My guest today is a guy named “Jon.” He wouldn’t tell me his last name or where he’s located.
Jon isn’t a mysterious figure I met on an underground Telegram pump-and-dump group or a darknet market operator.
To the contrary, he’s the COO of one of the largest cryptocurrency exchanges in the world: ShapeShift.io.
Over time, ShapeShift is becoming somewhat of a crypto conglomerate. They recently purchased Hardware wallet maker KeepKey. They also run the pricing website CoinCap and the do-it-yourself index fund creation tool, Prism (currently in private beta).
In this episode, I wanted to speak with the person in charge of end-to-end operations at ShapeShift. This conversation yields an inside look at one of the cryosphere’s most influential companies.
- The thesis that ties together ShapeShift’s products, brands, and websites.
- How ShapeShift is similar to decentralized exchanges, and how it’s different.
- ShapeShift’s product for creating your own crypto hedge fund, called Prism.
- The mechanics of how Prism works, and how Prism creates Ethereum-based smart contracts.
- What ShapeShift’s organizational structure looks like.
- Why people who run exchanges tend to stay out of the public eye.
- ShapeShift’s relationship with other exchange operators
- How running a non-custodial exchange differs from running a custodial exchange.
- Why cryptocurrency exchanges get a bad rap.
Links Relevant To This Episode:
- Erik Voorhees
- Ledger Nano S
- Radar Relay
Clay Collins: My guest today is a guy named John. He wouldn’t tell me his last name. He also wouldn’t tell me where he’s located. This might sound like the intro that I would give to a mysterious figure that I met in an underground telegram pump and dump group, or it also might sound like someone who runs a darknet market, but the truth is actually quite different. John is actually the COO of one of the largest exchanges in the world, ShapeShift, and all the stuff he wouldn’t tell me that’s for security reasons.
Over time, ShapeShift is becoming somewhat of a crypto conglomerate. They recently purchased a hardware wallet maker named KeepKey and they run a pricing website called Coincap, and a do-it-yourself index fund creation tool called Prism. It’s currently in beta. If you’ve been around this space very long you might have heard from ShapeShift’s CEO, Erik Voorhees. He’s spoken at numerous conferences, been interviewed on a lot of podcasts, and he was at the number eight spot on CoinDesk’s 2017 list of most influential blockchain leaders.
I actually didn’t want to speak with Erik Voorhees on this episode. Enough people have heard from Erik. In this episode I wanted to speak with the person in charge of end-to-end operations at ShapeShift, and I think the conversation you’re about to listen to yields an inside perspective that few people get on the company. This is one of my favorite interviews from someone our industry hasn’t heard from very often, but whose views need more attention.
In my conversation with ShapeShift’s Chief Operating Officer we discuss one: The thesis that ties together ShapeShift’s products, brands and websites. Two: Why ShapeShift is a trustless noncustodial exchange that doesn’t hold customer’s crypto assets, and how that’s helped them and hurt them. Three: How ShapeShift is in some ways similar to decentralized exchanges, and how it’s different from these exchanges. Four: What operators of traditional crypto asset exchanges envy about ShapeShift, and what John envies about their business models. Five: ShapeShift’s product for creating your own crypto hedge fund or crypto index fund called Prism. Six: The mechanisms of how Prism works, and how Prism creates Ethereum based smart contracts that track the performance of the assets they index. Seven: How Prism like ShapeShift operates in a completely trustless fashion. Eight: ShapeShift’s relationship with other exchange operators. Nine: Why cryptocurrency exchanges get a bad rap, and whether or not that’s warranted, and 10: Whether or not John would be involved in financial services if it weren’t for the birth of blockchain technologies.
This conversation is fascinating because it exposes how different exchange operations have to be when custodianship of customer funds is removed from the picture. Please enjoy my conversation with John. I don’t even know if that’s his real name, who is the COO of ShapeShift. John, what was the journey that led you to found ShapeShift with two other co-founders?
John (ShapeShift): I was actually running another development company. I had decided that we were going to start taking Bitcoin as payment. This was almost over four years ago because I didn’t see any reason for us not to. I had fallen down the proverbial Bitcoin rabbit hole, and I was just so interested in this technology, and I really wanted to hopefully work in it. I was like, well, if we’re going to want to work in this field then we have to at least be willing to take it as payment, and that just kind of led to a happenstance meeting where Erik…
Clay Collins: Hold up, it’s Clay cutting in here to let you know that the, Erik, John just referred to is Erik Voorhees. To my knowledge, Erik Voorhees is the only non-anonymous person at ShapeShift. Back to the interview.
John (ShapeShift): Kind of found our company because we were one of the only development companies in the area who was looking for taking Bitcoin, and ShapeShift just became one of a couple projects that we were working on with Erik in the early days. The funny story is that ShapeShift actually started as a side project and there was a bigger project we were working on at the time, but then ShapeShift ended up just… we were able to complete the MVP of the product pretty quickly and get it out the door. It started getting very quick traction, and it became clear very quickly that this little side project that we thought it was was going to be much, much bigger than anything else we were working on, and then we just jumped on board of like let’s dedicate ourselves to this, and let’s really grow this thing.
Clay Collins: I know there’s a lot more than ShapeShift. Right now you guys have KeepKey, you have Coincap, and you also have Prism. Am I forgetting anything from this list I guess that’s publicly out?
John (ShapeShift): Those are the projects that are publicly out that we currently have on the market.
Clay Collins: Digging in a little bit into your organizational structure are these separate autonomous organizations, or is ShapeShift kind of at the top, and then perhaps there’s a shared resource model where you’ve got maybe some folks who are dedicated to one particular project, but also floating resources that go across the different projects?
John (ShapeShift): From a straight corporate organizational level ShapeShift is the parent level company of everything it owns everything under it. Most of these projects are just a division of ShapeShift, so like Prism and the ShapeShift product itself, and Coincap are really just products of ShapeShift. Each one of those we have an individual product, an engineering team that’s focused on it, and then we have some shared resources among those projects that might help with certain, developer operations or the front end of things, or other various resources that might kind of float between, but they all kind of have a dedicated team, and then you have something like KeepKey which is really more of a separate wholly owned company that ShapeShift now owns after the acquisition.
Clay Collins: Hey, this is Clay again, and I want to explain a little more about KeepKey’s story, so KeepKey is a hardware wallet kind of like the Ledger Nano S or Trezor. Back in the day KeepKey was selling really well on Amazon until one day out of the blue you just couldn’t buy them anymore due to production issues. KeepKey needed to partner with an organization with more operational experience, and frankly deeper pockets in order to scale. That’s when ShapeShift came in, acquired the company, and got things moving along. I think it was probably a smart move on ShapeShift’s part. Back to John.
John (ShapeShift): It operates more independently than some of the other projects, but really we try to encourage an environment where each of the products kind of operates independently, somewhat autonomously, but then gains support from the larger organization.
Clay Collins: When I found out that you guys had purchased KeepKey I was wondering if maybe you were turning into kind of a crypto conglomerate, or if maybe you were doing a roll-up of some of the top players in different industries, but then I thought maybe there’s a thesis, and a coordinated plan that’s tying all these things together. Is there a thesis or did you mainly see an opportunity to fill gaps where there was a lot of need, and bring everything under the same umbrella?
John (ShapeShift): Yeah, I think like with any startup it seems like we’ve gotten really big really fast, but ShapeShift is still only a four-year-old company at the moment. That kind of stuff is evolving I would say. I’d say it’s honestly it’s a little bit of column A and column B, and the dichotomy you laid out there. On one side of things we’re trying to grab opportunities that we think exist. In KeepKey’s case we had an opportunity to acquire them. It was in our minds a good deal, and we just thought the hardware wallet market was really taking off, and we knew it’s a little different than what we normally had been doing, but KeepKey had already integrated ShapeShift.
We thought there was a lot of potential synergy with the product, and also just a lot of opportunity in the company in and of itself, so that’s a good example of I think we are willing to spread our wings a little bit out from our core exchange product, but at the same time there is a philosophy, and thesis that kind of ties everything together., ShapeShift is really built, and all of our products are built around these ideas of being noncustodial, you know, not taking customer funds to whatever degree possible of not taking customer information.
Clay Collins: Hey, it’s me again and I want to explain a little bit more about what it really means to be noncustodial, and not hold customer funds, or take customer information. One of the main benefits of an exchange not holding customer funds is that customers don’t have to create accounts on the exchange. This is great for traders who want to avoid taxes, not that you should do this, because ShapeShift couldn’t even if it wanted to report the identity of traders, or the trades they’ve made to the government.
A downside of being noncustodial is that users need to host their own wallets in order to trade crypto assets on ShapeShift. For example, on a traditional exchange like Bittrex if someone wants to exchange Bitcoin for Monero, for example, they just deposit their Bitcoin to Bittrex, execute the trade and Bittrex will hold the Monero after the trade. The trader doesn’t have to have a Monero wallet. On the other hand if someone is using ShapeShift they have to go to Monero’s website, download a beta wallet, download the entire Monero blockchain, secure that wallet, then get a Monero address, and then send ShapeShift their Bitcoin, and tell ShapeShift to send Monero to their new Monero address.
This can be a pain for newer traders who don’t want to wrestle with, sometimes, buggy beta wallet software that sometimes lacks a graphical user interface, but my point is that it takes a lot more work to trade newer and more obscure currencies on ShapeShift even though holding your own crypto assets, and their private keys is best practice because you should not leave tokens on exchanges for very long.
John (ShapeShift): KeepKey actually fit that model really well because in our opinions hardware wallets are one of the best ways to promote good security in the space that a normal user can actually use, and keep their keys privately safely not online with another third party like a Coinbase certain exchange. We see a lot of potential strategic synergies between KeepKey, and a lot of the other stuff we’re trying to build, and we’ll find more and more ways to tie that stuff together, but in many ways that’s kind of the philosophy that binds everything, you know, ShapeShift, Prism, Coincap to some degree, but certainly KeepKey is. We’re not trying to ever take hold of any customer’s funds, and we’re not trying to take unnecessary data that we don’t need that ties everything we do together.
Clay Collins: That makes complete sense, right? If you’re acquiring assets, and your noncustodial service, right? Of course, you need a place to put that. Is there a coordinated effort to try and bring KeepKey’s list of assets kind of in sync with what ShapeShift offers, or are they on separate roadmaps that are kind of dictated by what seems most important to that business on its own?
John (ShapeShift): That’s another facet that’s evolving. When we acquired KeepKey they had certain amounts of development that they had to catch up on before we could really even think about new assets, and a lot of it was just going to be operations going again because when we acquired the company they had actually been offline not had any production of units for almost six months at that time. Our number one goal was just get the units manufacturing and shipping again. Fortunately, we’ve been very successful at that.
That has been going well, and since then we’ve certainly taken more of a look at the assets. There is certainly a goal to make KeepKey align more with more and more ShapeShift assets. We’re not necessarily expecting it to have every single one, or to get to the whole list that fast. There is an overarching goal that we want as many assets on ShapeShift to be available on KeepKey as possible. We are working towards that, and there will be some exciting KeepKey announcements in the next month or two in terms of asset additions to that platform.
Clay Collins: Very cool. You mentioned that ShapeShift is a noncustodial exchange, and that really reminded me that for quite some time there is a lot of things that are I guess for lack of a better word like spiritually similar between decentralized exchanges, and what ShapeShift is doing, certainly, the noncustodial aspect, but quite a bit more. Do you anticipate that ShapeShift will eventually become a decentralized exchange? That’s probably not practically possible unless you only wanted to do ERC-20 tokens or Ethereum tokens, but down the road when there’s sort of this Internet of Blockchains and atomic swaps become more possible, and some of these capacities built out is that something that you guys anticipate happening?
John (ShapeShift): Yeah, we certainly play close attention to the decentralized exchange space both in terms of competition, and terms of just development going on, and in terms of what interesting things we can learn that people are experimenting with.
Clay Collins: Hey, me yet again to explain what decentralized exchanges are. Like ShapeShift decentralized exchanges do not rely on third party services to hold the customers funds, but unlike ShapeShift decentralized exchanges provide infrastructure for users to exchange tokens with each other without ever controlling those funds. Radar Relay and Paradex are examples of decentralized exchanges.
John (ShapeShift): It’s getting a lot better than it used to be, but it’s still at a very early stage for these decentralized exchanges. We are paying very close attention to technologies like atomic swaps and the lightning network. I’ve predicted to others before that I think ShapeShift will likely end up being one of, if not the largest users of those type of technologies as they continue to evolve. In what exact fashion that looks like, and how things evolve I’m not entirely sure yet, but to the degree that those things have benefits that they can add value to our service to our customers we’re going to want to implement them, and integrate them. If they can make things faster, easier, cheaper, like those are all things we’re very interested in, and we will continue to explore.
In terms of whether we actually evolve into a full-fledged decentralized exchange I’m not sure if we’ll ever get exactly there. We kind of have a philosophy that the main value we want to add is to be noncustodial and call it trustless as possible to the degree that you achieve that trustlessness in my opinion there are actually not every part of decentralization I would argue is an advantage. There’s a lot of problems decentralized exchanges are running into that we’re paying close attention to because when you try to “decentralize” all the things there are some things that are not as efficient that way, or far less efficient, particularly, things like unchained order matching. Some of the best decentralized exchanges out there are actually not doing any order matching on chain, and that’s all still being centralized, so in my opinion the exchanges of the future, and some of the stuff we’re working on, and I can’t go into too much detail because that starts to broach into some of our more undercover projects.
I would argue that the best exchanges of the future will be almost a hybrid between some version of getting that trustlessness that decentralization allows, but having the benefits of liquidity, and centralization at the same time for things that don’t require trust in other factors, so I’m always looking at what’s the best value we can add to our customers. We’re not necessarily looking to decentralize everything, but one thing that’s very close to our heart is that trustlessness. We want to be in a position where you can trust ShapeShift zero percent and use the product, and be very comfortable that it’s going to work, and not worry that anyone can ever run off with your money, or the entity can disappear, and that matters or any of those and that’s really where we’re focused.
Clay Collins: It seems like given the size of your business the fact that you have investors that a lot of people depend upon you pragmatism has to trump idealism in many cases.
John (ShapeShift): Yes.
Clay Collins: I want to step back here and reflect on what’s happening here. Between you and I like it seems very uncommon that, you know, for the most part other than maybe you guys, and some of the interviews that Erik has done, and Coinbase occasionally will send someone to do an interview, but by and large people who run and operate exchanges are not in the public eye. Is that for security reasons? Is that regulatory reasons? Like when you sort of survey this landscape why do you think that for the most part folks who run exchanges aren’t making themselves very visible?
John (ShapeShift): That’s a good question. I would say it’s probably primarily kind of paranoia and security reasons. We’re all dealing with large amounts of crypto. In ShapeShift’s case, at least, we have a lot less of that risk, again, because we don’t hold customer funds, and no point of ShapeShift holding millions, or hundreds of millions of dollars of customer money that turns into a honey pot like most of these exchanges. In some ways, we’re less worried about that than the average exchange because we don’t have that giant amount of customer funds, but most of these exchanges, you know, some of them things like Poloniex, Bittrex, Bitfinex they’re holding billions of dollars in customer deposits, especially during these rises.
The more someone knows about you and about your employees, and about where your location is, and all these various things the more it’s potentially going to be targeted by people trying to social engineer, or find a way into those systems to try to get at those crypto funds, so a lot of exchanges just kind of are aware of that fact, and know that they better not put out more than they should. That being said there are some exchanges that where the faces are more public like I know some of the Bitfinex folks get on Whaleclub, and some of these other podcasts and stuff relatively often and talk with people. I know Bill at Bitfinex is one of the common ones there, and, you know, Erik is certainly visible and out there in terms of ShapeShift and a few of us.
Some of our other executives and stuff will do interviews and things like that, but I think to some degree people are just being careful. I can’t really fault them for that. There’s a big target on a lot of these people backs. I don’t think it really has anything to do with regulatory reasons. Everyone is trying to deal with the regulatory issues directly, and with their various legal help. It’s much more to do with just that kind of general physical security policy in my opinion.
Clay Collins: When I kind of think about the potential NPS score in the aggregate for crypto exchanges they probably wouldn’t get the highest NPS scores, and part of that is due to just scaling issues. There’s a lot of fear, uncertainty and doubt being generated on Twitter around Bitfinex. People often are not saying the nicest things about Poloniex and other exchanges. For the most part do you think that’s deserved, or do you think that that’s just crypto Twitter in general, or is it scaling? What do you think in the aggregate crypto exchanges ,they’re not generally looked upon as being your friend? Hacks, what’s going on?
John (ShapeShift): I mean, the best advice anyone gives in the crypto space, and this kind of goes back to what we were talking about earlier in terms of ShapeShift’s philosophy is don’t have crypto in any large amount on keys you don’t control. The majority of these exchanges you’re depositing funds, you’re giving you’re handing over control of your keys to these other exchanges and then trading them around. The smart people might make a deposit, make the trades they need to and then pull it off, but most people are just leaving their funds on the exchange like it’s a wallet, and that inevitably has burned a lot of people over the last number of years. I’ve seen many exchanges come and go because they’ve gotten knocked over for one or various reasons, and a lot of people have lost a lot. That’s just created a general distrust around decentralized entities that are holding all these funds. Just like there’s distrust in the community around banks in some ways, you know, exchanges have become kind of the new crypto bank, and people distrust them as a result.o some degree that’s healthy. I also think there’s a lot of FUD out there, and people spreading stuff.
Clay Collins: Me, again, from the editor’s booth John just said FUD. FUD is a crypto slang acronym that means fear, uncertainty and doubt. Sorry if you already knew that.
John (ShapeShift): I see it all the time at ShapeShift of like an asset goes off for some technical reason, you know, like the node software starts having problems, and we instantly get Tweeted of like, “Oh, I was just about to make an exchange, and now the price is rising, so clearly ShapeShift’s just trying to profit off the fact and not let people trade.” The moment anything changes there’s always a conspiracy theory. I would say 99% of those conspiracy theories are ridiculous and overblown, and just clearly created by people looking from the outside in who have no idea what’s actually going on. That doesn’t mean that there’s nothing bad that happens, or that some of these things can’t be right, or that there isn’t some animosity among the exchanges sometimes, but at the same time most of it’s pretty overblown, and the exchanges themselves from my interactions have generally been relatively friendly to each other, and helpful to each other.
Clay Collins: Yo, it’s me, it’s actually very true that these exchanges seem to be really helping each other out. The other day when a number of exchanges were experiencing scaling issues, and customer support overwhelm I read a really nice love letter from ShapeShift to other exchanges in the form of a tweet. It said, quote, “From ShapeShift Support Team to Poloniex, Bitfinex, Binance, Bittrex, Exodus, Jaxx, CoinomiWallet. Thank you to all the support teams for your hard work. Sending all the love your way from the Fox Den.” This tweet was filled with all kinds of lovey emojis like you might see exchanged between two high school sweethearts. It made me chuckle.
John (ShapeShift): There’s kind of a comradery among all of us trying to build these things on the frontier, and not going after each other too hard.
Clay Collins: Yeah, that seems right. A number of exchanges aren’t event accepting new user registration so it does feel like the general consensus is that this market is big enough for all of us now let’s make sure we can keep the wheels on the train.
John (ShapeShift): Yeah, I definitely think there’s a sense of that. Most of the exchanges are pretty friendly. I’ve seen them work together on a number of different projects, or events that happened over time. Crypto Twitter in particular is sometimes not a very truthful or accurate place.
Clay Collins: A lot of the FUD that does emerge probably is a byproduct of custodianship, right? If someone has your funds and you can’t log in, or if there’s some kind of fork, and you’re wondering when you’re going to get access to your coins. There’s just so much insecurity that comes from not directly possessing what you own.
John (ShapeShift): An important point of that is just that, you know, when you’re dealing with someone’s value I don’t think money is the right term because there’s all these various digital assets of different types of value, but when you’re dealing with someone’s value it becomes very emotional. If they feel like they can’t access those things, or the sign-in goes down for a period of time, or it’s slow it’s like you’re keeping their value from them, and we see this at ShapeShift all the time of, the one customer who sent in three Dogecoin below the limit gets so angry at us to return their Dogecoin right now, and then the guy who accidentally sent us $100,00 worth of some token is very, very polite.
Clay Collins: I found that in the past in running businesses that people who pay you the most generally complain the least, and the people who pay the least can sometimes complain the most. That has to do a lot with their status as beginners and just a lot of their self-conscious, and they’re getting to know the space for the first time.
John (ShapeShift): Yeah, 100%.
Clay Collins: Let’s talk a little bit about operations. How does running a noncustodial exchange differ from running a custodial exchange? I imagine you guys are some of the biggest market makers on other people’s exchanges. I imagine being a noncustodial exchange that you use the blockchains of these various projects more than others. What is it like operationally running a noncustodial exchange?
John (ShapeShift): There are some key differences, and you hit upon a couple of them. The major one, obviously, is that we don’t have to worry about holding customer funds, so we don’t have to worry about this customer’s funds are here or this are here. We don’t have to account for any of that in the entire account system that a normal exchange does. That is a big advantage to us. A disadvantage, though, is that with the way our model works we have to hold an inventory of all the various assets that people might want to trade, so when someone trades their Bitcoin for Litecoin we need to have that Litecoin ready to deliver to them right away if we want to offer a good UX. A difficult thing that ShapeShift has to do that a normal order book exchange does not have to do is just the managing of all of this inventory, and balancing between our hot wallets, and the various exchanges that we do use to just keep replenishing and making sure that we keep our inventories high enough to keep up with demand and liquidity.
That is a very simple way to put it, but that is a big team effort operation at ShapeShift both with robots and people all the time just trying to keep a handle on all of that and making sure that we’re sourcing enough liquidity at all times. That’s one of the most difficult parts of ShapeShift. The other difficult part of ShapeShift is that we do do everything on chain, so, yes, we stress the actual blockchain networks, and the Node software a lot more than your average exchange because they can do all their trades offline, and then just settle up as needed.
Every trade we do is also a settlement. That causes a number of problems. When a normal order book exchange has an issue they might just shut off deposits. They might say, “Okay, the Ethereum network is having issues. We’re just going to shut off deposits and withdrawals for now, and let people trade who already have Ethereum on the exchange.” We can’t do that, you know, if we turn off a coin that means the market’s off too. We can’t let people trade, and not allow deposits and withdrawals. It’s all tied together for us.
Clay Collins: Hey, it’s me, I can’t help myself. I have to explain this. There are lots of meanings to the word market, but for an exchange the word market has a very specific meaning. A market is a trading pair. The Bitcoin to Litecoin trading pair, for example, is what’s known as a market. Take it away, John.
John (ShapeShift): That is far more difficult than what some order book exchanges have to deal with, and the fact that you know every single trade is two blockchain reactions on two different blockchains generally. Sometimes the same if someone’s going from Ethereum to ERC-20, but you’re dealing with two blockchain transactions for every single transaction that matches adds a whole stress level to the network that most exchanges don’t have to see. I like to say a lot of times that ShapeShift is the crypto canary in the coal mine because we tend to see issues with the node software well before other exchanges. It’s been pretty common over the years of like we see an issue in the software we tell the other exchanges to see if any of them are having the issue and they’re like, “No, we’re not seeing it,” and give it 24, 48 hours, and they’ll all start seeing it. We tend to see things before other people do.
Clay Collins: The Bitcoin scaling debates, and what’s happening with the fee markets is like a very real thing to you.
John (ShapeShift): Yeah, it affects our business on a daily basis. Some days the fees are really high, and it affects our customers, and they get all angry and don’t understand why we’re having to pay miners deliver their transactions, and it also just creates congestion on the network, and things take a lot longer than they normally would, so it affects us all the time.
Clay Collins One thing that seems pretty savvy and helpful that you folks have done with ShapeShift is what I might call the exchange Domino’s Pizza Tracker. Essentially when you place an order you can kind of track and see if the coins have been received that you sent in, and that’s something happening, and then you’re about to receive them, and it sort of reports on the status of the transaction in real time. Is that something that you guys had from day one, and has that cut down on support tickets? Is that the thing that’s been helpful because it seems really like a smart thing to have done?
John (ShapeShift): Yeah, so that’s actually been in the product since the original prototype. It was one of the first things we did when we created the product is we always wanted to have this focus on UX, and giving the user feedback so that they could feel like they knew what was happening, so that’s been there for a while. It’s evolved a couple of times. We probably changed the wording on things. We might have added or deleted a step a couple times to try to make it more obvious to users what actually is happening.
It definitely does cut down on some support, but it’s hard. It depends on the network conditions. In some ways, the first step in our ticker process there will be called pending confirmation. That means we’ve seen your deposit, and we’re waiting for it to get a confirm on the network before we send you whatever asset you’re buying, but, of course, when Bitcoin network congestion is really bad and someone’s sent with their miner fee they can go crazy over the fact that it’s sitting on that step for hours because they’re not getting a confirmation, and then that just creates a support ticket anyway, so it’s hard to say if it always helps support, but I do think it’s a nice feature that gives the user a little feedback.
Clay Collins: That just strikes me as another example of something you guys have to do as a noncustodial exchange. What do you think custodial exchanges envy about your business, and what do you envy about their business?
John (ShapeShift): I know for a fact the number one thing they envy is just not holding customer funds. That helps us all at ShapeShift sleep better at night, and I’m sure it’s something that keeps up any rational of these other centralized exchanges who are holding customer funds is that’s just their biggest liability. At any time they could be hacked for hundreds of millions, or billions of value that must be very scary, and it causes all sorts of infrastructure problems that they have to deal with to maintain those level of funds to make them accessible, and make that whole thing work. What we’re probably most envious of is kind of that feature I talked about earlier that ability to just shut off a coin because the network is having issues and keep trading going we just don’t have that ability.
Clay Collins: Does it mean you’re not making money when you shut down deposits and withdrawals?
John (ShapeShift): Yeah, we have to turn off the faucet in those cases, and to some degree that’s okay, but it is definitely a downside of our models. We really rely and depend on these blockchain networks working well and they don’t always work well.
Clay Collins: I know in traditional exchanges there is this maker-taker rebate scheme the takers pay a small fee on every transaction, and that fee is given partly to the exchange, and partly to the market maker as a way to incentivize market makers. I’m not sure if something similar happens in crypto exchange. It certainly wouldn’t on ShapeShift, but I’m wondering do you guys have somewhat of a privileged position within other exchanges? I imagine that other exchanges probably see you guys as a great provider of liquidity, and might do things like offer lower fees, or maybe more direct access to the platform, or a phone number you can call? Do you get any privileged positions like that?
John (ShapeShift): Yeah, we definitely have good contact, and relationships with the exchanges that we work with, and I would say that most of the other order book exchanges in the space at least if they’re viewing things correctly don’t really view us as competition. They view us as partners because you’re right we are for the right partners we’re sending them a lot of volume. We’re basically just making these other exchanges money as we run our service and most of them appreciate that, and are willing to work with us on things that we might need. I wouldn’t say that we get like above and beyond any special treatment that any other high value customer at an exchange doesn’t get, but we’re certainly treated as I would say upper percentile customer just because of the amount of volume we’re doing everyday.
Clay Collins: Let’s talk about Prism for a little bit because it seems like a fascinating, and innovative product. I know there are a number of crypto index funds that have been started. There’s the Hold 10 from Bitwise. I know CoVenture has an index fund, so there is kind of this emergence of the crypto index fund, and what you guys have created, you know, allows people to essentially create their own index fund. Can you tell us a little bit about what led you to create Prism, and a little bit about the origin story behind that product?
John (ShapeShift): Prism was actually an idea of another friend of ShapeShift that we’ve kind of contracted with, and worked with a guy named Adam who kind of came with us with this concept a couple of years ago, and basically had this idea of these call it, portfolio based smart contracts built on Ethereum. We thought the idea was really cool. It fit within our philosophy of what I’ve been espousing, this kind of noncustodial model. In fact, it was even a little better than current ShapeShift, and that once the contract is locked up we really just don’t have control over it. It’s all entirely on the user, and we really liked that facet of it, and we really liked this idea of giving people a way to get exposure to assets without having to manage a flurry of private keys, so Prism basically set out to solve a number of problems, but two big ones.
One was users keeping all sorts of different funds on an exchange in which case they’re taking that centralized counterparty risk because they have 15 different coins that they have sitting on Poloniex, or whatever other exchange, or, alternatively, they were having to, you know, run 30 different Node softwares to keep all their various assets all of them in varying states of disarray trying to sync them all, and that in and of itself was a nightmare, so we kind of wanted to create something in between those where you only needed to secure one private key. You didn’t need to run a node or anything like that, and you didn’t need to have the centralized counterparty risk, and you could still get exposure to a diversity of crypto assets.
Clay Collins: I love that, yeah.
John (ShapeShift): Prism has kind of split that horn very well.
Clay Collins: Prism essentially allows you guys to offer people a whole bunch of different tokens without requiring them to go and download all these various crazy wallet softwares from GitHub, or wherever they got to get them, so you can offer these products, and it sounds to me if you guys in Prism where to just sort of vanish overnight it would be kind of a pain in the ass, but people would still have their smart contracts, and would still have control over what’s happening with Prism. Is that correct or not quite?
John (ShapeShift): No, 100%, yeah, ShapeShift as a company could disappear tomorrow, and if you have a Prism on chain it doesn’t matter.
Clay Collins: Cutting in here from the booth again. Prism is both the name of ShapeShift’s DIY hedge fund product, but it’s also the name of a smart contract object you create with their Prism product. Let’s say you use Prism to create a fund object that tracks the performance of Bitcoin, Ethereum and Ripple, a third of the value of that fund being allocated to each. That fund object is called the Prism. Back to John.
John (ShapeShift): It will also work and you’ll still be able to withdraw and get your funds out of it. It’s not even particularly complicated. It’s as simple as just sending a zero F transaction to the contract address, and you get all your funds back just like that you cash it out. We don’t even need to be around for that.
Clay Collins: How does that work under the hood like it seems really interesting that you can offer people the ability to sort of cash out on their gains on a number of different tokens whose giving them that money, you know, like if I put in 10 ETH, and my thing goes up 300% and I cash out, and you guys aren’t around how does that work?
John (ShapeShift): The way it works is at the time of creation ShapeShift, eventually this might be other liquidity providers as we open it up, but right now ShapeShift just matches that amount of collateral that you put into the Prism contract. If you’re going to create a 10 ETH Prism ShapeShift puts up 10 ETH at the time of contract creation there was already 20 ETH sitting in that contract by the time it’s deployed on chain and it starts, so at T-zero, right when the contract starts it already has it’s fully collateralized to 100%.
It doesn’t matter if we’re still around or not because the ETH is already in there, so if your portfolio went up 50% and you cash out then you’re just taking five of the 10 ETH that we put up, and then it’s on us to make sure that if we want to take a position that’s neutral on whether that portfolio will go up or down as we tend to for ourselves we just hedge that elsewhere. We’re just basically taking a position of we’re not trying to make money one way or another we’re just putting up the capital, and we end up position neutral if we hedge it correctly, and then it doesn’t matter to us, but for the user by the time it’s fully collateralized on chain it doesn’t matter whether we hedge or not in the background. There’s no way for us to pull that ETH out without their consent.
Clay Collins: Can you share a little bit more about operationally how you ETH other side of that contract in a way that allows you to not lose money? I find this really fascinating.
John (ShapeShift): At a very basic level let’s say you create a portfolio that’s 50% Bitcoin and 50% Litecoin, and you put up some, 10 ETH worth that means it’s X amount of Bitcoin worth at the time you purchase it, and X amount of Litecoin whatever those actual absolute numbers are. What we’re doing is we’re putting up the 10 ETH to collateralize it so it will allow for your gains in your portfolio or loss, and at the same time we just buy an equivalent amount, so if we buy that same amount of Bitcoin, and buy that same amount of Litecoin and just hold it if the price goes up and we lose our Ethereum we’ve made the same amount of value by holding the asset to the point where it’s just a wash. Similarly, if the value goes down and we lose money on the value of that asset then we’re getting more Ethereum and again it’s a wash.
Clay Collins: Can you tell us a little bit more about the product offering? It sounds like it only goes up to 100%. What are the fees? Does the contract expire at some point, or is it required to expire? What are the restrictions? Is there complete anonymity? What are some of the fundamentals of that offering?
John (ShapeShift): Right now Prism’s still in closed beta, so for the moment you still have to sign up, and we have to invite you. We’ve been inviting more and more people in. There’s quite a few people in the closed beta now, but it’s not officially open to the public yet. One of the things we do as part of the closed beta is we limit the amount of ETH that Prism could be created with, so right now that is limited at 10 ETH. At the time we created that that was only two or three thousand dollars. Now it’s quite a bit more, but it’s at least limited on that side, and we essentially just try to always make sure that we’re offering assets that the user actually wants, and they want to create, and more or less Prism is there to allow closed beta users to use. Eventually we will open that up to the public, but right now it’s kind of locked down, and you have to sign up for it.
On the fee section right now during closed beta we actually aren’t charging any fees, so right now it’s free to use. In the future we will charge some sort of closing fee which will be some sort of percentage of the transaction when it’s actually open. There is gas fee, that’s actually probably the most significant fee right now is just the amount of gas required to deploy the contract on chain, and that’s kind of just a set number of ETH. Then on top of that eventually we might have some sort of call it market fee based on how much demand there actually is in the market right now. For example, if there’s a bunch of people looking to buy Prisms, but not many people are willing to take the other side to sell them then there should be some sort of percentage fee that encourages that capital to come onto the market, and similarly if there’s too many sellers, and not enough buyers than that percentage fee should swing the other direction to the buyers, but the goal is to always have some sort of market based mechanism to encourage enough capital to always be on the market to meet demand.
Clay Collins: It seems to me like you could do a bunch of fascinating things with this. I love how when you log in you can see the top performing portfolios and how they’re operating. I imagine you could do something where someone could charge some percentage of gains in order to follow them, or I imagine at some point each of these smart contracts could be something that others could invest in potentially. Are those things possibly on the roadmap for the future?
John (ShapeShift): Prism actually already has the functionality to create a Prism and allow other people to follow them, and then you automatically rebalance along with whoever is managing that one that you’re following, and all of that which is really cool, and we do have a mechanism built in there to allow those people who are trying to gain followers to actually receive some sort of value or fees for getting all those followers, so it already kind of has that functionality built in. We’ll kind of keep iterating in terms of what that fee structure should look like as we work with people in the community, but it has that functionality built in to allow anyone to be their own hedge fund manager more or less and attract people if you’re really good at what you do, you know, it doesn’t matter if you’re in Zimbabwe somewhere as long as you’ve got an internet connection, and you can connect to the Ethereum blockchain you can do this stuff.
Clay Collins: What about the ability to purchase tokens of someone’s smart contract? Is that something you could even do right now?
John (ShapeShift): Yeah, that’s honestly already possible. If you created a Prism you could totally create a token tied to your Prism, and try to sell it to people if you wanted to. It’s not something we’re doing, or focusing on at the moment, but I do think there will be a lot of experimentation along those lines over the next six to 12 months. I’ve actually talked with a couple different projects who are interested in doing that with Prism, and I think we will see that in the future that you might see some very large Prisms created that are just tokenized and people buy, a token that’s equivalent to a portion of that Prism. It’s actually relatively already easy to do it. All it requires is wrapping a token contract around an existing Prism. It’s not particularly hard, and someone could even do it without our… they don’t actually need us to do that.
Clay Collins: This is just an infinitely fascinating project.
John (ShapeShift): Thank you. The main blocker is probably on the regulatory and legal side, so Prism just recently went through, hopefully, it’s final security audit before open beta, and we’re fixing a few things that came up in that audit. Nothing major, but some things we want to tighten up. Once that is done it will be pretty close to technically ready for open beta, and we’re just going to be waiting for our legal department to finish looking at everything, and give us the go ahead to kind of open up to the world, but I’m hoping that happens certainly by Q2 of this year, maybe sooner if we’re lucky.
Clay Collins: My final question here is something that I ask everyone. Would you be doing what you’re doing now, or whatever the analogy is in the traditional finance world if it weren’t for Bitcoin would you be running an exchange if Satoshi Nakamoto had not written the Bitcoin white paper?
John (ShapeShift): Oh, not a chance, not a chance. It was only crypto for me personally that ever truly got me interested in finance. I was always interested in financial concepts, and in economics and incentives, and the philosophical and technological underpinnings of things, but I was always focused, more on the technology side building interesting applications, and for a long time anyone who was doing web development, or anything like the worst thing to deal with was always dealing with, banking integrations and payments.
All that stuff was always the most cumbersome worst stuff to deal with technology wise. It always kind of sucked quite honestly, and then Bitcoin came around and made this stuff not only a lot easier technologically, but just way better, more interesting, and gave you so many more capabilities, and you didn’t have to ask permission of some bank to integrate their payment provider, and all these things and that just made things so much more infinitely fascinating to me that I became much more interested in all these concepts. That kind of led down the road to creating ShapeShift, but I would have to say without Bitcoin, no, there’s no way I would be doing this. I’d probably be still just focused mostly on various other types of software engineering.
Clay Collins: I love how permissionless innovation has enrolled several new generations of technologists into this broken financial world who are then reinventing it from the ground up, so thanks for everything that you’ve done for all of us. Thank you, John, thanks for being on the show, and thanks for saying yes.
John (ShapeShift): Thank you for having me.