You’ve heard about the ratings agencies scandal during the 2008 financial crisis. They were giving worthless mortgage securities AAA ratings, the safest investment grade possible.
Well, we’re now in the era of cryptocurrencies. And crypto ratings agencies are here to offer their opinion on crypto projects as well.
No surprise, the quality of their research and output hasn’t changed all that much from their predecessors.
I had the chance to learn this first hand at a recent seminar by a prominent crypto ratings agency.
During the talk, they showed us how they calculate their measurements. And they were kind enough to show us some simple steps that projects can take to improve their rankings. Honestly, I doubt I’ve ever gotten such a high return on investment for an hour of my time.
Following the talk, I watched a project implement the recommended changes and in just two weeks, its ranking improved significantly.
Oh, and it didn’t change anything substantive about the project or how it did business.
It doesn’t take a genius to figure out that something is wrong here. But, it does highlight two things:
1. It’s good to have people on the inside, and
2. Crypto ratings agencies, like traditional ratings agencies, are seriously flawed.
Read on in today’s article to learn two of the ways that crypto ratings agencies’ rankings are skewed and why I think it’s crazy that anyone takes them seriously…
It’s crazy that investors rely on crypto ratings agencies to inform their decisions.
And that’s exactly why I am compelled to share these insights here.
If you have a crypto project, you should follow these steps. Doing so will help you increase your relative ranking immediately with almost no effort.
First, it’s important to understand how crypto ratings agencies work:
Ratings agencies, like all businesses, want to efficiently deliver their product to market. More specifically, they want to efficiently place a rating on individual crypto projects.
To do this, they use publicly available and easy-to-scrape data. This data often reflects meaningless inputs and has zero correlation with future success. But they use it regardless to try and extract some sort of meaning.
Here’s an example:
One key indicator that crypto ratings agencies try to measure is a project’s “development activity.”
Unless you’re a member of the development team, that’s a very difficult indicator to assess. Not to mention, the assessment that is required to determine the quality of the activity.
But, leave it to the crypto ratings agencies to come up with a metric that lets them assess the level of activity in an efficient manner.
They look at the amount of entries a project makes in its GitHub account and count each one as “activity.”
This is the silliest metric I’ve ever heard of.
What this means is that a project whose developers are active on GitHub could have 200 entries and receive a high ranking. While a project using a different communication platform might be considered defunct.
It’s like valuing a company’s product development based on the number of emails they’ve sent. It’s absurd!
Not only does this provide skewed statistics, but it’s also subject to manipulation.
Projects that adjust their behavior to do better in the rankings, will rank higher. All they need to do is move meaningless activity to their GitHub account to get a better rating.
But there’s more…
Yes, increasing GitHub activity is an important step to get a better ranking. But it won’t actually matter unless you do this one step first.
Step one in increasing your rating with any crypto rating agency is….you guessed it….pay a fee and register with them. That’s right, you need to register your project on their platform. And with that, you can expect to immediately start seeing improvements.
This can usually be completed on their website. In some cases you might receive follow up questions by email, but it’s really not that complicated. So long as you provide the agency with the requested information, your project will be ready to go.
Let’s have a quick recap:
So far, you’ve learned how to improve your project’s rating. You can do this by increasing GitHub activity and filling out an online form. Keep in mind, you haven’t changed anything about your project. You simply shared some information so the ratings agencies can “tick the box”.
And therein lies the problem. These superficial changes have zero impact on the quality of your project. And yet, they are key to the score that ratings agencies assign.
This underscores how inconsistent and unreliable ratings agencies are.
As unfortunate as it is, crypto ratings agencies play a role in the assessment of crypto projects. But, they are by no means the only consideration, and they aren’t the best.
Real investors and that includes Insiders, take their research much further. Qualitative observations are as important as quantitative ones, if not more.
Instead of following artificial algorithms based on GitHub activity, real investors look at project teams and leadership. They dive into the technology, and understand the actual viability of a project. That’s what we call smart money.
Often, they also use qualified persons to assess different aspects of the project. Such as a computer scientist to assess the technology or a legal or economics expert to look at a company’s governance.
Here’s an example of what real analysis looks like: Grayscale’s Horizen Investment Thesis.
Conducting this level of analysis is time consuming, difficult and more expensive than relying on ratings agencies. But the results are far more meaningful and will save you a lot of headaches down the road.
If you’re involved in a project, take the above steps to immediately increase your ratings. This is, unfortunately, a metric that many investors look at so you should do what you can to help yourself. There are a lot of lesser projects out there that have already figured this out.
If you’re an investor, do your own research, and do not rely on these third-party ratings agencies. The data that they mine is meaningless and doesn’t help you understand a project better. Instead, look for a detailed analysis that reputable companies like Grayscale are producing.
Lastly, if you work at a crypto ratings agency, don’t read this article as a sign that there is no place in the world for your company. Take it as a challenge to find better metrics and a system that can’t be gamed.
Originally published at https://cryptolawinsider.com on July 2, 2019.