Compound’s COMP token has been wildly successful in the initial period since launching. What’s behind it, and is it sustainable?
When Compound launched its governance token, COMP, on June 16, few in the crypto space could have predicted how rapidly it would rise to the top. As Cointelegraph reported at the time, it only took a single day of trading for COMP to become the leader of the decentralized finance rankings. It was a historic moment for any fans of DeFi, marking the first time that Maker (MKR) had been toppled from its throne since the DeFi movement began.
News of a Coinbase Pro listing only pushed the price to further heights. But as is inevitably the case with cryptocurrencies, volatility moves in both directions. Only days later, COMP prices fell from highs of $427 to below $250, only to jump 25% after Binance suddenly announced it was listing the token as well. Later, some analysts proposed that the price had been artificially pumped using derivatives.
Regardless, COMP retains the DeFi top spot — at least for now. So, what’s all the fuss about?
What is Compound?
Compound is a decentralized lending application developed on the Ethereum blockchain. Essentially, anyone holding a supported cryptocurrency can deposit it into a Compound smart contract where it joins a liquidity pool and starts generating interest. The interest comes from other users that borrow funds and pay interest for the loans. However, there’s a twist. So far, this sounds like the same as what a bank does with money. Only with a bank, once the funds are withdrawn, they stop earning interest.
With Compound, when funds are deposited, the protocol issues the tokens, called cTokens. So, if Ether (ETH) is deposited into Compound, an equivalent value of cETH will be received. The cETH can then be used as collateral for a loan, meaning that, effectively, the funds can be spent while they’re earning interest.
The interest earned is determined by Compound’s underlying smart contracts based on supply and demand. So, if there’s a large number of people borrowing a particular asset, the smart contract will increase the interest rate to attract lenders and make it more expensive to get a loan. Compound currently supports nine assets issued on Ethereum, including Tether (USDT), Dai, Wrapped Bitcoin (WBTC) and Basic Attention Token (BAT).
Despite Compound’s popularity in the DeFi space, it has already attracted some criticism. Ameen Soleimani, the CEO of SpankChain, wrote a now-famous post on Medium in which he highlighted central points of failure in Compound’s protocol.
Although the Compound smart contracts have been audited and were found to be secure, like is the case with many DeFi decentralized applications there are only a small number of parties responsible for the wallets that control the deposited assets. As Soleimani pointed out, if a malicious party were to gain control of the keys to those wallets, it could wreak havoc among Compound users.
Compound first appeared in 2017, and it’s not surprising that Coinbase Pro jumped on a DeFi governance token, as it’s worth pointing out that Compound was one of the earliest projects to receive funding from Coinbase Ventures. The funding came from an $8 million seed round in which Andreessen Horowitz, Polychain Capital and Bain Capital Ventures also participated.
As the platform has gained traction, many other applications have integrated Compound into their offerings. Coinbase Custody and Anchorage both support COMP and cTokens. Since the COMP token was released, several other exchanges have jumped to list it, including Binance, FTX and Poloniex.
Why did a governance token rally?
Compound announced it would start to distribute its Compound Governance Token on June 10, after a community vote. Prices for the token were not available at release, so nobody could have really predicted how it was going to go.
It is fair to say that Compound has always been highly popular in the DeFi space and has attracted a lot of high-profile support. At the moment, the token confers voting rights over matters such as protocol upgrades or including new assets for borrowing and lending on the platform. However, holders may vote to distribute fees or for token buybacks in the future.
But COMP tokens don’t confer any rights to earn interest in the same way that cTokens do. So, why the feeding frenzy at launch? Vadim Koleoshkin, the chief operations officer at Zerion — a DeFi interface provider — believes that the current COMP hype is due to interest in a new type of share equity. Speaking to Cointelegraph, he explained:
“Compound is one of the first Web 3.0 companies that became public, and COMP is cooler than traditional shares because it’s programmable. Tokens do not have yield, but Compound has a chance to become one of the most prominent players in the money market. The ability to participate in the governance of it may, therefore, be valuable.”
However, this doesn’t necessarily mean the price will continue to skyrocket indefinitely. Koleoshkin predicts that volatility will eventually dampen: “With the broader distribution of $COMP tokens and the launch of other trading venues, the market will determine a fair price for it.”
In the eyes of Maker?
As the saying goes, a rising tide lifts all ships. Other DeFi DApps have seen similar meteoric rises. When Balancer announced its own governance token, BAL, was live, the price jumped over 230%. Tokens such as Aave’s LEND, the native Ren token and Synthetix’s SNX all boomed in the wake of Compound’s launch. Ethereum miners have been laughing all the way to the bank as gas fees have soared.
All this will be scant consolation to Maker, which even despite the crash in Compound’s value on June 23 continues to occupy second place in the DeFi rankings. What was once DeFi’s flagship DApp had previously sat atop the rest, at some points achieving dominance of 60% over its competitors. It even held the top spot in the aftermath of March’s Black Thursday crisis, after a market crash liquidated millions in crypto-collateralized debts on the platform. However, Koleoshkin believes that the launch of COMP is only the beginning of a broader shake-up in the DeFi space:
“Right now, we see a lot of new users coming in to explore what DeFi has to offer. From our recent findings, many users see DeFi as a viable alternative to services like Binance and Coinbase. Many more governance and DeFi tokens are going to launch soon, and trading venues like Uniswap, Kyber, and Balancer are ready to trade them.”
With all this incoming action, it may ultimately be the case that another application moves past Compound and Maker to take the DeFi top spot. Whichever way it goes, there’s plenty still to play for in DeFi over the coming months and years.