The question of whether it’s acceptable for new crypto products to bootstrap their initial user base by encouraging financial speculation has become a hot topic of debate in the consumer social category, with the recent example of Friend.tech. The project leaned into a new speculative asset, social “keys,” which helped quickly attract an excited user base. 

But in the DeFi category, there’s no debate: some of the most prominent DeFi success stories achieved rapid PMF by enabling financial speculation, and that will likely continue to be the case in DeFi as the space matures. This speculation served a particular purpose: providing the initial liquidity spark for the protocol to properly function. 

New DeFi entrants should focus on providing UX that welcomes speculators. (“If you build it, they will come.”) 

As builders know all too well, DeFi protocols are incredibly hard to bootstrap; most people are hesitant to experiment with their money. Projects often struggle to attract sufficient early liquidity as users worry about the risk of new smart contracts, creating a major cold-start problem. Thus, new protocols need a compelling product that gives users the chance for potential returns that they deem enticing enough to enter.

DeFi does not represent a simple incremental technological advance in an existing category; rather, it’s novel financial infrastructure built around an entirely new class of digital assets. These are net-new protocols, not just new fintech apps, and they require motivated participants in a brand new financial market.

With most new, fringe tech apps, the initial users are almost always already deep in the particular industry-specific community (in DeFi’s case, cryptonatives), thus they experiment with new apps until the apps evolve (or wane), and the initial cohort shifts to the shiny new—and more lucrative—toy. Think of the homebrew computer club with the early internet, the core Ethereum community with the first smart contracts, and other emergent technologies. Technologies always evolve beyond this initial more experimental bootstrapping phase after they hit a certain critical mass and the Lindy effect takes hold. 

In a DeFi context, what attracts the early-adopter horde most effectively is the chance of high risk-return bets: payout dynamics with massive potential upside (and downside) for risk-on behaviors. Crypto projects can utilize multiple strategies to lean into speculation, including airdrops, liquidity mining, and high leverage, among others—and many have, with varying success. This speculation can largely be thought of in two buckets: net-new financial products and novel token incentive mechanisms. 

Two of DeFi’s biggest success stories courted speculation to their advantage in the beginning, and have since become some of the largest protocols in crypto:

1. Uniswap: one of the first DEXs and still the most prominent. The platform enabled permissionless listing (compared to stricter centralized exchanges) of longer-tail tokens. With low float and high trader activity, these altcoins could pop 10-100x, sometimes in a matter of days or even hours. That utility enabled the viral speculative activity that helped Uniswap soar. Uniswap has since graduated far beyond that status to become the industry’s largest DEX, amassed ETH/USD liquidity depth competitive with larger centralized exchanges, and even started attracting institutional users. 

2. Compound: one of the earliest decentralized lending protocols. It found product-market fit by offering permissionless, composable leverage, and much of Compound’s success was driven by speculation around its novel liquidity mining: its TVL grew ~6x in just a few weeks after the program was introduced. Now it’s the second-largest mainnet lending protocol by TVL and has been rated by S&P, with a number of institutional investors depositing. 

There’s an obvious possible failure mode here: Builders must have evident long-term vision for the protocol itself, with early signs of PMF. The dangerous valley that projects fall into is becoming something akin to a zombie token farm.  

This is a balancing act, since successfully amassing speculators can sometimes create the appearance of lasting PMF where there isn’t any. Achieving sustained PMF with this approach requires pairing speculation with a net-new financial product that has clear demand (long-tail spot swaps, permissionless leverage, and pro NFT trading, respectively, in the examples above). These financial products were creative, relatively unexplored at their launch, and cryptonative—not skeuomorphic or marginal improvements. True PMF is extremely hard to identify, but often a winding down of token incentives or other bootstrapping mechanisms, while maintaining high volumes, is a good sign. 

Many people both in and out of crypto like to say the industry must move beyond gambling and speculative games, and shed its casino image. My response is that this is how most financial markets have initially formed: mania and bubbles have occurred since the earliest recorded history of financial markets, and provided the early liquidity for them to actually function and grow into the mainstream asset markets they are today. 

Even one of the earliest records of stock market activity in Western Europe, Joseph de la Vega’s Confusion de Confusiones in 1688, described the frenzied nature of financial markets: the author described the early stock market as a “gambling hell” with “two classes of speculators.” Speculators are in fact the first constituent group needed for establishing new markets.

We can expect DeFi markets to follow a similar pattern, evolving far beyond this initial bootstrapping phase. Speculation is simply a historical pattern repeating itself, and a valid starting line for these new protocols to evolve into mainstream financial markets. 

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Variant is an investor in Uniswap.