The Truth About Web3

I’ve spent the last week or so diving into Web3 and I’ve had some revelations as well as disappointments. Before diving in to what I like, don’t like, what’s exciting, and what’s a Ponzi scheme, let’s talk about what Web3 really is.

There are a lot of interesting visualizations on the web that help describe what Web3 is in relation to Web1 and Web2. Here’s a simple one:

There appears to be some logical progression from Read -> Read & Write -> Read & Write & Own. In Web2, we interact with social media by not only consuming content, but posting our own. The content we post we do not own. In fact it’s used to target us ads. But, if you post to Youtube you can monetize a video. You do kinda own that, but you are beholden to Youtube’s Terms of Service. When you post to IG and have enough followers, you can get a sponsorship and get paid for a post. IG Terms of Service makes you add a #ad to the post. Web2 ownership is a bit more blurry than it appears. We’ll get into Web3 ownership in a bit

The image above is a bit more technical, but it correctly shows how Web3 ownership works. Web applications in Web3 are built just like Web2, except one major difference: rather than storing data on a private company’s servers, data is stored in distributed database hosted by any individual who wants to be a host (using their own servers) and accessible by anyone who access it.

Databases allow users to read data and write data. In Web3, read and write access is controlled by a standard protocol with ownership over writing controlled by private keys. Without explaining this too much, in short, if you have a private key on your computer, like a password, and you can write data to this distributed database! You can also do things like send data from one person to another. You can sell things by telling the database that if you receive a certain amount of cryptocurrency, then transfer my ownership of this thing to the person who sent me crypto money. The protocol for sending and receiving digital assets (data, as in bits and bytes) is accessible to anyone on the Internet and is secured by open standard cryptography.

Here’s some immediate applications of a decentralized protocol. If you buy a piece of digital art, I can make a game that lets you use your Bored Ape’s as characters. I can make a game that uses digital items you own from another game, like Axie Infinity. In short, you can take your digital goods with you anywhere that supports Web3. Any Web3 application can use any data stored on the blockchain and it can use data you own outside of that web3’s website or product.

Technical Explanation of Web3 Data

Most NFTs run on the Ethereum blockchain. There are others, like Flow or Polygon. Some are compatible with Ethereum and have different advantages and disadvantages. Maybe it’s worth getting into those at another time. For now, let’s stick with Ethereum.

Ethereum NFTs use what is called the ERC-721 Non-Fungible Token Standard, which is effectively provides a mapping of a TokenId to an Owner Address, which is your wallet address. If you have the private key to the Owner’s Wallet, you can do things like sell an NFT. All of this code is public and can be executed by anyone. If you don’t have the private key, you can’t do things that require a private key, like sell something that isn’t yours. If someone else gets your private key, that person is now the owner.

/// Check owner
function ownerOf(uint256, _tokenId) external view returns (address);
/// Transfer
function transferFrom(address _from, address _to, uint256 _tokenId) external payable;

I added the code just to illustrate how simple Solidity is. While the code is ‘simple’, the fact that once code is pushed to the blockchain it can never be changed encourages developers to leave backdoors in their code to make changes. Essentially developers create functions like the following

/// location of nft
mapping (uint => address) public artToOwner;
mapping (uint => address) artToCreator;
mapping (uint => string) artToUrl

/// Modifier that checks if the sender is the Creator of the NFT
modifier isCreator(uint _nftId) {
  require(msg.sender == artToCreator[_nftID];
  _;
}

/// Modifier that checks if the sender owns the NFT
modifier isOnlyOwner(uint _nftId) {
  require(msg.sender == artToOwner[_nftId];
  _;

/// Gets the owners digital art URL
function getMyArtUrl(uint _nftId) external isOnlyOwner returns (string) {
  return artToUrl[_nftId]
}


/// WTF!!! Allows someone other than the owner to change the content
function changeArtUrl(uint _nftId, string _url) external isCreator(_nftId) {
  artToUrl[_nftId] = _url;
}

That’s basically Solidity pseudocode (maybe it would run if I finished it?), but as you can see this basically leaves a backdoor for the NFT creator to literally change the location where the digital art is stored. There’s a lot of ‘What Ifs’ to explore here

What If the Owner Changes the URL? That would suck. You then own the rights to the new URL. At least there would be a record of the old URL.

What If the Owner of the URL’s Server Changes the Content? Then the NFT owner owns whatever replaces it. There are some interesting solutions for this problem. Technically speaking, you could just have the URL be a hash value of the contents of data. So if the data ever changed, so would the URL. There’s actually a solution for this called IPFS or Interplanetary File System, which uses content-addressing to uniquely identify each file in a global namespace connecting all computing devices. Cool…(to me it is)?

Can Anyone Find the URL of My NFT? Not always, but as a developer, why bother writing the extra code. Also, someone will always be able to access it. Just maybe not everybody.

Why Data Storage is So Expensive?

I hope you didn’t think the digital art was somehow on ‘The Blockchain’. Storing any data on the blockchain is wildly expensive. It’s hard to get exact estimates, but adding a single word to the blockchain can cost over $10. It costs between $100 – $300 to mint a single NFT. The only thing that is free is reading data.

I’m not sure it will ever be ‘cheap’ to store data on a blockchain. Because blockchains are distributed by nature, an entire copy of the data must exist on every Node (computer or server) and those Nodes must verify that every addition to the database agrees with all the other Nodes. Furthermore, these databases can never be modified, so they can only grow.

The Answer to Web3’s Data Problems is Web2

I’m being facetious, but making a ton of copies of data and adding a ton of redundancy to a database for literally anything requires quite a lot of computing power. I don’t see how there’s ever going to be a way around that. Any company that says they are building the next generation of Web3 is lying. The next Social Media company that is built on Web3 will store the bulk of the data on private servers. The Blockchain will just be pointers these servers. Websites will employ the very cool web3.js and ask you to connect your Metamask account, but at the end of the day they will simply ask the blockchain for the location on A PRIVATE SERVER for all of your data. Sure, reading and writing data from the blockchain provides a standard protocol, an API that will never change, and data that is immutable, but it’s just a pointer to the good stuff. Private companies will always control your data. Well…

Here’s an idea to solve the issue of private data. Everyone has their own server for writing data their own data. A user goes to a Web3 site. The site asks them to create an account and connect their ‘wallet’. Any data you upload to the site – a profile picture, a Tweet, this blog post, whatever – is stored directly on your private server. The hosting website simply sends the payload to your server and marks the location on the blockchain.

Now, you’d have to specifically grant read and write access to this web3 website to your private server. All this security is just extra code that slows me down! Also, this web3 company is going to have a hell of a time aggregating this data since it won’t be stored in a central location. In fact, if they want to speed up performance, maybe they choose to go ahead and read all of the data for each user every hour and aggregate and cache this data. Whoops, I just rebuilt Web2. Pretend that last part didn’t happen…if a user now wants to delete their account, they can just wipe the data on their server and voila, their data is off of the internet. Unless someone copied it that is.

Maybe there’s something in this idea, but no one wants to host their own server. Why go on…

There’s So, So Much More

I’m not sure where to stop with this blog post, so I’ll stop here. You can watch this 2 hour YouTube video mercilessly documenting all the problems with NFTs. There was this ‘bug’ on OpenSea that allowed people to buy NFTs significantly below market price and immediately sell them again realizing profits of $190k+. Apparently it wasn’t a bug, but a known issue. These ‘hackers’ exploited the fact there were multiple listings for the same NFT. The lower priced listings were mistakes, but due to the nature of the Blockchain, these mistakes can’t get taken back.

The best article out there is Moxie’s My First Impressions of Web3. He actually builds Dapps, mints NFTs, and changes the content of these NFTs after he sells them depending on the IP address used to access the art. He also discovers that OpenSea does monitor its market place and took down his NFTs.

The last point I want to make is nothing is private. Once someone sees your Ethereum address, they can trace every payment ever made to and from the address. Good luck hiding when everything is public. It would be pretty easy to aggregate every single piece of data written to every single Web3 site for any person. The only thing that is private is the identity of the address, but to do anything meaningful in society identity might be the last form true authenticity left in this digital world. We should really invest more in identity and control over identity. Web3 isn’t the solution, but it might play a role in the solution coupled with taxation for bad actors and more innovation. I didn’t want to say regulation. I do believe if you put a tax, or a fine on every action that causes a negative externality the market will figure itself out. If you want privacy in society, fine anyone responsible for violating privacy.

Predictions for 2022

I have a lot of optimism for 2022 and I don’t think I’m alone. 2021 was truly a rebounding year and while it sure did have its controversies, in general the world seemed to move past the largest black swan event in recent history.

I initially started writing this blog because I enjoy finding pockets of market euphoria where valuations disconnect from reality and begin to represent and alternative future. These pockets generally start with small niche communities whose hobbies and passions are thrust into the news cycle and bombarded with newcomers looking to get involved, make a buck, or just learn something new and cool. In 2017 it was crypto. In 2020/2021 it was r/wallstreetbets, options trading, and finally Meme stocks, which effectively killed the craze. While 2022 might be quiet and uninteresting from a euphoria point of view, it doesn’t mean interesting things won’t happen. Quite the opposite! In 2022 I’m looking to explore different technologies and ideas about what the future might look like. So, along those lines, here’s some predictions for 2022 in no particular order.

Big Tech Will Dominate Digital Experiences

Big Tech has the ability to make decisions and force users into using products and services at scale; consumers should not let them.

Contrary to the availability of the internet, individuals do not have many choices for online interactions. Having a community is important, but building a new one is very difficult. Consumers expect a certain ease of use and companies that gain any traction have to comply with data regulations. Twenty years ago, a single developer could launch a website and provide a brand new experience for consumers. Today, that website is not enough to gain any eyeballs, let alone attract the infamous Creators, who are the lifeblood of the next 5 years of the Internet.

Today, developers must build mobile first. They must have easy-to-use login features, such as integration with password managers and biometrics. Applications are expected to run bug-free. Developers must both track and analyze significant amounts of data to monitor quality and continually improve based on user feedback. User generated content must be censorable. Guess what type of people websites attract that host user content with no way to know who uploaded the content or how to identify what the content is? In order to even operate in a lot of countries, developers must both retain data for legal requirements and at the same time have the ability to completely destroy it for privacy compliance. Applications should be fast across entire countries; code must be served from multiple geographic zones to minimize latency. Services need transparent backups to flawlessly cover outages and restore service without the user noticing any downtime. Oh, and now there’s web3, which needs to be considered if you want any VC funding. Good luck doing all that in your basement.

While building new technologies is increasingly more difficult, it’s infinitely more useful. Big Tech has a lot of proprietary software hidden behind its immense walls that would be useful to any small software company looking to scale. There could be opportunity for new startups to fill this void, helping move some useful scaling logic outside walled gardens and making it work for new companies. Data governance and use control will be massively important for whatever ecosystem software is being built. Centralized support and services to mitigate risks users pose to any kind of online network can help scale alternatives to creating a digital identity.

I want to note that making proprietary code available for free is not easy. Code is written to solve business problems, so it’s natural a bit of business logic makes its way into the code base. Abstracting technical problems from business problems is tricky business and takes considerable effort and money. The world is indebted to those who contribute their time to build open source software.

Online or digital identities will soon be very important and ubiquitous. People need to stop worrying about ad targeting and start worrying about how companies authenticate real user behavior to keep us and our property safe. The core piece of an increasingly online economy is identity.

There Will Be Too Many Articles about NFTs, Web3, DeFi, AR/VR, and the Metaverse

NFTS: I think NFTs will be the main player in facilitating digital ownership. It makes sense that what used to be in app purchases can now be freely traded and sold among people even outside of the game or ecosystem in which the digital goods are created and used. Today, minting an NFT is complex and expensive. It shouldn’t be so; everyone knows this needs to improve. It’s probably an easy win for technologists. The winners could also get very rich.

I think the digital art craze will simmer. Then, after spending 2022 in detention, it will have a resurgence and enter the main stream. Digital art is not an ideal form factor for art in a home today, but it will be soon. I think the most important part about owning art is displaying it. You need a good wall, the correct lighting, and a frame that works for the piece of art. I think that’s pretty much it. Wow, I really know a lot about art!

Digital art is not easily produced but it is very easily reproduced. That is not true for physical art. And this is certainly not the difference between reading a book and reading a Kindle. It’s expensive and difficult to get a good digital art display. You effectively need to buy a very, very flat television. This new art installation will need a power source and I can guarantee you a power cord running from the floor to your digital art screen will look terrible (hint, you have to go in through the wall). Digital art does not look great on a television that is on all day. Televisions are not placed where art would be placed, so it looks odd to have your TV on all day playing a loop of a man made out of little beads running all day. Also, like NFTs, what a tremendous waste of energy. I can’t believe in the future someone will probably comment how much energy a piece of physical art has while consuming none. Seems as though we already have the formula for creating energy.

There will be a lot more digital art and digital artists. Creating digital art is a lot like creating electronic music. Artists buy digital art pieces like legos and then mash them together. Digital artists, such as Beeple, make art by buying existing 3d images, backgrounds and effects. These artists then use paid or open sourced software to alter these images, combine them, add effects across the entire piece of art, animate the images and even add sounds. While they do start with the proverbial blank canvas, they can now borrow the building blocks of art created by other artists to both speed up the creative process and create combinations and mash ups at very rapid pace. Just like electronic music, don’t expect this trend to go away and expect a lot more people getting into the digital art game. I wouldn’t be surprised to start seeing apps for kids to create digital art and even sell it to their friends and family by minting an NFT. Some rich private school will sell digital art created by students for a fundraiser this year. I’m not going to google it, but I wouldn’t be surprised if it already happened.

NFTs will NOT replace contracts. Contracts are complex and there are many venture capital graveyards of startups trying to automate parts of contract reading, writing, and enforcement. Abstracting away complex ownership structures and change of control mechanisms may seem like a fun problem for software engineers, but anyone who has been sued knows how important the exact wording of every clause can be for determining the enforcement of a contract. Software engineers rarely have detailed code reviews; that just won’t work for contracts. Sure, go ahead and attach the ownership of a contract to the signing entities. Even that isn’t always straight forward.

DeFi: There Will Be Regulation

Why can’t everyone be their own bank? You can, it’s called holding cash and giving cash to other people with the expectation they give you more than what you gave them later. Since the government has been slow to react to changing methods of exchange and storing value, fintech just decided to move forward. I should note that banks could not move forward because they are actually regulated. It makes absolutely zero sense to me that I give my crypto money to some company that would then lend it out or invest it in short term securities, which is a loose term in this situation. If the value of the crypto currency this Defi company is holding of mine decreasing in value, I have to put more in. If whatever this Defi company invests the money I’m holding in my account goes down, well, we’re not sure how to handle that yet. I prefer to invest in things that could in theory be articulated clearly. Owning part of a company makes sense. Owning a debt obligation, that makes sense. Owning a basket of stocks and debt, also makes sense. Defi is too much of the wild west. Yes, if all goes well, you could make 10-20% with the risk of losing it all. Or you could put all your money in Apple and make 10-20%. Apple is up 32% in 2021 and if it goes to $0 in 2022, the world is likely covered by a massive cloud of dust.

My guess is these Defi companies will either need to register as banks or be greatly restricted in what investment products they are allowed to offer non-accredited individuals. As regulations begin to take shape in 2022, I am optimistic blockchain technology will help reduce fees and friction of money transfer. Can we please get rid of $3 ACH transfer fees? Can we please just send US dollars to anyone in the world and have them pay the small fee associated with an FX transaction. It’s free to buy and sell parts of a company today. I should be able to electronically convert currency for free as well and send it wherever I damn well please.

Web3 Will Be in the News. You Can Ignore It

A bit of history: Web 1.0 is from 1991 – 2004 when web pages were static. In 2004 a slew of social media sites introduced Web 2.0, where regular people went from consumers to producers. These producers are now called creators (I’m really happy the term ‘Makers’ didn’t stick). Web 3.0 introduces the web backed blockchain technology. I don’t think anyone really understands it very well nor knows how it will play out. Imagine monthly subscriptions being replaced by NFTs (that bores even me). Websites will registered on blockchains and content can be distributed from peer to peer networks (this is how child porn is distributed today, in case you missed my reference earlier in this article). Both Jack Dorsey and Elon Musk think it’s all just hype. Decentralized social networks like Mastodon are generally ignored. Imagine going to a site that looked like Twitter.com, but there is no central developer; no one who ultimately is responsible for the impact of the site. If you’re wondering if this alternate reality actually comes to fruition, I trust the government will intervene appropriately. Also, I don’t see Web 3.0 every being easier to user than Web 2.0. It should also be noted that the failure Web 3.0 will not affect the Metaverse in the slightest.

AR, VR, and the Metaverse

Whatever your thoughts are on the Metaverse, it’s great for gaming. Nobody wants less immersive gaming experiences. Nobody wants worse graphics. Nobody wants boring experiences that don’t transport them to an exciting, thrilling, and fun new reality. 

The development of the Metaverse will yield very useful tools, especially for medicine and education. The technology is cool. Snap previewed its new AR glasses for developers and they are very cool. You can go out in your backyard and be chased by Zombies. You can literally walk around the solar system. You can hunt for virtual goods in the real world and interact with them. Instead of scanning a QR code for a menu, you can tap your glasses and see an AR version of a menu right on the real table. Its just cool. It’s not going to take over your life.

The Metaverse and all its technology will not change your life, so stop freaking about not wanting to live in Ready Player One. The Metaverse will be accessible, open, and easy-to-use. While the most beneficial technology may be practically applied to medicine and education, it is being developed for the masses and should you choose to use it, like you choose to call someone on Zoom, it will be accessible and easy.

If you’re an early adopter, new gadgets will be fun to try out and likely expensive. Most won’t have a long life as battery life, they will struggle with local computing, and connectivity speed will be issues for the foreseeable future. If you are not an early adopter, it will be worth watching what Metaverse-like experiences people actually enjoy and find useful. Maybe the Quest 2 will have crazy daily retention and be used to connect people for gaming and social interactions. Maybe people will download Roblox and play casual, user-generated games with their friends. Maybe instead of watching live show on the television, we will attend digitally. Maybe Apple will release the iLife, which is a full immersive sterile room where humans will live out the rest of their lives hermetically sealed away from human contact. Also, in iLife, you won’t get targeted ads.

Think of the Metaverse as different entry points and experiences for living and interacting online. People will always want to represent themself. It may be genuine, or it may be aspirational. Either way, outfitting your digital avatar is going to be a huge business. People care deeply about their identity and wherever people represent themselves, you best believe they will pay to look good. Love it or hate it, there’s a lot of money somewhere out there in the Metaverse.

Stocks & Inflation

Stocks will go up. So will inflation. Savings is at a record high and as high inflation numbers continue to roll in, people will shift their money from cash to stocks. Expect reasonably high volatility, but don’t expect a return to Meme stocks. I’d put my money in cash-flowing assets with limited short and medium term debt expirations or cash requirements. Higher interest rates means its harder and more costly to borrow. This will limit expansion plans and these growth companies will turn to issuing equities. All of these things will lower future cash flows, hinder growth, and result in lower stock prices.

Generally when rates go up, so does profitable lending. For that reason, I’m investing in banking ETFs (VFH). Big Tech will keep going up as big tech companies have formidable moats and consistent sources of revenue. I wouldn’t worry too much about changing regulatory environments, what data can and cannot be used in advertising nor competition from, say, China. Keep buying and holding big tech.

Finally, keep buying and holding real estate. If rates go up, prices may come down. Also, they might not. In California real estate taxes are 1.2% of 100% of the value of your home while lending rates are 3-3.5% of 80% of the value of your home (whatever your loan amount is). So if you put down 20% and got a 3% mortgage rate, your real estate taxes are literally 50% of your total debt service. Raising rates may not impact prices that much. States could offer tax breaks and incentives in residential areas where lending is expensive, which could help offset any pricing drops in at-risk neighborhoods. Just an idea.

Finally, I don’t see a return to Meme stocks or even the r/wallstreetbets stocks that carried the market in 2020 and 2021. Stay far away from Kathie Wood’s Ark Funds as they come hurtling back down from the investing stratosphere. Buy stocks that have a good chance of actually making money one day. IPOs are not cash grabs any more. Braze, a recent tech IPO, is off 35% its IPO price and still falling.

Covid

I don’t really want to talk about it since it’s been politicized so much. Here’s what I do know: In 2022 I really hope people stop complaining about masks. Also, just ranting here, I don’t care if you don’t care about Covid. That doesn’t make you special, helpful or somehow mentally or physically stronger stating absolute fearlessness towards a virus. The official death toll is 5mm, but the Economist estimates the true number of deaths caused by Covid 19 is closer to 17mm. Not taking Covid seriously or allowing others to take it seriously only shows you can’t read the graph below. Well, my other theory is that a lot of humans do not value life while still holding on to the fear of death.

I can also predict in 2022, no one will read the Constitution. A lot of people are invoking the constitution to protect themselves against protecting themselves from this deadly virus. It takes 12 minutes to read and there’s nothing in there about vaccines. If you think concerns about Covid are overblown, you’re suffering from Availability Bias. That means you think your own brain is a better reference point than, say, Google, or a scientist. Or me!

One interesting thought experiment is to get a revolver. Pop in one bullet. Give it to a random person. Tell them to hold the revolver to their head. Then offer that person $1mm for every pull of the trigger. If they say no, then offer them $100 to point it at someone else. A lot of folks are going to pull that trigger. The issue is a lot of people don’t realize they are already pulling it.

Ok, end rant and back to 2022. Covid isn’t going anywhere, but it will get less deadly. New pills from Pfizer and Merck (RIP MRNA and NVAX) are not widely available today, but will be soon. These pills will dramatically reduce hospitalization and death rates allowing most of us to continue to get back to normal.

So that’s what’s on my mind today. It’s a slow week so maybe more to come.