What are ICOs?

ICOs or initial coin offerings are quickly becoming a favourite way to fund new bitcoin and blockchain related projects. With some tokens showing massive gains in value from the ICO price before the projects have even launched, they are also a hot target for investors looking for a big payday.

ICOs are definitely an area where there is some potential money to be made. But before you decide to gamble on one of these ventures, there are some things that you should understand and be aware of.

The truly exciting thing about these public ICOs we are seeing is the democratization of funding mechanisms. Founders are able to present their idea to the public and make their case for the future of the project. From there, the public can vote with their wallets and fund projects that they feel will be worthwhile or profitable. On the flip side, individuals who would never have had access to investment opportunities in the early stages of funding companies like Facebook or Google can take their shot at finding the next big thing.

All this openness does create some problems. Due to the level of hype, some of these projects are seeing massively inflated values in comparison to what they might have been expected to see in traditional venture capital circles. For example, prediction market platform Gnosis recently raised $12.5 million in an ICO which sold out in under 10 minutes, giving the market cap of the GNO tokens a value over $300 million.

Considering that most of these projects have yet to show a viable working product, its very difficult the average investor to evaluate the quality of the work being done. At best you can hope to make an investment based on the team assembled behind the project. Without the benefit of meeting these creators in person it can be nearly impossible to make an informed decision.

Even if you do manage to pick the right project with the right team behind a good idea, the risk is very real that regulatory changes will interfere with the project and its creators in a way that makes it impossible to deliver as promised. Most ICOs attempt to avoid creating a token which acts as a security by offering additional utility to token holders. However, it is entirely possible that if regulators feel the token’s potential as an investment overshadows this additional utility, they might consider the tokens to be a security. This could land some of these creators in some serious hot water — especially if they are US based.

Regulation could stifle these projects at any point

It is also worth considering what the ultimate utility of the token you are buying will be. Since you aren’t buying shares in the projects, you need to be aware of whether the token is likely to hold its value in the long term. The majority of ICOs are simply offering a currency token which will be usable on their platform once they launch. These tokens are unlikely to hold their value once the ecosystem has matured sufficiently. Cross-chain atomic swaps are likely to make it possible to convert bitcoin or other more established currency tokens immediately into these ecosystem specific tokens for immediate use. This would leave no practical reason to hold these tokens longer than a few seconds and likely destroy them as a store of value.

A token that doesn’t have a use beyond currency on the platform it was created to fund, is unlikely to be a good long term store of value.

If you’re looking to make a high risk investment with the potential for significant gains while helping interesting projects get off the ground then you might want to consider some of the upcoming ICOs. However, if you’re looking for a longer-term investment to protect your wealth then you’d be better off to stick with bitcoin. People have been telling me they feel like it’s too late to invest in bitcoin for years. In 5–10 years $2000–$3000/BTC might seem like an insanely good deal. After all, bitcoin is valuable because its very rare and very useful. None of these other projects can say that yet.

The amazing Kool-Aid comic above was done by Luis Buenaventura. You can see more of his work at Crypto Pop.