ALTERNATIVE MARKETS UPDATE – OUTLOOK 2024 & 2024 cRYPTO PREDICTIONS BY PAUL VERADITTAKIT

​Inflation and interest rates have been present topics. Inflation rates have continuously decreased throughout 2023 across most economies. While this development was promising, it was necessary as inflation rates went as high as almost 12% towards the end of 2022. In the US, inflation has decreased to 3%-4% in the past few months with no particular direction since then. For 2024, it is widely expected that inflation will decrease further, albeit to a limited degree. Most market participants expect inflation to be around 2.3% by the end of 2024. Others see inflation to drop to as low as 1.6%. Assuming no further geopolitical crises and no further escalation of existing crises, inflation is unlikely to rise further than 3.5% by the end of 2024. Figure 1 shows the development of inflation rates in the US, UK, and the EU from January 2022 to the end of 2024. The general sentiment that inflation rates should fall is intuitive given the high interest rates at this time. In the EU, the development has mostly mimicked the US, but with a delay of a couple of months, due to a more restrictive central bank policy when Covid-19 emerged. Inflation in the EU has also reached a point, where inflation is no longer declining at levels slightly below 4% after being at 10% at the beginning of the year. For 2024, inflation is also expected to further fall, but not to the same degree as in the US. Expectations for inflation in the EU range from 2.6% to 4.5% with the most likely level around 3.4%. The situation in the UK also drastically improved towards the end of the year. UK’s inflation fell to 4% after lingering around the 10% mark for almost an entire year. Inflation expectations for the UK are mostly equivalent to the EU’s expectations, but its projections are more volatile based on the country’s state over the past few years.

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RESEARCH PERSPECTIVE VOL. 218 January 2024 Alternative Markets Outlook 2024 Inflation and interest rates have been present topics. Inflation rates have continuously decreased throughout 2023 across most economies. While this development was promising, it was necessary as inflation rates went as high as almost 12% towards the end of 2022. In the US, inflation has decreased to 3%-4% in the past few months with no particular direction since then. For 2024, it is widely expected that inflation will decrease further, albeit to a limited degree. Most market participants expect inflation to be around 2.3% by the end of 2024. Others see inflation to drop to as low as 1.6%. Assuming no further geopolitical crises and no further escalation of existing crises, inflation is unlikely to rise further than 3.5% by the end of 2024. Figure 1 shows the development of inflation rates in the US, UK, and the EU from January 2022 to the end of 2024. The general sentiment that inflation rates should fall is intuitive given the high interest rates at this time. In the EU, the development has mostly mimicked the US, but with a delay of a couple of months, due to a more restrictive central bank policy when Covid-19 emerged. Inflation in the EU has also reached a point, where inflation is no longer declining at levels slightly below 4% after being at 10% at the beginning of the year. For 2024, inflation is also expected to further fall, but not to the same degree as in the US. Expectations for inflation in the EU range from 2.6% to 4.5% with the most likely level around 3.4%. The situation in the UK also drastically improved towards the end of the year. UK’s inflation fell to 4% after lingering around the 10% mark for almost an entire year. Inflation expectations for the UK are mostly equivalent to the EU’s expectations, but its projections are more volatile based on the country’s state over the past few years. Figure 1: (Expected) Inflation Rate Development from January 2022 to December 2024 in the US, EU, and UK, Sources: Stone Mountain Capital Research & Trading Economics, December 2023 Interest rates across the world were raised starting in early 2022 in most instances following the extensive measures taken to combat the initial impact of Covid-19. The US hiked the most aggressively, which led to surpassing the 4% mark by the beginning of 2023 and peaked at 5.25% in August 2023. Since then, the Fed did not raise its rate further. With the now manageable inflation, the Fed has the delicate task of balancing inflation that is still not in the target range against the potential recession with increased rates. While quite a few market participants anticipate aggressive rate cuts in 2024, the aggregate view does not expect rate cuts before H2 2024. Nonetheless, it is also projected that during this time, there will be no further hikes. In the latter half of 2024, two to three 25bps cuts seem to be a middle ground. However, these projections are highly subjective to further macro-data, in particular the inflation rate development. In the case of very sticky or even rising inflation, rate cuts are unlikely. On the other hand, if inflation is developing favorably and recession risk increases, earlier and more frequent cuts are also a possibility. The magnitude of rate cuts described for the US interest rate expectations also applies to the EU and the UK. In the EU, interest rates are expected to be around 3.5% at the end of 2024. The potential range is a bit more volatile in the US, as the EU is more directly affected by the war between Russia and Ukraine. In the UK, volatility in the predictions is even higher given the elevated state of general risk in the UK over the past few years. Figure 2 summarizes the elaborated findings. Figure 2: (Expected) Interest Rate Development from January 2022 to December 2024 in the US, EU, and UK, Sources: Stone Mountain Capital Research & Trading Economics, December 2023 The ecosystem for equities is not favourable for the asset class. High inflation typically results in lower consumer spending and therefore less income for companies. High interest rates also lead to increased costs for outstanding debt and reduce companies’ valuations. Despite the difficult macro ecosystem, equities did well on an aggregate scale in 2023. The S&P500 gained more than 25% in 2023 and is currently at 4,781 points. The index experienced three bull runs with the majority of gains stemming from April to August and most recently from November to the end of the year. As of the time of writing, the S&P500 index is only 0.5% off from its previous high from January 2022. General macroeconomic drivers of this year’s performance stem optimism around declining inflation and a stop in hikes with a promising outlook of cuts. The other key development was the hype around AI, which led to soaring tech companies. It is also an underlying factor for the performance of the “Magnificent Seven”, which made up the bulk of the S&P500’s performance. European equities experienced strong gains at the beginning of the year and remained mostly flat until August when gains from the beginning of the year were evaporated. Almost the entire performance of more than 11% of European equities in 2023 can be attributed to performance from October to the end of the year. Outlooks for US equities vary widely depending on the source. This is not surprising given the volatility of the environment and varying positions on whether there will be a recession. Most estimates place the S&P500 between 4,900 and 5,200 at the end of 2024, as shown in Figure 3. Estimates outside this range suggest the S&P500 could go as high as 5,400 and as low as 3,300. The vast majority of forecasts look positively into 2024 with the most common reasons being anticipated interest rate cuts, lower inflation, increased consumer spending, and company earnings. This notion strongly implies a soft landing, which is a key driver in most reports. More bearish forecasts commonly cite high valuations in combination with a significant recession risk, rising geopolitical risk, a less promising development in inflation, and fewer cuts (if any) are among the key reasons for this perception. For specific equity strategies, a focus on small caps, cyclicals, and industrials were the most cited strategies. Figure 3: S&P 500 Index Level Development from January 2022 to Expected Level at the End of 2024, Sources: Stone Mountain Capital, Various Forecasts, December 2023 The macroeconomic and geopolitical situation has been beneficial to gold prices. In 2023, gold prices rose by 14% and reached a new high of $2,135 per ounce during that period. Currently, the price of gold is $2,075 per ounce. Gold profited strongly from high inflation levels, elevated levels of a potential recession, and high geopolitical risk. Towards the end of 2023, gold also gained traction from the prospect of lower interest rates in the future. Most forecasts see gold rising even further. While the gold price outlook is highly dependent on the state of the economy, the base case sees the price of gold around $2,300 per ounce towards the latter part of 2024. Compared to most macroeconomic outlooks, the base case sees a similar underlying development but assumes a higher recession risk than most other projections. In the case of a recession, gold could surge to as much as $2,500 per ounce. If interest rates and inflation come down quicker than anticipated, gold could fall to levels around $1,700 per ounce. Figure 4 shows the current projections of gold in 2024 by WisdomTree. Figure 4: Gold Price Forecast to Q2 2024, Sources: WisdomTree Model Forecast & Bloomberg Historical Data, December 2023 Oil had a volatile year and hovered between $70 and $95 per barrel for Brent crude oil. While overall demand for oil increased during 2023, weak demand in Q4 2023 hampered the overall demand over the entire 2023. Another key driver of 2023 was the OPEC+ policy, which led to several output decreases. This helped stabilize oil prices at reasonably high levels, as shown in Figure 5. Oil outlooks for 2024 were similar across various sources unlike for most other assets. Oil prices are expected to be slightly higher in 2024 than in 2023, but very similar using an average yearly price. The almost uniform opinion states the OPEC+ policy will remain equivalent to the policy that is currently pursued. Oil prices could spike considerably if tensions in the Middle East and the potential reaction of the US, especially regarding sanctions against Iran, should rise. Figure 5: Brent Crude Oil Price in 2023, Source: Trading Economics, December 2023 Hedge Funds Hedge funds struggled in 2022 when the core asset classes, equities and bonds, saw substantial declines. 2023 did not help the industry either, as equities posted a phenomenal year on an aggregated scale and bond yields rose significantly. The latter is a relatively common occurrence, as hedge funds typically offer downside protection, thereby being less profitable in bull markets. While equity hedge funds managed the crisis of 2022 relatively well with a decline of a few percentage points vs. the S&P500 loss of 20%, the response in 2023 with gains lower than 5% did not impress investors. Nonetheless, equity hedge funds can look into 2024 positively, as the most likely case of a soft landing leads to more stability in the market. In such markets, hedge funds can dedicate more time to finding opportunities in their strategies. This is close to a sweet spot, as there are plenty of opportunities and markets are decently stable, albeit far from calm. Investor interest in equity strategies is likely to focus on Long-Short strategies, due to its hedging component and the expected number of opportunities in the market. While equity hedge funds managed to mostly avert the crisis of 2022, fixed income hedge funds could not achieve the same. Fixed income lost more than 10% in 2022, marking one of the worst years in their history. 2023 was not easy to maneuver either, as existing fixed-rate bonds crashed in value (at least until the hikes stopped). Funds focusing on floating rates on the other hand became a lot more profitable, as well as newly issued bonds. Another issue arose from generally lower and safer returns, which took a strong hit in interest, as similar performance can be achieved by bonds at current interest rate levels. Despite the challenges, fixed income funds achieved a positive performance of around 5% in 2023. While some of the challenges in 2024 persist, many of them will be solved as portfolio adjustments would have been necessary to navigate through 2023. It is likely that fixed income hedge funds will need to provide further evidence of their navigation skills in this market, investors are eyeing strategies with higher returns than simple bond investing and the funds’ hedging capabilities. Most investors state that there is an interest in Long-Short, Relative Value, and Corporate strategies. Anticipating 2024, global macro strategies are attracting most interest from the investors’ sight. 2024 will likely be bumpy year, but it is shaping up to be a year with lower levels of volatility than in the previous years’ outlooks. This is largely due to the expectations that there are plenty of opportunities with manageable fluctuations. Other key strategies investors are monitoring are tactical trading funds, and commodity funds. The latter is in particular interesting, due to the rather promising outlooks of gold and oil in 2024. Figure 6 shows the returns of various hedge funds strategies in 2022 and 2023. Figure 6: Equity, Fixed Income, and Global Macro Hedge Fund Index Performance in 2022 and 2023, Sources: Hedge Fund Research, December 2023 Blockchain / Cryptocurrencies The cryptocurrency market experienced a substantial sell-off in 2022 when investors sought more defensive assets. This led Bitcoin (BTC) to decline by 64% and most altcoins by significantly higher numbers. In 2023, this trend did not continue, as most tokens started soaring in January 2023. Another surge occurred in March during the collapse of Silicon Valley Bank. It highlighted the fragility of the central banking system and led to increased interest in BTC. BTC remained relatively steady around $25k to $30k until the optimism of the first spot Bitcoin ETFs started. BTC then solidly surpassed the $40k mark. At the time of writing, BTC is trading at $42k. In terms of performance, BTC managed to gain 156% in 2023. Most other altcoins could not keep up with BTC’s performance but still posted good performances. Ethereum (ETH), for example, reached gains of 86%. Altcoins followed BTC in the initial rally and only rose slightly from the spot BTC news, which makes sense, as many market participants bought BTC to profit from the quantities ETF providers need to amass to offer these ETFs. This development is also supported by the measure of “Bitcoin dominance”, which measures the total market cap of BTC relative to the entire cryptocurrency market cap. At the end of 2022, BTC accounted for 40% of the entire market and rose to 50% at the time of writing. One notable exception in terms of performance this year is Solana (SOL), which grew by more than 10x. However, this performance is stemming from the extraordinary crash of SOL in 2022. During its peak in 2021, SOL was worth $260 and it crashed to below $10 due to several network reliability issues. Hence, a substantial part of this extraordinary gain is from improving its stability and the general trend of reversals. Figure 7 summarizes the performance of BTC, ETH, and SOL during 2023. Figure 7: Performance of BTC, ETH, and SOL from January 2023 to December 2023, Sources: Stone Mountain Capital, CoinMarketCap, December 2023 An outlook on crypto is notoriously difficult due to the immense volatility in the market. The macroeconomic environment will be vital for the industry in 2024. If there will be a soft landing with equities closing higher next year, crypto is likely to succeed as well, barring any significant incidents, such as collapses of major players in the field or unfavorable rulings and regulation adaptations. However, in the case of a recession, cryptos are likely to plummet, as they have during early Covid and subsequently in 2022. Another reason that speaks for a great 2024 for crypto is the Bitcoin Halvening that is expected to take place in April 2024. This event and the historical bull and bear markets around it are frequently cited to assess future Bitcoin values. Figure 8 shows the price development of Bitcoin from January 2022 to the possible expected values by the end of 2024. Using prior bull runs as an indication around the Halvening, BTC could reach up to $110k by the end of the year 2024. ‘Past Halvenings’ in the Figure represent an aggregate view of various forecasts, which place the value of BTC at the end of 2024 at around $80k. However, it needs to be mentioned that individual projections vary widely with some seeing BTC surging to up to $180k before the Halvening in April 2024. Nonetheless, a more reliable way of evaluating the crypto market is through assessing the developments in the space. For a deep dive into the technological advances in the space, it is referred to the 2024 Crypto Prediction by Paul Veradittakit from Pantera Capital at the end of the Outlook 2024. Figure 8: Bitcoin Price from January 2022 to Its Expected Price at the End of 2024, Sources: Stone Mountain Capital, CoinMarketCap & Other Forecasts, December 2023 Private Equity / Venture Capital The private equity industry faced substantial challenges during 2023. The macroeconomic ecosystem poses significant risks to the industry. The high inflation led to generally lower income for companies. In combination with higher interest rates, this leads to a higher financial burden, due to the increased cost of debt and the interest payments. While a recession does not seem too likely in 2024, the threat of one does not help. The increased pressure on financial markets also led to substantially reduced activity, especially after the highly active years of 2021 and 2022. Deal activity and exits were among the most difficult problems in the industry in 2023. The traditional exits, namely M&A and IPOs, plummeted after the intense activity in prior years. Given the unfavorable conditions, and most companies having conducted exits or new rounds in the prior years with elevated valuation levels, few companies were in need of going public or raising further capital. In comparison to the total AuM of the industry, 2023 was the worst year in the industry’s history with only aggregate level of transactions only reaching 7.6% of the total AuM according to Pitchbook. Figure 9 shows the drastic decline in 2023 compared to the past ten years. With the low number of exits, fundraising is also not looking to be great in 2024, as the natural flow of capital is based on exits, which are then re-used in new funds. Within the strategies of private equity, late-stage rounds have taken the hardest hit and there were relatively few late-stage rounds. This is largely, due to the dynamic that companies with large rounds do not need to raise capital very frequently and they now need to manage their raised capital carefully, as they will try to avoid raising capital at unattractive valuations. Early-stage rounds are down as well, but many companies do not have the luxury of waiting for a better financial ecosystem. Additionally, the earlier the funding rounds, the less is their valuation dependent on the state of the economy. Nonetheless, 2023 was also not kind to early-stage rounds, where follow-on averaged 1.7x, the lowest since 2016. Tech companies, which are usually most appealing to investors also took a heavy hit, as in a high-risk ecosystem, there is less risk appetite for the sector. Although AI was the topic of 2023 and has gathered a lot of capital, despite the harsh ecosystem, it could not act as a strong enough catalyst for the market to offset the generally negative year of 2023. Figure 9: Exit Value in Billion and Exits as Percentage of Prior Year-End AuM from 2013 to 2023, Source: Pitchbook, December 2023 With the most prominent exit strategies of M&A and public listings, secondaries soared in 2023. With the limited lifetime of funds, they require liquidity at some point and need to exit from investments. LPs in funds are also seeking further liquidity, which leads to increased interest in unconventional ways to exit private investments. On fund levels, GP-led secondary exits rose the most, although they are not seen as the most promising means to exit, due to the substantial time investment to prepare documents, the review period of LPs, and the relatively high fail rate. Secondaries transactions amounted to $130bn in 2021, which were not reached in 2022 and 2023, but the developments and the need for liquidity make secondaries very attractive in 2024. With the current dry powder of nearly $2.5tn, the eventual need for capital deployment and narrowing spreads in secondaries (largely a combination of the need for liquidity and the necessity for further capital even in down rounds). Due to these underlying drivers, secondaries are estimated to reach around $220bn in transaction volume. The underlying macroeconomic situation is not great for the industry in 2024. High interest rates and thus high financing costs as well as a significant degree of volatility make the environment challenging for private equity. Nonetheless, the outlook for 2024 is not entirely negative. It is likely that deal activity will rise in 2024, as companies that could hold off raising capital in 2023 are more likely to pursue new rounds, even if they are down rounds, as interest rates will be likely higher for longer. In conjunction with increased secondaries activity, more opportunities will be available to invest in companies and fund shares at attractive valuations. Historically, vintage years in challenging environments led to outperformance. For investors with limited exposure to private equity, it might be an interesting time to enter the market or increase the allocation to private equity, as it provides additional diversification from public markets.   FinTech The FinTech industry also experienced a rough year in 2023. Due to the nature of being an emerging industry, it follows most of the developments of the private equity and venture capital industry. Thus, most of the general trends previously described, apply to FinTech as well. Naturally, the difficulties that economies face have not left the industry untouched. High inflation puts pressure on consumer spending, which affects revenue companies. Despite decreased consumer spending, the FinTech industry is better positioned than most industries, as most services are necessary and cannot be stopped. High interest rates are affecting companies much more, as their cost of financing will rise once the existing debt is replenished. Most companies also want to withhold further funding rounds for as long as possible, as companies do not want to raise capital at “bad” valuations. Due to the nature of being tech, and its inherent higher riskiness than most other sectors, it is less interesting to investors as risk appetite has generally decreased. Additionally, as most companies in the space are still private, investments in upcoming rounds are also less appealing currently, as investors are already seeking liquidity. Hence, private investments are not necessarily attractive to them, as it exacerbates these issues even further. This can also be observed from venture funding, which has dropped from $119bn from Q3 2021 to Q3 2022 to only $46bn from Q3 2022 to Q3 2023. While the industry is certainly facing headwinds in 2024, the state of the industry is better than most other risky industries. Revenue is likely to remain strong, due to the nature of being essential, but growth will certainly be limited. Capital raising will also remain difficult, as investors will likely show a preference for “safer” investments. Nonetheless, the current markets also provide a lot of opportunities, as valuations will be comparatively, and in the long-term, the returns on those investments are likely to very attractive. Aside from artificial intelligence (AI), specific sectors in FinTech that will be interesting in 2024 are likely to focus on InsurTech, RegTech, and cyber security. InsurTech is a combination of technology with insurance. This sector is extremely data-heavy and is likely a strong profiteer from the rise of AI to process more complex data. RegTech is a sub-sector that focuses on the combination of regulation and technology. Companies in this sub-sector are aiming to reduce the burden imposed by regulatory requirement through automation and data analysis to simplify compliance and minimize risks in these tasks. RegTech will become increasingly more important for operational efficiency and to be able to deal with the increasing documentation necessary for compliance. Cyber security is also widely known to be important but will only increase with the advances made in AI over the past year. While AI is prominently featured on how it can boost the working place, when used maliciously, cyber security is vital in its detection.   Private Debt The private debt industry had a very solid year in 2023, especially compared to most other alternative vehicles. Although high inflation limits the appeal of the asset class, inflation has come down significantly and is expected to stay at these levels and/or fall further. It is also extremely likely that interest rates remain higher for longer. Additionally, the likelihood of a recession has decreased throughout the year and it is now anticipated that there will be a soft landing rather than a recession. Due to the development over time, portfolio managers had the opportunity to prepare. Hence, the risk of elevated default rates should be factored into their portfolios and they should be built resiliently. While there is still some further risk with higher than anticipated default rates, especially if there is a recession, portfolios are also likely to incorporate this risk, albeit not to the same degree as for the soft landing case. Despite the overall positive outlook, some market participants are of the firm opinion that default rates are widely underestimated. They reason that many companies may not be able to cover their financial burdens, due to the “free money” era of the past years, which could result in significantly higher default rates than anticipated. In this ecosystem, private debt is highly appealing. Not only does the asset class generate high returns for fixed income-based strategies, but the strategy's high seniority also minimizes downside risks, in case of a recession and defaults. In contrast to other alternative vehicles, fundraising in 2023 remained steady, albeit at slightly lower levels than in the previous years. In 2024, it is expected that fundraising will at least remain at these levels, if not increase, as the outlook in terms of risk-adjusted performance is strong. With moderate expected inflation in 2024, the now substantially higher yields (and likely to remain at these levels) on fixed income instruments are very appealing to investors. In the middle market, senior secured loans rose to 12% with junior secured loans even rising to 15%. Investors, especially institutional investors, are seeking further opportunities to further diversify their portfolios. Private debt made a strong case for the industry in 2023 and with an even better outlook for 2024 will likely result in further allocation quota by investors. The deal ecosystem in the space is also promising for 2024. In 2023, deal activity in general was down substantially. While this also applied to private debt, it also opened new doors for the industry. With very little M&A activity, the need for loans within these transactions decreased, which was especially evident in H1 2023. Since Q3 2023, activity has started to pick up again, but not to the levels in the previous years. Nonetheless, regional banks frequently retreated from the direct lending business, which enabled direct lending funds to absorb these deals. The rise in M&A activity and more opportunities in the direct lending market brings positive momentum for the industry at least at the start of 2024. The industry should remain attractive during 2024 and beyond, due to the macroeconomic environment, decreased leverage, and higher yields. This will likely result in very good vintage years. Additionally, due to the lack of general activity, private equity funds will be under increased pressure to deploy their capital, which results in further opportunities for the space.   Real Estate The real estate industry was under significant pressure in 2023 after already struggling in 2022. A key problem for the industry is currently high mortgage rates, due to the high level of interest rates currently. The uncertainty of a potential recession also keeps the industry on its toes. Despite recession concerns, the real estate industry is unlikely to enter a similar situation as during the GFC in 2008. There are several reasons for this. Current valuations have dropped since mid-2022 and are no longer at peak levels. While refinancing will become an issue, due to price appreciation, the loan-to-value (LTV) ratio will have increased through the gains during the loan, which increases the value portion of the new loan. Additionally, the share of loans that need to be renewed is substantially smaller than in 2008. Lastly, the amount of leverage in current real estate is also lower than back in 2008. That being said, the renewal of loans will become a problem, especially for sectors that suffered in the past years, such as office, hotel, and retail. While mortgage rates in the US are already coming down, they only decreased slightly since its peak in October 2023. For 2024, this trend will continue, but mortgage rates will not come down substantially, as the current interest rates will not be cut substantially in 2024, especially if inflation data does not develop favorably. In terms of house prices, they will also likely remain at high levels in 2024 with most estimates for the US seeing increases in the 2% range. This is largely due to the small available housing stock, compared with high mortgage rates, which are expected to remain above 6% throughout 2024. While sinking mortgage rates will increase the demand to a degree, it does not alleviate the low supply available. While the US has seen a significant decline in valuations, especially from its peak in 2022, it retained more value than most European countries, which lost as most as 18% YoY in the UK. The steep drop in value can mostly be attributed to Q3 2022 when the reversal trend from previous heights was in full force. Only the Asia Pacific region managed to hold onto their high valuations, due to their strong fundamentals and more resilient occupancy. Figure 10 provides more details. Figure 10: Changes in the Valuation of Real Estate in Asia Pacific, Americas, and Europe from Q1 2022 to Q2 2023, Source: Nuveen Real Estate, December 2023 Regarding 2024, real estate will remain in a difficult but steady spot. It is also likely that investment activity will pick up with declining mortgage rates, especially as current levels are close its a 10-year low. Nonetheless, investment activity will not increase significantly, as the macro environment is still unfavorable for the industry. This is certainly not great, but will present attractive opportunities for investors in the space. Historically, these vintage years have done well and the current iteration will likely follow this path. In terms of sectors, office real estate will remain in a difficult position, largely due to its underlying driver of hybrid working introduced after Covid. The retail industry is also well-positioned for 2024. In the US and Europe, grocery-anchored and convenience retail is seeing all-time low vacancy rates and posting healthy fundamentals. In Asia, this is more elevated, due to a stronger rebound from broad reopenings. One of the most interesting sub-sectors are data centers, which grew in the past years and became even more important with the need for huge amounts of data processing following AI innovations. 2024 Crypto Predictions – Veradi Verdict Issue 280 by Paul Veradittakit from Pantera Capital Introduction 2023 marks 10 years since Pantera became the first institutional asset manager in the US to invest in Bitcoin, recognizing then its tremendous resilience and potential for disruption. This past year in particular has been a testament to the blockchain space’s ability to recover from even the harshest external conditions. From the depths of the “crypto winter” at the beginning of the year, the overall market cap of the crypto space has grown by 90% to $1.69 Trillion, with Bitcoin more than doubling from its yearly low of $16k in Jan 2023 to over $40k in December. In 2023, we’ve continued to feel some of the aftershocks of the wave of major collapses in 2022, most notably the FTX trial and verdict and the Binance plea deal in November, as well as the momentary depegging of the USDC stablecoin in March amidst the banking crisis (which triggered memories of the Terra UST collapse in May 2022). At the same time, we’ve continued to see breakthroughs in the space, from technological innovations to regulatory wins, to increased institutional adoption to novel social and consumer experiences. Some of the highlights over the past year include the Ethereum’s Shapella upgrade to a full Proof of Stake network in March, the ruling that XRP was not a security in July, the launch of Paypal’s PYUSD stablecoin and Grayscale’s win over the SEC for the Bitcoin spot ETF in August, and the pioneering of novel tokenized social experiences such as the rise of friend.tech. We thus enter 2024 with a great optimism on the road ahead. Here are my top predictions for crypto industry in 2024:   1. The resurgence of the Bitcoin ecosystem and “DeFi Summer 2.0” In 2023, Bitcoin has staged a comeback, with Bitcoin dominance (Bitcoin’s proportion of crypto market cap) rising from 38% in January to around 50% in December, making it one of the top ecosystems to look out for in 2024. There are at least three major catalysts driving its renaissance in the next year: (1) the fourth Bitcoin halving due for April 2024, (2) the expected approval of several Bitcoin spot ETFs from institutional investors, and (3) a rise in programmability features, both on the base protocol (such as Ordinals), as well as Layer 2s and other scalability layers such as Stacks and Rootstock. On the infrastructure level, we expect to see a proliferation of Bitcoin L2s and other scalability layer to support smart contracts. The Bitcoin ecosystem will likely coalesce around one or two Turing-complete smart contract languages, with top contenders including Rust, Solidity, or the extension of a Bitcoin-native language such as Clarity. This language will become the “standard” for Bitcoin development, similar to how Solidity is considered to be the “standard” for Ethereum development. We also see the fundamentals for a possible “DeFi summer 2.0” on Bitcoin. With Wrapped BTC (WBTC) today having a market cap and Total Value Locked (TVL) of around $6B, there is clearly an enormous demand for Bitcoin in DeFi. Today, Ethereum has about 10% of its $273B market cap in TVL ($28B). As Bitcoin DeFi infrastructure matures, we could potentially see Bitcoin DeFi Total Value Locked (TVL) rise from the current $300M (<0.05% of market cap) to ~1-2% of Bitcoin market cap (~$10-15B at current prices). In this process, many Ethereum DeFi practices are likely to be transferred and “naturalized” on Bitcoin, such as the recent rise of BRC-20 inscriptions and ideas such as staking such as in Babylon’s L2. Bitcoin NFTs, such as those inscribed on Ordinals, may also see increased popularity in 2024. As Bitcoin has much higher cultural recognition and memetic value, it is possible that web2 brands (such as luxury retailers) will choose to release NFTs on Bitcoin, similar to how Tiffanys partnered with Cryptopunks to release the “NFTiff” pendants collection in 2022.   2. Tokenized social experiences for new consumer use cases. Whereas Web2 has moved from social to finance, Web3 is moving from finance to social. In August 2023, friend.tech pioneered a new form of tokenized social experiences on the Base L2, with users able to buy and sell fractionalized “shares” of others’ X (fka. Twitter) accounts, reaching a peak of 30k ETH TVL (~$50M USD at the time) in October, and inspiring several “copycat projects” such as post.tech on Arbitrum. It seems that friend.tech, through financializing Twitter profiles, has successfully pioneered a new tokenomics model for the SocialFi space. In the upcoming year, we expect more experiments in the social space, with tokenization (both as fungible and non-fungible tokens) playing a key role in reinventing the social experience. Fungible tokens are more likely to be novel forms of points and loyalty systems, whereas non-fungible tokens (NFTs) are more likely to serve as profiles and social resources (such as trading cards). Both would be able to be traded on-chain and participate in DeFi ecosystems. Lens and Farcaster are two of the leading web3-native applications integrating DeFi with social networks. Projects like Blackbird will also popularize tokenized points systems for loyalty programs in specific verticals (such as restaurants), using a combination of stablecoin payments and tokenized rebates to reinvent the consumer experience, functionally providing an on-chain alternative to credit cards.   3. An increase in TradFi-DeFi “bridges” such as stablecoins and mirrored assets. 2023 has seen a lot of legal action in crypto, including several high profile wins for the industry such as the XRP ruling and the Grayscale ETF litigation win, and justice being served for financial fraud in Binance and FTX. Alongside this is a large increase in institutional interest and potential ETF approvals for Bitcoin and Ethereum. In 2024, we expect to see a dramatic increase in institutional adoption, who not only seek for ETFs, but also tokenized real-world assets (RWA) and TradFi financial products. In other words, TradFi assets will be “mirrored” in DeFi, while crypto assets will have increased exposure in TradFi markets, thus creating TradFi-DeFi “bridges” that bring these two worlds closer together for increased liquidity and diversification for investors. Ondo Finance has done well tokenizing treasuries while MZERO provides decentralized infrastructure for RWAs. Stablecoins will serve as one of the most important links between the TradFi and DeFi worlds, with stablecoins such as USDC and PYUSD being more widely accepted as both portfolio options and payment tools. With Circle said to consider a 2024 IPO, we also may see an increase in the issuance and usage of non-USD stablecoins, most notably Euro-backed stablecoins such as Circle’s EURC, as well as British Pound, Singaporean Dollar, and Japanese Yen stablecoins. Some of these stablecoins may be launched by state-backed actors. This may also lead to the growth of an on-chain fiat foreign exchange market.   4. The cross-pollination of modular blockchains and Zero Knowledge Proofs. Both the idea of modular blockchains and ZKPs have greatly matured over this past year, such as the recent Celestia mainnet launch, Espresso’s Arbitrum integration, RiscZero’s open-source Zeth prover, and Succinct’s launch of a ZK marketplace. One interesting trend is how these two narratives have merged together, with companies in the ZK space “modularizing” by focusing on specific verticals, such as co-processors, privacy layers, proof marketplaces, and zkDevOps. In the upcoming year, I expect this trend to continue, with Zero Knowledge Proofs emerging as an interface between different components of the modular blockchain stack. For example, Axiom’s ZK co-processor leverages ZKPs to provide historical state proofs, which can then be used by developers to perform computations in DApps. With ZKPs being the common interface between these different providers, we will see a new era of smart contract composability. This provides developers building DApps with a far greater flexibility for providers and reduces the barrier to entry for the blockchain stack. On the consumer side, ZKPs may see increased use cases as a way to preserve identity and privacy, such as in the form of ZK-based decentralized IDs.   5. More computationally intensive applications moving on-chain, such as AI and DePIN. There has been a lot of time, energy, and capital poured into the scalability problem for decentralized applications. Today, much of the scalability problem has been solved – gas fees on Ethereum L2s are less than 0.02 USD (compared to 11.5 USD for Ethereum mainnet), and on Solana the fees are 3-4 orders of magnitude even lower. As this trend continues in the next year, we believe computationally expensive applications (applications can use up gigabytes of RAM) will become much more economically feasible on-chain in the near future. This includes vertical applications such as on-chain AI systems, Decentralized Physical Infrastructure Networks (DePIN), on-chain knowledge graphs, and fully on-chain games and social networks. All this may radically reshape the on-chain data economy, greatly improve both user and developer experience, as they are freed from onerous gas fees and stringent constraints on compute power.  Examples of computationally expensive projects that can take advantage of this much cheaper on-chain “compute” include Hivemapper’s efforts to create a decentralized Google Maps on Solana, Bittensor’s creation of a decentralized machine learning platform, Modulus Labs’ efforts in ZKML and AI-generated NFT art, The Graph’s plans for on-chain knowledge graphs, and the Realmsverse creating an on-chain game world and lore on Starknet.   6. Consolidation of public blockchain ecosystems and a “Hub-and-Spoke” model for appchains. There has been a proliferation in infrastructure projects over the past few years. Despite the commonplace technical categorization of Layer 1 (L1) and Layer 2 (L2), from a user experience perspective there is not much of a difference. This is especially true for a general-purpose public blockchains; today an L1 such as Solana or Avalanche is a direct competitor to an L2 such as Arbitrum or Starkware for users, projects, and volume. With this homogeneity in place, liquidity serves as a concentrating force for general-purpose public blockchains, benefiting larger incumbent players such as Arbitrum, Optimism and Solana, with the top 4 ecosystems today accounting for ~90% of Total Value Locked (TVL). Smaller ecosystems must concentrate their efforts on specific verticals (such as social, gaming, DeFi) to retain an edge, effectively becoming “appchains” or “sector-chains.” Already, three of the Top 10 L2s by TVL (dydx, Loopring, Ronin) are effectively appchains that specialize in a single vertical. The TVL “break-in” of smaller, newer L2 chains such as Base and Blast also rely heavily on single “killer-apps” (eg. friend.tech and Blur respectively) to establish beachheads in volume. Moreover, most leading general-purpose public blockchains have released appchain toolkits (OP Stack, Arbitrum Nitro, StarkEx, etc.) to allow appchains to tap into the liquidity on these public networks and place them within their ecosystem orbits. Thus, we’re beginning to see a “hub and spoke” model where there a few general-purpose public blockchains acting as central “hubs,” around which there are numerous “spokes” of specific appchains. In 2024, it may be worth paying attention to major rollup-as-a-service vendors such as Caldera, Conduit, and Eclipse and decentralized sequencers like Espresso that take advantage of this “hub-and-spoke” move.   How were my predictions for 2023? At the end of 2022, I made predictions about the growth of six sectors listed below. Here’s how I score myself on accuracy, with 1 being the least accurate and 5 being the most accurate.   DeFi will continue to grow while CeFi consolidates Accuracy: 3 Total Value Locked in DeFi has risen about 40% in 2023, growing from $38B in January to $50B in December, a pace that lags behind the 90% increase in market cap of the crypto space. Nonetheless, there has been an explosion in liquid staking, with Lido’s TVL rising 400% from $5B at the beginning of the year to over $20B by December. Currently, there is over $26B in liquid staking tokens. Restaking has been another major trend in DeFi. Eigenlayer, which announced its Stage 1 launch in June and Stage 2 launch in November, has seen its TVL grow 20x from $13M to over $260M. Major DeFi protocols, such as Uniswap and Synthetix, have also focused on building better front ends to improve the user experience of using decentralized exchanges. Uniswap launched several major products in 2023, including Uniswap v4 in June which introduced the idea of “custom hooks” to support extended customizability and flexibility in user-defined pools, the open-source UniswapX engine, which processed over $1B in volume in just 4 months, and mobile apps on iOS and Android. Synthetix also launched its v3 in March, featuring multi-collateral staking, cross-chain functionality, and increased developer tooling to improve the user experience for both traders and developers. CeFi, however, has become more fragmented. Due to its regulatory troubles in the US, Binance’s market share in centralized exchanges has dropped from over 60% in January to less than 50% by September. With the market leader faltering, this has led to a fight between other major centralized exchanges (such as Bybit, Coinbase, and HTX) fighting over this vacuum, leading to a plurality of exchanges in the CeFi market.   We will see tremendous zero-knowledge adoption and use cases Accuracy: 5 2023 has undoubtedly been a year of zero-knowledge adoption, with Zero Knowledge Proofs (ZKPs) rapidly developing on multiple fronts. On the theoretical front, there has been new innovation in recursive folding schemes, such as Hypernova and Protostar, while on the applications front, there has been an explosion in the application of ZKPs in rollups and beyond. This past year has seen mainnet launches of several high-profile zkEVM mainnet launches, including the zkSync Era and Polygon zkEVM launches in March, Linea’s launch in July, and Scroll’s mainnet launch in October. Today, 5 of the Top 10 Layer 2s by volume are zkRollups. ZKP companies have become much more specialized, with ZKP applications in coprocessing, marketplaces, DevOps, and privacy. RiscZero has released its Zeth prover, Axiom has pioneered ZK coprocessors, Succinct Labs released the Succinct ZKP marketplace, and Modulus Labs has released a series of ZKML products. In addition, Worldcoin launched its World ID “digital passport” to use ZKPs to secure biometric data.   Institutions will increasingly tokenize financial assets Accuracy: 4 Tokenized financial assets have gained great momentum in 2023, as 10-year US Treasury Bill rates have hit a 15 year high. Taking advantage of these macro conditions, Franklin Templeton has tokenized over $300 million US Treasury Bonds, and the tokenized US treasury bonds has increased from $100M in January 2023 to over $700M in December. Other emerging forms of tokenized financial assets include on-chain credit loans, which have also exceeded $600M this year. In the US, there also seems to be more regulatory clarity over this past year, with several landmark court victories for the industry, such as Grayscale’s win over the SEC over ETF approval, which seems to be poised for approval in 2024. There has also been several moves in the stablecoin space, including Paypal’s launch of PYUSD in August, which currently has a market cap of over $200M, and Circle’s expansion of its EURC Euro-backed stablecoin to multiple networks such as Stellar and Avalanche.   More companies will emerge to leverage blockchain data Accuracy: 3 With the rise of Large Language Model (LLM) applications such as ChatGPT over the past year, there has been a push to use AI to make sense of on-chain data. This includes new AI block explorers, such as Solana’s Aperture block explorer, as well as portfolio visualizers such as DeBank and Cymbal. Dune, a major on-chain analytics platform, has also introduced its magic AI wand in August to aid in the writing of on-chain queries in its custom DuneSQL engine. There has also been the trend of “Intent-centric” design in the blockchain space, focusing on a higher-level understanding of what a user seeks to accomplish in a given transaction, and automating the process based on AI and other advanced algorithms based on on-chain data. However, partly due to market conditions, many social and consumer-facing applications based on blockchain data have not yet reached a critical mass. Many on-chain social networks, for example, have struggled to onboard new users, with even some of the more notable social protocols such as Lens only having 100k profiles, very modest numbers compared to web2 social networks. For example, Threads, was able to onboard 100 million user signups in a week. Even after its initial hype ended, Zuckerburg claimed in October that Threads has almost 100 million monthly active users. One of the few successful blockchain social networks of the year was friend.tech, which heavily relied on the distribution and social graph of X, a quintessentially web2 social network, rather than bootstrapping from blockchain data.   The developer tooling stack will continue to grow as blockchain engineers increasingly seek easy and efficient ways to deploy Web3 projects Accuracy: 4 This year saw several exciting advances on the developer tooling stack, from composability solutions to cross-chain interoperability, to customizable application hooks. One of the major developments in the composability space is Arbitrum’s Stylus VM, which augments the Ethereum Virtual Machine (EVM) with a WebAssembly (WASM) runtime in order to support smart contracts written in Rust, C, and C++. All of these smart contracts are completely interoperable with those written in Solidity, and for memory-intensive applications, Arbitrum estimates that Stylus VM contracts may be orders of magnitude faster, with access to memory that is 100-500x cheaper than using the EVM. On the interoperability front, Chainlink unveiled its Cross-Chain Interoperability Protocol (CCIP) in July, featuring a novel design using three decentralized oracle networks (DON), and announced partnerships with the Swift international banking system. LayerZero has just launched its v2 a few days ago, featuring Decentralized Verification Networks to replace its V1 Oracle, introducing a modular verification approach for cross-chain packets and increased programmability features. There has also been a flurry of activity in the modularity space, such as Celestia’s mainnet launch and Espresso System’s Arbitrum integration, which all promise increased composability for developers. Decentralized applications such as Uniswap have focused on increasing composability and customizability, such as releasing “custom hooks” integrations in Uniswap v4 and the open-source UniswapX engine. However, despite these advancements, monthly active developers in the blockchain space has dropped by about 25% from 26k to less than 20k in October this year, despite the rise in prices since the start of the year. One reason for this may be because developers oftentimes have sunk costs (such as completing current projects), and therefore developer count acts as a lagging indicator in the bear market. One bright spot of this is that the overall decline in developers, ~30% from its peak in mid-2022, is far less than ~70% drawdown in prices during this “crypto winter”.   Non-fungible tokens that provide some kind of value to their holder, such as gaming NFTs and identity NFTs, will expand Accuracy: 2 This past year has been brutal to the NFT scene. Ethereum NFT trading volume hit a two year low in August 2023, and the average selling price dropping over 90% between 2022 and 2023. OpenSea laid off around 50% of its marketplace staff and lost its market leader position to become a mere fifth, with less than half of Blur’s volume. Even prominent gaming NFTs, such as Sorare’s trading cards, have seen a “deflationary spiral” where card values are declining rapidly. Despite all this, there have been some bright spots and innovations in the NFT space. The Blur marketplace had a highly successful launch that featured a sophisticated tokenomics strategy in February 2023 to overtake OpenSea, and is currently launching its own L2, Blast, with native yield. There has also been a growth of Bitcoin Ordinal NFTs, reaching over $1B in transaction volume, with trading supported by major exchanges such as MagicEden and OKX’s NFT marketplace. Arcade has also been pioneering NFT financialization with NFT-backed loans for both digital and real-world assets.   Conclusion As we reach the end of 2023, we have perhaps made it through the worst of the bear market, turning over the page on the series of brutal collapses that we have seen over the past year and a half, and ready to begin exploring novel use cases. Today, we’re at an inflection point, where crypto is no longer solely about financialization, but rather a broader idea of how we redefine consumer, social, and developer experiences using blockchains. I’m very excited to see what 2024 holds for the future of our still nascent industry, as we use decentralized technologies to reimagine our digital culture. Paul Veradittakit | General Partner, Venture Capital, Pantera Capital E : [email protected] M : +1 415 494 9001 Paul is a General Partner, Venture Capital at Pantera Capital, where he works since almost nine years. 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