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Centralized exchange tokens have skyrocketed this year, but none more than Hxro, which has gained more than 1,000% year to date. One of the reasons they have done so well may be because exchange tokens have taken on the behavior of equity in the companies behind the exchanges, arguably the main sources of revenue in the cryptocurrency industry.
Unlike stocks, exchange tokens are not regulated. Thus, as they increasingly act like equity, despite how promising their potential value may be, their regulatory uncertainty only increases.
Hxro isn’t the only exchange token this year. FTX’s FTX token has risen 157% since January 1, while OKEx’s OKB and Binance’s BNB have gained around 30% each. Compared to bitcoin, the cryptocurrency no. 1 by market cap, both Hxro and the FTX token outperformed the older cryptocurrency by around 890% and 69%, respectively.
It could be argued that some centralized exchange tokens have become a better investment than bitcoin, which rose above $ 14,000 this week; what they get for tokens is different than what they would get for buying a regular cryptocurrency.
Similar to the frequent flyer programs offered by airlines, exchange tokens were launched in theory to provide their owners with some perks. Some allow holders to receive discounts on trading fees, for example. If people use exchange tokens the same way they use airline miles programs, there is no reason to invest in these tokens any more than there is to purchase miles.
Added token holder value
Exchange tokens have gradually moved away from their initial role, becoming more like shares of companies that are trying to find ways to provide more value to token holders.
Dan Gunsberg, chief executive of Hxro, attributed the token rally to a liquidity-providing program that the company introduced to its users earlier this year. The idea of cryptocurrency staking is similar to traditional savings accounts – users earn passive income by keeping their tokens on the exchange.
Staking may have started as a way to encourage clients to use tokens more frequently in trading, but for passive holders, the yield feels like a dividend on a stock.
The biggest players in space, including Binance and Huobi, have also done away with staking products for their users.
The rationale behind this behavior, according to Jack Purdy, a senior research analyst at Messari, may be that exchanges now view token holders as an important component of their long-term business success.
In an interview with CoinDesk earlier, Changpeng “CZ” Zhao, CEO of Binance, said he expects decentralization to cannibalize its centralized exchange. Binance is pursuing a long-term goal of decentralization which may be a more cost-effective way for exchanges to run their platforms.
If decentralization wins as the dominant business model for trading venues in digital currency markets, Zhao said, Binance could still profit from its BNB token holdings.
According to Gunsberg, even the smallest Hxro is planning to go fully decentralized and governance features will be added to its token soon. This means that the token holders will have influence in deciding how the protocol will develop in the future.
Often, a large portion of the exchange token is distributed to founders, seed investors and project consultants. Binance is the largest holder of the BNB token. Similarly, Hxro tokens for seed investors and consultants are locked into the company’s treasury wallet until June 2021, after which they will be released in eight quarterly distributions, according to the project’s profile page on Messari. Founders tokens are held in Hxro’s treasury wallet until June 2023.
A threat of future regulation?
Regulatory uncertainty remains a threat.
“Regulatory concerns are definitely an issue because they definitely look like securities under US law, in which case they have a whole host of regulations to address by the SEC,” Purdy said.
Exchanges are already feeling some heat with a recent crackdown on crypto derivatives trading around the world. In early October, the US Commodity Futures Trading Commission (CFTC) and federal prosecutors accused the derivatives trading giant BitMEX of facilitating unregistered trading and other violations, while in the UK, the Financial Conduct Authority (FCA) has banned derivatives trading for retail traders.
OKEx, the second largest crypto derivatives exchange, suspended withdrawals indefinitely last month after saying that one of the exchange’s key holders has been “out of touch” with the exchange because they are “currently collaborating with a public security office in the investigation. “The native token of the OKB exchange lost almost 30% of its market value the day after the news broke.
There is some speculation that exchange tokens are exploding on the assumption that decentralization will eventually become the dominant business model in cryptocurrency trading and that centralized exchanges could emerge as winners. But at any point during that process, it’s possible that exchanges can mine their tokens, according to Purdy.
Equity gives investors legal rights over part of a company. This is not the case with exchange tokens because those exchanges don’t have to give up any of their ownership.
“[Exchange tokens] they’re a gray area with stock-like characteristics, “said Purdy.” But they’re not perfectly comparable. “
