if chosen to be distributed as a dividend, are paid out in the form of a digital currency and not in fiat currencies, such as the US dollar.

Our assumptions and projected valuations are delineated in the model below. As demonstrated in the absolute valuation model below, with our assumptions for future cash flows, the intrinsic market cap of the token is $974,741,502–above the current market cap of $314,785,812. Risks to our assumption include reduced DEX volumes in the future alongside reduced user interest in alt coins, hostile network attacks that could reduce successful governance, the rise of competitor platforms, among others. Our growth rates are projected from current and historical revenue numbers retrieved from Token Terminal.
 

Figure 4: Kyber Network (KNC) token model


 

Relative valuation metric
In addition to constructing a DCF, as shown in the section above, we also compare relative valuation metrics between KNC and other similar DeFi platforms as well as between public, centralized financial companies. This relative valuation metric is calculated by using market cap vs annualized token network revenue or in the case of a public company revenue.

In such a way, we can normalize ratios between assets and determine whether an asset is trading cheap or rich. This ratio functions effectively the same as the price/revenue or price/sales ratios in traditional equity markets, which thus allows us to cross compare DeFi with centralized companies. In the table below, we compare P/S ratios between KNC and comparable tokens as well as to comparable public companies. The lower a P/S ratio, the cheaper the asset is said to be trading.
 

Figure 5: Relative valuation comparison


 

As demonstrated in the figure above, KNC trades inline, but cheaper than other comparable token networks. Additionally, KNC’s P/S ratio is not considerably higher than mature public companies within the payments and financials space. As companies become more mature and their growth rate slows, their P/S ratios decline to reflect the reduced future growth which explains the lower multiples in CeFi compared to DeFi.
 

Conclusion
In this report we have diagrammed the tremendous increase of DeFi related applications over time. In particular, we analyzed one of the leading DeFi protocol tokens (KNC) and constructed both an absolute valuation metric as well as a relative valuation metric for comparison between other DeFi tokens and centralized financial companies. Our analysis indicates that on both an absolute and relative metric, KNC would be said to be trading cheap.
 

This document has been prepared in good faith on the basis of information available at the date of publication without any independent verification. This document should not be interpreted as financial advice or a recommendation to buy/sell any security or digital currency. TradeBlock, Inc. does not guarantee or warrant the accuracy, reliability, completeness or currency of the information in this presentation nor its usefulness in achieving any purpose. Readers are responsible for assessing the relevance and accuracy of the content of this publication. TradeBlock, Inc. will not be liable for any loss, damage, cost or expense incurred or arising by reason of any person using or relying on information in this publication.

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