Polygon has been a market laggard over the last year because of supply overhangs, a perceived lack of focus in its roadmap, flopped product launches in mid 2023, and large BD expenditures on acquisitions and partnerships using its native token. It’s poor market performance has caused the market to develop a perception that Polygon is cursed and has been left for dead.
However we believe that the negative sentiment around Polygon is coming to an inflection point ahead of its AggLayer Mainnet launch next week. Polygon’s diverse array of experiments across the blockchain stack has coalesced into a unified and well defined vision for scaling Ethereum with a network of ZK rollups that the market is severely under-appreciating.
We think that MATIC has a high chance to get rerated for the following reasons:
Polygon is shaping up to be the dominant ZK ecosystem
MATIC → POL transition in Q2
POL stakers to receive airdrops from new L2s on Polygon similar to Celestia
POL can be restaked for yield from new L2s on Polygon similar to Eigenlayer
Poor sentiment and low market positioning means low downside
ZK Narrative
(Skip this part if you don’t really care about the tech narrative, it’s kinda long)
ZK will be one of the dominant liquid market narratives this cycle and will attract significant capital inflows from altcoin allocators. In his blog post on Ethereum scaling, Vitalik stated that he believed that ZK would win out on almost use cases in the long term [4] .
Why does ZK matter?
Ed Felten of Arbitrum described the topic quite well in his blog [2]. Optimistic rollups will likely be superior in most use cases for the next two years due the simplicity of its architecture . However, the one use case that ZK will excel is in cross-chain communication.
In the current state of Optimistic Rollups, transactions are presumed valid by default unless contested through fraud proofs within a specified timeframe (currently 7 days). This introduces a delay of 7 days when bridging from the rollup to the Ethereum L1 and adds complexity to the challenge of achieving cross-chain interoperability.
ZK rollups use validity proofs which can be very quickly verified on-chain. This enables cross chain communication because all batches are final and attempts to solve the liquidity fragmentation problem arising from modular architectures.
As ZK technology improves, the endgame is a seamless unification of cross-chain liquidity. What this looks like is being able to bridge across ZK chains, execute orders on a dex aggregator spanning liquidity pools across different ZK chains, or engage in cross-chain lending and borrowing between different protocols on different chains, all in a single atomic transaction.
Modular architecture allows for each project to fine-tune its own blockchain to its specifications, ensuring sovereignty, and providing a market valuation boost to its token without fragmenting liquidity or sacrificing composability.
A modular utopia.
Why does Polygon look likely to be the dominant ZK ecosystem?
Despite having seemed to have worked on every narrative under the sun for the past two years, Polygon has unified a lot of the tech it has built into a cohesive vision for scaling Ethereum using ZK technology.
We’ve established earlier that the ZK experience is an improvement on the Optimistic experience only if cross chain messaging enables novel use cases from superior network effects.
One important point is that ZK L2s can only communicate with each other if they use the same ZK proving standards. This means every incremental project a ZK ecosystem onboards adds to the network effects of its ecosystem.
Polygon has spent a staggering amount of resources acquiring projects to build zkEVM L2s on them, putting serious pressure on its token price. However, we believe that these sacrifices will start paying dividends in the form of a massive first mover advantage in network effects for the Polygon ZK ecosystem. Notable projects building on Polygon are Immutable, OKX chain, Dogechain and Canto.
Furthermore, once Polygon upgrades it’s main POS stake chain into a zkEVM Validium in Q2, all L2s built on Polygon will be able to access the liquidity and ecosystem that Polygon has been fostering for the past four years, a luxury that the ZK ecosystems launching this year will not have.
For comparison, StarkEx’s ecosystem which is looking to launch at a 18B FDV looks like below. dYDX has moved off of Starknet, and so has Immutable. In a recent blog post, Immutable explains why it moved off of StarkEx and onto Polygon’s zkEVM. Despite the relatively bare ecosystems of its competitors, we think that 10-20B valuations these other ZK ecosystems will likely command are not expensive given how essential they are to the Ethereum scaling endgame.
Polygon’s AggLayer launches on February 23rd.
Tokenomics Improvements
Polygon is undergoing a significant transformation with its Polygon 2.0 initiative, including a migration of its native token from MATIC to POL in Q2 [6].
Under the new tokenomics, POL will play a pivotal role in securing the AggLayer and generate fees from the extensive network of zkEVM chains paying for cross chain communication.
POL stakers will have the opportunity to restake their tokens and earn yield. In return, providing a battle-tested validator cluster for new zkEVM L2s looking to bootstrap their consensus.
Lastly, POL stakers will likely get airdrops from new projects launching zkEVM L2s.
One interesting thing to me was how the market rated $DYM at 8B FDV mainly speculating on the Avail airdrop that will likely get announced next week, but are completely discounting the possibility that Avail airdrops to MATIC stakers, especially given that Avail was spun out of Polygon and the Avail founder was one of the three original cofounders of Polygon. Interesting.
Market Dynamics
MATIC has underperformed in comparison to other Layer 1 (L1) counterparts over the past year. This can be attributed to costly acquisitions of ZK technology using their native token, such as Mir (400mm) and Hermez (200mm) in 2021. The subsequent unlocking and sale of these tokens in the market, along with its BD incentives likely being sold, have further contributed to the downward pressure on the token price.
Additionally, the liquidations from Celsius, Voyager, and FTX, which created significant supply overhangs and have dislocated the token. The Coinbase SEC case against an array of altcoins in June 2023 and the subsequent delisting on Robinhood had a substantial impact on Polygon that it never fully recovered from unlike its peers like Solana and Cardano. Many in the community have sold their MATIC tokens and abandoned the ecosystem as the MATICETH ratio is hovering around three-year lows. Quite frankly, the whole damn town has jeeted MATIC.
The MATIC token, with its fully diluted status and relatively thick liquidity, encounters obstacles in building narrative momentum given the substantial capital required to overcome its activation energy. Despite Polygon's vision being somewhat overlooked by the market thus far, we are optimistic that the current circumstances mark an inflection point and present a notable opportunity for recovery. Its fully diluted status flips into a considerable boon once demand has been ignited.
Relative to it’s comps, MATIC at 9B seems quite attractive. The STRK launch and subsequent ZK ecosystem launches in zkSync, Linea, and Scroll will likely aid in rerating MATIC higher.
This situation presents a substantial upside potential for the MATIC token. With a short-term target of 15B FDV to get it back reasonably in-line with its relative comps and a longer-term target of 30B assuming they win the ZK war.
Polygon is ETH beta but you wouldn’t blv it
Sources
[2] https://medium.com/offchainlabs/why-im-still-optimistic-about-optimistic-41376367d4f9
[3] https://docs.polygon.technology/learn/agglayer/#aggregation-in-zk-vs-or-systems
[4] https://vitalik.eth.limo/general/2021/01/05/rollup.html
[6] https://polygon.technology/blog/polygon-2-0-protocol-vision-and-architecture
Ah here we go... it is finally beginning : )
Cheers
High convinction play