Understanding the Value of Tokens: A Simple Guide for Grasping Their Worth

Tokens are versatile digital assets that facilitate countless protocols, spanning across blockchains, decentralized applications (dApps), decentralized autonomous organizations (DAOs), infrastructure projects, social networks, gaming, and more. This raises essential questions about what gives tokens their value and how we can construct a framework to better comprehend them in the continually evolving Web3 landscape.

In our introductory article of this series, we touch upon the concept of the demand side in token models as well as the notion of cooperative value in tokenized environments. In essence, the value within decentralized protocols emerges from the coordination of various participants involved in its function and usage. A well-structured token secures a fraction of this value while ensuring the sustainable operation of the protocol. explored The next critical point to address is how a token can capture this cooperative value from the tokenized environment.

The Token: Your Gateway to Unlocking Collaborative Value

The phrase “The Token is the Key” serves as an effective metaphor that helps us navigate through this intricate issue.

It's important to realize that holders of the native token often play dual roles as both contributors of value and direct beneficiaries.

A portion of the value generated is made accessible to those who hold and use the native token. The fundamental question arises: how does the token acquire (capture) this portion of the value produced in the system?

The token acts as an asset that grants its holder essential utility functions. It uniquely facilitates access to valued resources within the ecosystem, thereby inherently sharing the ecosystem’s worth with the token holder.

I classify these fundamental utility functions as pathways to accessing Origins of Value. A formal definition is outlined below:

The Origin of Value refers to a set of system policies tied to a token (or its functions) that enable token holders to partake in the value generated by the system.

Using Origins of Value to Illustrate the Value Capture of a Hypothetical DEX Token

Creators of liquidity pools, liquidity providers, and traders contribute to the overall value of a DEX. This value is reflected in financial terms through the fees accrued from swaps (protocol fees) and the funds held in the protocol’s treasury. Non-monetary aspects such as brand reputation, user loyalty, and the DEX’s impact on the DeFi landscape also signify its value.

When a native DEX distributes protocol fees among token holders, it transforms into a mechanism for capturing value, as a segment of the DEX's generated worth is directly shared with those who hold the token. 

If the native DEX token allows its holders to manage the DEX’s resources—like fund allocation, rewards, or protocol parameters (fees)—then the governance value is shared amongst the DEX token holders through the authority to influence resource allocation decisions. However, valuing governance is generally much more complex than merely sharing protocol fees.

Not all Origins of Value benefit the token holders. Several factors may expose holders to risks or necessitate specific actions to activate additional utility functions. For instance, participating in block production and earning rewards as an Ethereum validator requires staking ETH, which carries the risk of slashing, alongside running a node (this entails certain conditional actions).

We can encapsulate token utility in this formula: Positive utility subtracting the risks and costs that the holder must face to realize that utility:

The Token Utility Function

Q is interpreted as a Positive utility or benefit derived from holding a share of supply X at price P , contextualized by the blockchain state S over the period T

Where:

• U is the token value function

• L symbolizes the Risks and Expenses that the token holder must manage to activate the Positive utility (optimally use the token) from holding a share of supply X at price P , based on the blockchain state S during the timeframe T
• Understanding the logic behind Risks and Expenses is vital for efficient coordination and value-generation within decentralized frameworks. 

A common example includes the requirement to stake tokens in scenarios where slashing threats exist (which occur in cases of node mismanagement), along with the necessity to actively contribute to the protocol’s functioning.

The Compendium of Origins of Value Alongside Instances

The compendium of foundational token functions – Origins of Value comprises eight utility functions that include various asset examples demonstrating each distinct Origin of Value in its architecture:

Value transfer – this origin pertains to the value obtained from engaging in transactions (settlements). It signifies the intrinsic worth attained through the capacity to partake in transactions serving as a conduit for the value of other assets.

• Example: native token BAT (Basic Attention Token).
  
  Examples: Bitcoin , Litecoin , Brave Future cashflows – the value is garnered through the acquisition of upcoming revenue streams generated from protocol operations.
  
• Native token SUSHI (xSUSHI), Liquity protocol.
  
  Examples: Sushiswap Governance – this value comes from the unique ability to oversee the allocation of scarce resources. Limited resources can encompass management of protocol treasury, distribution of rewards, and future developments, among others. LQTY token.
  
• Access – value is accrued from the opportunity to access unique resources independently of any additional utility. For instance, having entry to exclusive communities, critical information, or the possibility to perform certain actions or access special information.
  
  Examples: Compound COMP token, Uniswap UNI token, Optimism OP token, Curve CRV token.
  
• Illustrative examples: NFT tickets, Soulbound tokens, and other NFTs granting exclusive access.

Representation – value is achieved through the representation of units from other assets.

• Examples include LP positions at DEXes and any liquid staking tokens – LSTs (Liquid Staking Tokens).
  
  Examples: stablecoins Hedonic Value/Scarcity – this value is captured through social contracts, popularity, or contextual influences surrounding the protocol. LRTs (Liquid Restaking Tokens).
  
• Such items are applicable to in-game assets and other domains.
  
  Examples: NFT digital art , POAPs Risk Exposure (Negative) – this encompasses generalized loss/risk exposure necessary for successful coordination. Memecoins also are an example.
  
• Illustrations include staking in a node to partake in consensus or locking votes in governance.
  
  Conditional Action (Negative) – this involves the necessity to execute actions as a requirement for effective coordination or value-generation.
  
• For instance, staking in a node to engage in consensus or locking votes in governance. The governance voting process is also classified as a conditional action requirement since deriving value from governance is impossible if the token holder fails to vote.
  
  How to Leverage Origins of Value and What Lies Ahead?

The notion of Origins of Value serves as a foundational tool to decode the utility and value capture of tokens in a straightforward manner. By examining any token, its functionalities can be deconstructed into basic Origins of Value, facilitating a deeper understanding of token models.

The DEX token case discussed in this article incorporates Future Cashflow, Governance, and Conditional Action – the latter pertains to the requirement to engage in voting to reap benefits from governance.

It's essential to recognize that value sources can interconnect and function as Value-Capturing Mechanisms. The forthcoming article will delve into these mechanisms, their categorization, and operational methodologies.

For those eager to enhance their grasp of token value, I, an aspiring Fellow, am leading a Study Season Live Track titled “',

Where Can You Study About Tokens?

You’re invited to join the next session on June 3, from 16:00 to 17:30 UTC. Token Engineering Academy Keep in mind, the information provided on this page is not intended to serve as legal, tax, investment, financial advice, or any other type of guidance. It's crucial to invest only what you can afford to lose and to seek independent financial advice if you're uncertain. For more information, we recommend checking the terms and conditions, alongside the help and support pages offered by the issuer or advertiser. MetaversePost is dedicated to providing accurate and impartial reporting, but market conditions may change without prior notice. TE Value Capturing Fundamentals Ph.D., Head of Research at the PowerPool protocol, he features prominently as a researcher focusing on the intersections of blockchain and economics. Throughout his journey in Web3, Vasily has engaged in analyzing, designing, and prototyping tokenized economic frameworks and DeFi products. He is one of the early members of the Token Engineering Community. Register to participate .