Digital Nugget: Meme coin

Digital Nugget: Meme coins – All bark, no bite

2021 was not only the year of Bitcoin, Ethereum, and NFTs, but also of meme coins such as Dogecoin, SHIBA INU, and Safemoon. This has been a puzzling phenomenon: why do these tokens exist and why their sudden “popularity”?

They do not represent technological innovation, and they are not well suited to be a store of value or medium of exchange. They either serve no economic purpose or, at best, have a weak economic proposition.

Other than the original meme coin, Dogecoin, which was created in the very early days of the crypto market, meme coins have appeared in the past year or so. They have gained seeming popularity at a time when the crypto industry has matured to the point of entering the mainstream and a growing number of applications with real world use cases are attracting strong business volumes and user adoption.

Fundamentally driven crypto hedge funds and institutional investors do not invest in meme tokens, and they tend to disregard them as meritless. And yet some of these tokens have a significant market capitalisation. Who invests in these tokens and why?

We can only speculate about the answers to some of these questions, although this overview provides a history of meme coins and attempts to point out the potential pitfalls for investors and users.

What is a meme coin?

Meme coins are cryptocurrencies inspired by internet memes (a visual joke distributed on the internet, chats, or social media).

The first, and most prominent meme coin is Dogecoin, a Litecoin fork, which was launched at the end of 2013 by IBM and Adobe software engineers Billy Markus and Jackson Palmer mostly as a joke during the early hype around cryptocurrencies. They chose a Shiba Inu dog meme that was popular at the time as their logo.

In August 2020, the SHIBA INU token was launched by a pseudonymous person, with the stated intention of competing with Dogecoin. Unlike Dogecoin, however, SHIBA INU did not launch their own blockchain, but instead was created as a smart contract-based application on the Ethereum blockchain.

Since the beginning of 2021, well over a hundred meme coins have launched. The price performance of these tokens has also been extraordinary: Dogecoin appreciated 100-fold and SHIBA INU 1,000,000-fold, before correcting to 65-70%.

Can a meme coin turn into a valuable economic proposition?

Almost all meme coins have launched without a valid use case, relying on projecting a cool image or getting celebrity endorsements. Other than the original meme token, Dogecoin, they do not have their own blockchain protocol but are instead built on Ethereum, Binance Smart Chain, Solana, or Avalanche.

They typically have no developer community, funding, or a serious roadmap. As there is no technological innovation involved, they are in a weak position to compete with well-funded projects with a strong developer community.

The one proposition that has validity and has caught the attention of investors such as Raoul Pal, is building a community first and then attempting to leverage the network effects into valid use cases. SHIBA INU is attempting to achieve this by launching a DEX and working on a layer 2 scaling solution, as well as play-to-earn gaming. The DEX was launched in July as a fork of Uniswap and has not captured significant market share. While the “community first” approach is an interesting experiment, innovation, a developer team with breadth and depth, and ample funds have a better chance of succeeding.

Can a meme coin be money?

Obviously yes, since anything “can” be money. But meme coins do not possess adequate store-of-value characteristics. Tokens launched on top of another platform (all meme coins, bar Dogecoin) will always be a much weaker store of value than the native token of the protocol.

Dogecoin, on the other hand, lacks a strong developer team and has an unlimited supply (albeit transparent and the inflationary effect shrinks each year). They have already acted once to remove the original supply cap, creating the risk of further inflationary changes to the supply.

“Fair launch”

SHIBA INU started the meme coin trend of launching their tokens without awarding any coins to the project founders or a project treasury or development fund, which they termed a “fair launch”. This creates a de facto assurance that the project will not be able to source a strong developer team or invest in building an ecosystem. When these projects do fund such activities, it is worth questioning where the funding is coming from.

Why have they become so popular recently?

The explosion in popularity for Dogecoin, which then snowballed into the meme coin trend, owes a lot to Elon Musk’s tweets and interventions such as talking about Dogecoin on US television, and recently tweeting that Tesla merchandise can be bought with Dogecoin.

Reddit also played a major part: after the success of the now infamous Reddit sub-forum r/wallstreetbets to push certain stock prices such as GameStop up with coordinated purchases by forum members, the Reddit community tried to achieve something similar with Dogecoin at the beginning of the year, seeking to make it a (or even “the”) dominant cryptocurrency.

The phenomenal rise in popularity of these tokens with little or no fundamental merit appears inorganic, although the NFT trend might have fuelled it. However, some may view digital art and meme coins as something similar.

Who buys meme coins?

Meme coins are the domain of retail investors. As their prices are not rooted in solid fundamentals, they are mostly a gamble.

More concerningly, many – even relatively worthy projects such as Dogecoin and SHIBA INU – have significant concentrations of tokens held by a small number of major investors (“whales”). This raises the possibility that the markets in these tokens can be manipulated, and if so, smaller investors would end up holding the bucket, just as they did after the ICO boom.

What are the risks associated with meme coins?

Meme coins pose multiple risks that investors should be aware of:

  • Most meme coins have no real use cases, and the few that do, have only a tenuous value proposition.
  • They are highly dependent on social media influencers like Elon Musk who can pump and dump tokens with one tweet.
  • Due to their dependency on hype, meme coins are very volatile even by crypto standards, with often extreme price movements in short periods of time.
  • Most meme coins are illiquid which means that paper profits often cannot be realised.
  • Some meme coins are scam projects, reminiscent of the 2016-2018 ICO boom (and more recently, the Squid Game token that grabbed headlines after the founding team vanished and stole millions in investor funds).

Closing thoughts

When tokens, without solid use cases, are not built on value-creating technological innovation, and capture attention, a large market capitalisation, and stellar price rises, it serves to discredit an industry delivering real value and building real use cases. This is especially so when some of these projects turn out to be outright scams, and others end up generating huge losses for investors. The crypto industry has so much merit and so many worthy projects. Meme coins are not among them.

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