January 7, 2022
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This Week
We have a major new report for you this morning covering maximal extractable value (MEV) on Ethereum. Also: Samsung plants a flag in the metaverse; Kazakhstan government kills internet in bid to quell protests, impacting Bitcoin miners; OpenSea raises a monster round.
New Report: MEV on Ethereum
In this report, we present a detailed overview of MEV, how it is created, and why MEV remains a significant issue on Ethereum with grave consequences for network stability if left unmitigated. We also discuss some of the potential solutions to MEV that have been presented by Flashbots, the creators of Ethereum’s most popular channel for earning MEV, and other interest groups such as the Ethereum Foundation. 

Key Takeaways

  • Miner or maximal extractable value (MEV) is the value extracted by miners or validators by utilizing their ability to order transactions within a block.
  • MEV has grown more lucrative on Ethereum due to the rise of Decentralized Finance (DeFi) applications and become easier to earn due to the creation of Flashbots Auction, a dedicated marketplace for finding the most lucrative MEV opportunities.
  • The three main types of MEV on Ethereum are arbitrage, liquidations, and sandwiching.
  • There are three prongs to combatting the negative externalities of MEV. They include updates to Ethereum’s consensus protocol, changes to decentralized application design, and education about MEV strategies executed on-chain.
  • Miners and operators earned $730m in profit from MEV on Ethereum in 2021.
  • At current rates, Ethereum miners alone are expected to earn more than $750m annually from MEV.

Market Update
The total implied network value (market cap) of the digital assets market stands at $2.01tn, down 9.4% from last week (when it stood at $2.22tn). Bitcoin’s network value is 6.75% of gold’s market cap, down significantly from last week when it was 7.47%. Over the last 7 days, BTC is down 7.4%, ETH is down 8.4%, SOL is down 14.2%, and LUNA is down 12.3%. Almost all major coins are down more than 15% WoW. The only digital assets up on the week in the top 30 are LINK (+12%), ATOM (+29%), and FTM (+28%). Bitcoin dominance is 39.91%, down slightly from last week.
Data current as of 10:51pm ET on January 6, 2022. Prices and Data via Messari.
Markets have been roiled over the last month and this week as risk-off sentiment permeated through markets. Read Alex’s note from yesterday for in-depth market commentary.
Three Big Stories
🏴 Samsung Plants a Flag in the Metaverse
Samsung Electronics America opens its first store in the metaverse. Called Samsung 837X, the store located in Decentraland, a blockchain-based virtual reality (VR) world, is modelled after the tech giant’s flagship building in New York City. Visitors can enter the store and complete quests within various rooms to earn NFT badges and limited-edition avatar accessories. Samsung is one of the largest brands to partner with Decentraland to create a VR experience and represents the first of many experiences that the company plans on debuting this year in the metaverse. The metaverse is a catch all term for the technologies that facilitate social connection in a VR or mixed reality setting.

As the most popular blockchain-based metaverse experience, Decentraland’s native token LAND surged to a 7-day high of $3.42 yesterday following Samsungs unveiling of 837X. The opening of Samsung 837X is part of larger push by the company to capitalize on the growing market for metaverse technologies, which Bloomberg estimated could generate $800 billion in revenue by 2024. “It’s no longer a fad, but a well-established trend of the future,” Samsung stated about its focus on building products for the metaverse in a blog post.

This isn’t Samsung’s first step into crypto and Web3. Indeed, the company offers a native mobile crypto wallet on their device and even partnered with Ledger to support the Nano hardware key storage device. And as one of the world’s biggest chip manufacturers, Samsung is the primary provider to MicroBT, the world’s second largest producer of bitcoin mining machines (ASICs), which MicroBT calls a “strong partnership.”

Samsung is not the only major tech firm to have announced ambitious projects in the metaverse in recent months. Since Facebook’s rebrand to Meta in October, the social media giant has publicly released its VR world experience called Horizon Worlds and set up a $10 million Creator Fund to subsidize the creation of new VR experiences on its platform. Competing with Horizon Worlds, Asia’s largest metaverse platform ZEPETO is also partnering with major fashion brands such as Louboutin, Ralph Lauren, and Gucci to offer digital-only clothing. 
OUR TAKE: A slew of brands—mostly consumer brands, athletes, and influencers—have begun to become active in the metaverse, even if they aren’t outright involved in crypto. The bet makes sense, particularly for the consumer brands. Developing new products, such as mobile phones, is expensive and requires years of R&D, but developing for the metaverse is cheap. Issuing NFTs is essentially costless. Perhaps Samsung believes in the long-term viability of the metaverse, and has calculated they should have a presence there if consumers plan to be there as well. It’s a digital billboard, but much more immersive. And it’s also much more efficient—Samsung can use the tools of Web3 to create customer loyalty through items and experiences that cost nothing to produce but might increase their brand loyalty or convert customers from their competitors.

Given that Samsung has a slew of products in the crypto and Web3 categories, including a mobile wallet, chip manufacturing for bitcoin ASICs (MicroBT buys from Samsung), and now a presence in the metaverse, it’s clear they are the Web3 leader among the mobile phone manufacturers. That lead is only growing. Samsung even produces their own VR headset, the Samsung Gear VR, albeit in partnership with Oculus. They produce chips that power blockchain networks, wallets that hold digital assets, a virtual reality headset you can use to visit their stores… and if you do visit, you might even get some collectibles (which you can store in your Samsung Wallet).

How long can their big mobile rivals, Apple and Google (who have essentially done nothing in crypto or Web3), afford to sit on the sidelines while Samsung dives head first into the metaverse? Our world is becoming more and more digital, and it feels like Samsung isn’t just leading the pack—they’re lapping their competitors.

This story is less about adoption and more about corporate positioning. Whether or not Samsung store 837X leads to real revenues, the company is making a clear statement about their vision of the future by planting a flag in Decentraland. And other brands are doing the same. When users will follow into the virtual space en masse still remains to be seen, but by building an integrated offering, Samsung is trying to make it as easy as possible when they do.
🔒 Kazakhstan Internet Blackout
Cryptocurrency mining operations in Kazakhstan have been severely disrupted after nationwide protests led the government to shutdown the country’s internet. Mass demonstrations protesting against soaring energy prices and worsening economic conditions in Kazakhstan began on Sunday, January 2. The government cracked down on demonstrations and shut down the internet in an effort to disrupt the protestors’ organizational efforts. Despite a harsh government crackdown on demonstrators, the public dissent has been continuing for days and recently culminated in President Kassym-Jomart Tokayev, who has now resigned from his role, reportedly ordering the largest telecom provider in Kazakhstan to interrupt all internet communications in an attempt to make it harder for protestors to organize. As the country with the second largest concentration of Bitcoin mining power, the shutdown forced cryptocurrency mining operations in Kazakstan to come to a screeching halt and the total computational power of Bitcoin, also called hashrate, to plummet 12% in the hours following the internet blackout, although it has since rebounded.
OUR TAKE: While the blackout did cause a brief drop in hashrate, the drop had minimal impact on the network. In fact, bitcoin mining difficulty, which automatically adjusts up or down every 2016 blocks (~2 weeks) to make it easier or more difficult to mine such that the average time between blocks remains at a 10 minute average, is actually expected to increase, albeit by a small amount, sometime tomorrow morning. The increase in difficulty signals that blocks have been found at a rate faster than ~10 minute over the last 2 weeks, meaning that the hashrate has been increasing overall during the period, perhaps a consequence of the significant growth of bitcoin mining in North America. This permissionless system, which automatically adjusts based on the amount of computation supplied to it, is highly resilient, as dramatically showcased this past summer. After China banned bitcoin mining, more than 54% of Bitcoin’s hashrate dropped off the network, but Bitcoin’s difficulty adjustment accounted for the decline and returned the system to stasis. And within 5 months of the regulatory crackdown, Bitcoin’s hashrate had rebounded and recovered completely. It was not because the Chinese government relented in their policies against bitcoin mining but because the network’s hashrate had migrated to other parts of the world, namely the U.S. and Kazakhstan.
 
As of yesterday, Russian troops have been deployed to Kazakhstan in order to assist the government in restoring civil order. Given the escalating violence and civil unrest, it is unlikely that crypto mining operations within the country will bounce back in the short-term. Over the long-term, the future of mining in Kazakhstan will depend largely on the political and economic ideologies of the nation’s leadership. The 18% of Bitcoin global hashrate that had once been concentrated in Kazakhstan is likely to migrate to other countries in the near term and could even further consolidate in the U.S., where cryptocurrency mining operations are quickly accumulating capital in the form of new machines and investment.
⛵ Open Ocean for OpenSea
OpenSea raised $300m at a $13.3bn valuation, after being valued at $1.5bn in July 2021. The undisputed king of NFT marketplaces saw its volume increase 600x last year. The $300 million Series C round was led by Paradigm and Coatue. OpenSea’s primary revenue stream is a 2.5% per fee assessed to the buyer on every secondary market NFT transaction done on its platform. Using on-chain data, we can see that OpenSea averaged approximately 25k ETH in transaction volume per day over the last 30 days. With OpenSea collecting a 2.5% fee per every secondary market transaction on its platform, that comes out to an average of $2.46m in fee revenue per day, or a whopping $900m annual run rate. With those numbers, a $13bn puts the company’s P/E ratio at a reasonable 14.76. For context, GM’s P/E is 8.4, FB’s is 23.7, AAPL’s P/E is 30.6, MSFT’s P/E is 35.1, and TSLA’s P/E is 345.5.
Overall NFT volumes exceeding $23B last year (according to DappRadar) and VC appetite for crypto appears to be at an all-time high, as investors rush to capture the economics value created by this booming NFT sector. Indeed, Web3/NFT/DAO/Metaverse companies raised $5.7bn from venture capitalists last year, 17% of all capital invested in crypto/blockchain startups. Other companies operating in the same vertical have also raised at big valuations recently, including Sorare’s $4.3bn and Dapper Labs’ $7.6bn valuations from deals last September.

OpenSea plans to use its fresh infusion of capital to expand its 90-person team, bolster its efforts on the trust/safety side of the platform, invest heavily in product development to cater to an increasingly mainstream audience, and start a grant program to attract both creators and developers. 
OUR TAKE: OpenSea has built an incredible moat, clearly hitting the coveted “liquidity flywheel” afforded by its massive market share. This is a key competitive advantage in the NFT space as liquidity is much harder for buyers and sellers to find given this asset class is predicated on small collection sizes coupled with the uniqueness of each digital collectible. Rumors are swirling that OpenSea has its eyes on potentially acquiring Dharma Labs in the ~$100M range. Such an acquisition would afford OpenSea a compelling solution to onboarding new users directly from fiat, helping the company eat into the market share of established fiat onramps such as Coinbase. This strategic positioning would also help OpenSea guard against the NFT marketplace aspirations of these other crypto conglomerates, such as Coinbase, FTX, Kraken, and Binance, all of whom have either launched or announced plans to launch NFT marketplaces of their own.

The NFT space has legs with corporations dabbling in the space, celebrities buying into popular collections, and games incorporating NFTs as core features. We don’t see any signs of this trend slowing down. Gaming remains perhaps the biggest prize for NFTs, and we expect 2022 will see additional successful play-to-earn games like Axie, but also a truly breakout hit that incorporates tradeable, tokenized in-game items. The rise of Metaverse games will create additional demand for NFTs to serve as gate-keeping tokens to new digital universes. We are already seeing native integrations of OpenSea’s marketplace widget in prominent Crypto Metaverse apps such as The Sandbox, further reducing the friction to trade NFTs directly while inside the metaverse. In spite of some new potential competitive pressure, it is difficult to envision a future where OpenSea’s powerful network effects won’t continue to drive its growth and success.
Other News
  • Aave and Fireblocks launches Aave Arc for permissioned DeFi
  • GameStop is jumping into crypto with blockchain-based gaming and NFT marketplace
  • CFTC fines prediction markets Polymarket $1.4m for offering illicit options contracts
  • Fanatics acquires Topps for $500m; plans NFT push with exclusive rights to MLB digital art
  • A16z raises $25m for decentralized credit protocol Goldfinch
  • The NYDFS hires Peter Marton, formerly at Promontory, as new virtual currency chief
  • Swiss crypto bank Sygnum valued at $800m after $90m raised in Series B funding round
From the Desk
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MEV: How Flashboys Became Flashbots
In this major report, GDR's Christine Kim does a deep dive on miner or maximal extractable value, how miners and bots frontrun users on Ethereum.

2021: Crypto VC's Biggest Year Ever
In this report, GDR's Head of Research Alex Thorn summarizes the epic year in cyrpto/blockchain VC investing that saw more than $

Charts of the Week
Miners and operators earned $730m in profit from MEV on Ethereum in 2021. Going forward, miners alone are expected to earn $750m annually from MEV.
More than $33bn was invested in crypto/blockchain companies by venture capitalists in 2021. In total, 43 companies raised in 2021 at valuations above $1bn and we identified 69 rounds with deal sizes above $100m.
Automated bots on a new game Sunflower Farms disrupted the Polygon network, sending average gas prices to new highs as validators failed to submit blocks.
Bitcoin's mining hashrate remains near all-time highs despite an internet shutdown in Kazakhstan, the world's second largest jurisdiction for bitcoin mining.
Thank you!
Thanks for reading this week. Have a great weekend.

Please feel free to contact us at research@galaxydigital.io with any questions or comments.
Alex Thorn
Head of Firmwide Research
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