Exploring The Polkadot Ecosystem, The Layer Zero Blockchain Competitor to Cosmos

 Exploring The Polkadot Ecosystem:

The Layer Zero Blockchain Competitor to Cosmos

Disclaimer:  I am not a certified account, lawyer or financial advisor.  Everything I write is for educational purposes.  Before conducting any of the information here, be sure to consult an expert on the topics here before executing them.

        Polkadot is what is known as a Layer Zero protocol, very similar to Cosmos (ATOM).  It is an ecosystem in which you build blockchains within a blockchain and have interoperability, a feature of having these blockchains communicate together.  It has a well known founder in the crypto space, Gavin Woods.  Gavin Woods is one of the cofounders of ethereum and is the creator of the Solidity programming language for Ethereum.  This gave Polkadot a lot of hype when it came out to the market.  I haven’t done as much of a deep dive into Polkadot as I would have liked to have done.  Is the ecosystem healthy and thriving or just a bunch of flash in the pan hype?  I should also mention that Polkadot (DOT) has a sister chain called Kusama(KSM).  Although Kusama serves an important role in the ecosystem, Kusama is not available on any New York exchanges.  For this reason, I will be overlooking Kusama for research purposes since this blog is a New York research centric resource.

What is Polkadot and Kusama

        Polkadot and Kusama are Layer 0 Blockchains that allow intercommunication between different blockchains.  While the similar Cosmos blockchain is a relatively simple ecosystem to understand, The Polkadot ecosystem can be cumbersome for a newcomer to understand.  For this section I’ll begin with how Polkadot and Kusama work.

        The main difference between these two blockchains is that Polkadot is considered the “main blockchain” while Kusama is regarded as the “Live Testnet chain.”  Kusama gives developers an opportunity to see how their project would perform on Polkadot before being released on Polkadot.

        These two chains use what is called a shared security model.  This means the projects being developed on Polkadot use the same hardware and validators as the other projects.  This means projects are not going to need to find their own valdatitors or hardware to run their own blockchains.  It will be available out of the gate to use.

        However, if projects want to release their own blockchain on these networks, they must secure what is known as a Parachain.  Each Parachain is secured through what is known as a Parachain auction.  Polkadot and Kusama holders can vote with their Polkadot and Kusama on which projects should secure a polkadot/kusama parachain.  They lock up their Polkadot and Kusama in a parachain auction in which the project is leased for a set period of time.  Once the leasing period is over, the coins are returned to the original holders.  What is cool about these auctions is the projects give you their native token.  It is very similar to an Initial Coin Offering without having to lose your Polkadot or Kusama. 

How does Polkadot compare to Cosmos

        As time goes on, each project is becoming more similar and taking on features the other project has.  For this reason we will start with discussing the similarities then focus on the differences.

        Both Projects are Layer 0 blockchains using Proof of Stake consensus.  Each needs their native tokens to be locked up to create new blocks on the chain.  Both use validators to create new blocks and both have stakers called Nominators (Polkadot) and Delegators (Cosmos).  There are minimum lock up periods to stake your coins of 28 days (Polkadot) and 21 days (Cosmos).  They both have staking rewards with very similar rates that fluctuate between 14% and 20% APY.

        There are some striking differences in how things are managed.  In Cosmos, there is no minimum amount of Atom required to begin staking.  However, in Polkadot, there is a fluctuating minimum requirement.  When Polkadot initially launched, you only needed 40 Dot to be a nominator. Over time, the amount of DOT required increased.  At one point 160 DOT was required to be a nominator.  At the time, it would cost just $3,200 just to become a nominator at the price of $20 per a DOT.  At the moment of writing this article, the minimum required is 124 DOT, at the price of about $900.  This can make DOT staking inaccessible to smaller investors.

        The other major difference is how validators work.  In Polkadot, all the validators exist on what is called the relay chain and all the blockchains in the ecosystem exist on parachains.  The parachains request the relay chain to validate transactions on the blockchain.  In Cosmos, each blockchain has their own set of validators.

Should I Own Polkadot or Cosmos?

        Despite cryptocurrency maximalism, it isn’t outside the reach of the human mind to see that the cryptocurrency space is going to be multi blockchain.  Some people are going to want access to different developer stacks and technology.  Just recently, dydx decided to move their project from Ethereum to Cosmos.  This demonstrates the needs for individual dapps to have their own blockchain.

        The concept of a multi blockchain world is largely for layer-1 solutions. With bridging technology being built to have interchain communication, Layer0 is a prime form of technology to serve this purpose.  However, it isn’t guaranteed that these ecosystems are going to be the ones to survive.  There is going to be a fight over the standardization of interoperability.  The analogy for layer 0 chain is likely going to head into the direction of wireless technology.  When you consider the wireless router you use, it is standardized and regulated by the Wi-FI alliance.  It is a singular one standard in which everyone must agree to use.  Another is the mobile communication standards, in which different frequencies are used by different companies to suit their own technology.  This is a situation in which multiple standards operate parallel to each other.  If layer 0 blockchains go in the direction of wireless routers, this makes cosmos and polkadot cutthroat enemies seeking to monopolize the layer 0 space.  However, if it goes into the direction of mobile communications, then either cryptocurrency is going to be a fine investment.

        Let us assume they are aiming to be the wireless router standard by which blockchains will be built around.  How should you go about it as an investor?  In an ideal world, you should own both as a hedge against one of them failing so all your eggs aren’t in one basket.  However, some people like to have far more concentrated portfolios and focus their time and energy researching only a few narrow parts of the cryptocurrency space.  For this reason we will be looking at the advantages each ecosystem has.

        One of the striking advantages of Polkadot is the investor money.  Polkadot simply has more financial backing.  If you compare the Messari investor page for polkadot then take an examination of the cosmos financial backing, polkadot just wins hands down.  It does a very good job explaining why Polkadot has a market capitalization 3 times greater than Cosmos.  Another advantage is having Gavin Woods as its founder.  In the cryptocurrency space, he is a bit of a celebrity in this space.  Amongst the Ecosystems with the most developers; Ethereum, Polkadot, Comos, Solana, and Bitcoin.  Then followed up by Near, Tezos, Polygon, and Cardano.  For those looking for a more decentralized blockchain, Polkadot dominates Cosmos in this regard.  Cosmos keeps a limit of the number of validators that can create new blocks to 150 validators  Polkadot is aiming to have 1000 validators.

        However, I personally play favorites to Cosmos.  Cosmos seems to be ahead of its development cycle.  Polkadot as of writing has only released 21 parachains up for auction.  While both are fleshing out their ecosystems, Cosmos simply has a larger ecosystem rolled out with it easier to build and launch a sovereign blockchain at any time.  It is far easier to wrap my head around the cosmos ecosystem. Another clear advantage of Cosmos over Polkadot is transaction speeds. Transactions of Polkadot blockchains can take 2 to 4 minutes depending on the blockchain.  This isn’t all that much better than Ethereum where transactions can take about 5 minutes.  Cosmos is nearly instant.  Staking on cosmos is a far easier ordeal.  You simply pick a validator you want to stake with and done.  Staking on Polkadot is a part time job you need to pay attention to.  To take some information out of the Polkadot wiki documentation:

There is an additional factor to consider in terms of rewards. While there is no limit to the number of nominators a validator may have, a validator does have a limit to how many nominators to which it can pay rewards.

In Polkadot and Kusama, this limit is currently 256, although this can be modified via runtime upgrade. A validator with more than 256 nominators is oversubscribed. When payouts occur, only the top 256 nominators as measured by amount of stake allocated to that validator will receive rewards. All other nominators are essentially "wasting" their stake - they used their nomination to elect that validator to the active stake, but receive no rewards in exchange for doing so.

    In other words, you can be staking and not receive any rewards.  The staking policy for Polkadot is the number reason I started favoring Cosmos over Polkadot.

The ATOM to DOT trading ratio

         Before we talk about the Atom DOT ratio, I should first cover the Kusama/DOT ratio. The KSM/ DOT ratio by Charlie from CultivateCrypto, Miguel from DollarCostCrypto and VoiceMyAmbition on ModernLifeDating.  The core concept behind this trading ratio was to increase the overall size of your cryptocurrency portfolio in terms of coins.

        To understand this picture, you need to think how you can use a single position to buy more of another position.  The idea is that one coin will appreciate faster against another coin.  At the beginning of the chart, you will notice that it says “5 Dot”.  Later in the chart, you will notice it says it hits into the range of “20 Dot.”  What this tells us is that one KSM coin at one point can buy us 5 DOT while at another point, 1 KSM coin could buy us 20 DOT.

        There is a reason why a ratio like this makes sense.  Both are tied to a similar ecosystem.  Both are being developed by the same foundation.  Both are making ties with the same developers.  Both are layer zero protocols.  

        Now let us take a look at the ATOM to DOT Ratio.

        Notice how correlated the price of ATOM is to DOT.  There are times in which a single ATOM can buy you two DOT and when 2 DOT can buy 1 ATOM(or 1 ATOM can buy you 0.5 DOT).  In other words, the price of these projects are reasonably correlated with each in terms of price.  This shouldn’t be too surprising.  They are both Layer 0 protocols.  They are reasonably high market cap coins.  They are both proof of stake coins that provide similar yielding numbers.  This strategy can offer us something that the KSM/DOT ratio cannot.  The KSM/DOT ratio is a flash in the pan opportunity.  With this strategy we can get large accumulation phases that can last for months.

Strategy 1: Have a trading bag

It isn’t recommended that you keep your cryptocurrencies on exchanges.  “Not your keys, not your crypto” has been the ongoing motto since the MT. Gox hack.  However, if it is wealth you do not mind risking, take a look at this idea.

The equilibrium price of your bag is  1 ATOM to 1 DOT.  When 1 Atom equals 2 DOT, you can sell some of your ATOM for DOT.  When the .5 ATOM gets you 1 DOT, you can sell some of your DOT for ATOM.  I should remind you, the purpose of this trading bag is to help you get more of each coin, so you shouldn’t lose your entire position in one shot.


Strategy 2: Stake and sell your yield

Strategy 1 is a little bit more aggressive, and forgoes the opportunity cost of staking your coin.  You also put yourself at risk of losing your initial position. With strategy 2, you will not have to lose your initial position.  Instead of keeping all your coins on an exchange, instead you will try to yield each coin in their respective wallets.

When the ratio is 1 ATOM equals 1 DOT or close to that ratio, you are going to restake your coins.  When 1 ATOM gives you more than 1 DOT, you take your staking rewards from ATOM to buy more DOT.  Then you take that DOT and stake it.  When 1 ATOM buys you less than 1 DOT, you take DOT staking rewards and buy ATOM.  Then use that ATOM and restake it.

The one Achilles heel in these strategies is one’s perspective on whether Cosmos is undervalued as a blockchain.  The Cosmos ecosystem is a fairly large ecosystem that is growing numerous blockchains under its umbrella.  If the market eventually sees Cosmos as undervalued, the overall market capitalization could do a 100% to a 500% in which you are dumping one coin for one that isn’t likely to catch up in this ratio.

Final Thoughts

The one thing I want to bring up regarding Polkadot is how incredibly complicated it can be for an ordinary user to wrap their heads around the whole system.  It isn’t by accident.  Gavin Woods and the team at Polkadot have been trying to be very thorough in its design for the integrity of the network.  This doesn’t mean it shouldn’t be understood.  The overall market has been sleeping on the layer-0 solutions in favor of Layer-1 cryptocurrencies such as ETH, BNB, ADA, and Solana.  Throughout this recent bullrun, we have seen blockchain bridges get hacked and funds stolen.  To paraphrase Jack Zampolin of Cosmos ``Everyone else is building technology with duct tape while we are building trestle bridges intended to last for 100 years.”  You might want to ask yourself, would you want to transfer assets without a layer zero protocol?

In the following articles, you can expect additional research on the overall polkadot ecosystem.

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