The Pomp Podcast - #647 Understanding Decentralized Exchanges w/ Peng Zhong

Episode Date: August 29, 2021

Peng Zhong is the CEO & President at Tendermint. In this conversation, we discuss decentralization, centralized infrastructure, the pros and cons of decentralized exchanges, and what to expect as more users move into decentralized products.  ======================= Do you have a business idea you’ve been dreaming about, but don’t know how to actually start building it? Use Bubble’s drag-and-drop tool to develop custom, interactive, multi-user web apps in hours. Go to Bubble.io to build, launch, and scale real ideas and products without engineers or code! Bubble is the go-to no-code platform for over 1 million builders, and has recently closed a $100M funding round to continue supporting startups like yours, from MVP to IPO. Go to Bubble.io/pomp and the first 500 listeners will get their first month free on any of Bubble’s paid plans.  ======================= Okcoin is one of the most popular licensed exchanges. Okcoin is the first to bring new cryptos to market, offering some of the lowest fees in the industry, an easy to use app, and Earn feature--you got to check out their brand new, beautifully designed app! And as of today, they also became the first US exchange to list NEAR. It’s easier than ever to sign up, buy and trade crypto in just 2 minutes on Okcoin with credit & debit cards or just link your bank account to the best new crypto assets. So get started, and go to okcoin.com/pomp =======================

What's up, everyone? This is Anthony Pompliano. Most of you know me as Pomp. You're listening to the Pomp Podcast, simply the best podcast out there. Now let's kick this thing off. Peng Zong is a CEO and President at Tendermint. In this conversation, we discuss decentralization, centralized infrastructure, the pros and cons of decentralized exchanges, and what to expect as more users move into decentralized products. I really enjoyed this conversation with Pung, and I hope you do as well. Before we get into this episode, though, I want to quickly talk about our sponsors. First up is Bubble. Do you have a business idea you've been dreaming about, but don't know how to actually start building it? Use Bubble's drag

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And as of today, they also have a number of assets that no one else has. It's easier than ever to sign up, buy and trade crypto in just two minutes on OKCoin. You can use credit or debit cards, or you can just link your bank account to the best new crypto assets. So to get started, go to okcoin.com slash pomp. Again, okcoin.com slash pomp. I've had a number of people from their team on the podcast before. They continue to support Bitcoin developers,

and I'm generally a big fan of the philosophical approach they take to the market. So go to okcoin.com slash pomp today and let me know what you think. okcoin.com slash pomp. All right, let's get in this episode with Pong. I hope you enjoy this one. Anthony Pompliano runs Pomp Investments. All views of him and the guests on his podcast are solely their opinions and do not reflect the opinions of Pomp Investments. You should not treat any opinion expressed by Pomp or his guests as a specific inducement to make a particular

investment or follow a particular strategy, but only as an expression of his personal opinion. This podcast is for informational purposes only. All right, guys, I've got Pong here with me. Thank you so much for doing this. Very happy to be here. Absolutely. Let's jump right in. I want to spend a lot of time today talking about centralized versus decentralized exchanges and kind of the pros and cons. So maybe if you can give us a couple of minute background on yourself and like the perspective that you're coming at this with, that'll help people just have that background. Sure. So I got into crypto almost a decade ago. I started hearing about Bitcoin on Hacker News when it was around one dollar i think around that time and uh you know like like everyone else there

were not very many exchanges available at the time so um i used mount gox like like a lot of people and um mount gox was hacked right and for a long time no one knew about it it was being you know it was operating as usual but you weren't able to withdraw um a lot of your assets or maybe your withdrawals were delayed for a long time. And at some point, you know, the news broke that, you know, Mt. Gox was hacked. It was operating as a, you know, as an exchange that didn't have all the assets it should have. And that was a big deal. And that, when was it that happened? Was that 2013 or so? Do you remember? Yeah, it was. Luckily, I didn't have my Bitcoin on there at the time. I withdrew it, I think, a couple of months

earlier. So that didn't affect me personally. But, you know, the fear of centralized exchanges getting hacked has been you know something i've thought about a lot for over the past few years and you know over and over again sometimes exchanges continue to get hacked and you know it is very convenient to be able to exchange your tokens you know for fiat or other tokens on centralized exchanges but at the end of the day they're all centralized points of failure and it's you know always worth if you can keeping your assets uh yourself considering those assets yourself. And so when you think about the centralized exchanges, they seem to have risen in popularity. Most of the institutions that are coming into the market are using them.

They have kind of the mental energy and kind of brain focus of the retail consumers to start with. Is that a necessary part of the evolution of this? Like, do we need people to come in to use centralized exchanges first? And then you think that they'll eventually transition and And some people will use decentralized exchanges as well. Or is that a misstep by the industry in that we should have not even built the centralized ones. We should have went right to decentralized ones. I think that it was natural, I think,

for centralized exchanges to become as popular as they are today. There's just so much you can do in terms of user experience as a centralized company, a centralized entity. And there's so much you can do by custodying assets that one cool feature is, I think I've heard of on Binance is the ability for you to turn all of your dust, all of your tiny bits of tokens that are not worth anything, and just smash it into a fiat currency or something

to let you withdraw. That's something that's really a little bit annoying to do, especially on Ethereum, with transaction fees being the way they are. If you have $5 here, $10 there, this or that token, that's essentially just useless to you that you can't do anything with. So, yeah, custodying tokens and making that experience as easy as possible, and not to even speak of, you know, onboarding via fiat, right? That's one problem that I don't think any decentralized exchange has managed to be able to solve, all requires centralization. So when you start to think through decentralized exchanges, what are the pros and cons of these things, right? Obviously, everyone knows that they're becoming much more popular, but how do you evaluate what are they better at than centralized exchanges and what are maybe those trade-offs or the

downsides potentially? So I like to start off with the trade-offs, the downsides first, because that's probably what anyone faces with when they care about DEXs and want to try, let's say, Uniswap. So a few years ago when I started using Uniswap, it took me a while to actually use it. It took me a while to be convinced that it's worth using. And that's because I had to install MetaMask first. And I don't know what MetaMask is or how it works. Up until that point,

I was more comfortable keeping my tokens on a hardware device like a Ledger. I didn't even realize that MetaMask allowed you to use Ledger through MetaMask. So you weren't keeping your tokens, let's say, stored in the metadata of your browser extension, which is something I was worried about. So there's a lot of concern

um, over learning new tools, you know, before you can use a DEX. And that's something I experienced personally. And this is, you know, I've been working here at Tendermint for like seven years now, you know, I've been in this company since 2015, and this is something that I struggled with. So the user experience of, you know, DEXs and DeFi is still really bad. And there's a lot of are going to improve on that so that's the biggest downside user experience the advantages though are you know decentralization uh it's really core to the philosophy of crypto that you know anything that you value should be secured in a decentralized way and that's exactly what dexes provide you know they allow for larger amounts of people larger amounts of community to to secure

your assets to secure your exchanges and they have a very hard time going down you know as we've seen with bitcoin you know it's never gone down once since its existence and that's possible with exchanges that are built today on decentralized networks when you think through uh kind of technical underpinnings of these decentralized exchanges i think that uh there's a bunch of debate as to where they're going to be built um and kind of where they'll be adopted maybe not not so much like the tribalism aspect of it, but just like what are the considerations from a technical standpoint?

What's important from a technical standpoint on a DEX and then what is not? Yeah, so most DEXs, the vast majority of DEXs, you know, up until today, the midpoint of 2021, have only operated within one blockchain ecosystem, right? I'm just going to point out Ethereum again here. You know, any DEX on Ethereum is great at trading assets on Ethereum.

Of course, the vast majority of them can also trade wrapped Bitcoin, right? when you bring Bitcoin in over a bridge, but for the most part, you know, anything beyond bridging Bitcoin to Ethereum is very, very much, you know, early adopter territory, very dangerous, you know, early adopter territory. So that's where, you know, the next innovation is coming. That's where the focus should be for DEXs in general. It should be about, you know, building,

auditing and verifying cross-chain bridges and ensuring that you can, you know, replace more of a centralized exchanges functionality. right for the longest time on centralized exchanges you can do things like swap bitcoin for you know bitcoin classic or you know any of the tokens have existed for many years now uh like ethereum for for dogecoin or something but that's really really hard to do right now with dexes and so that's what we've been working on here at tenderman as well um we've been working on cosmos the idea of the internet of blockchains what is that right so cosmos is a philosophy but it's also a number of products.

So the main idea of Cosmos is that all chains that can be bridged together should be bridged together. And we believe in a world where you should be able to access your tokens and transfer your tokens across all interconnected chains at will, permissionlessly, without having to go through a centralized exchange. So that's been our aim since 2016.

when the white paper was created so the white paper was drafted in 2016 uh with our former ceo jay kwan ethan buckman and uh they you know started creating noise around this idea and in 2017 the interchange foundation raised some money to create the first cosmos blockchain called the cosmos hub um they raised roughly 17 million dollars over the course of 30 minutes uh and really sort of came before the large wave of icos in 2017 um it was deliberately capped at a very low amount raised i think some of the projects in 2017 ended up raising hundreds of millions um but because we raised um in btc and each um those those amounts have increased you know rapidly since then and the icf right now has a very large treasury to continue funding development of cosmos

Got it. And so when you think through building out a DEX, walk us through kind of where you are, what this timeline looks like, and what you've launched so far. Yeah, so the launch of Cosmos, the blockchain that was fundraised in 2017, happened a couple of years later in early 2019. So the blockchain as of now has been running for over two years. We've upgraded it five times, I believe. and the latest upgrade in March of this year. Okay, there were two upgrades this year. The earlier one this year enabled cross-chain token transfers for the first time ever.

And the second upgrade, which happened last month, added the DEX on top of it. So as of mid-August, there are currently, I believe, nine blockchains with the IBC protocol enabled. So the IBC protocol is an open-source protocol similar to TCP IP that allows proof-of-stake blockchains to send tokens between each other. So as of right now, there's roughly eight blockchains with that enabled, and the DEX on top of the Cosmos Hub allows you

to swap and liquidity provide with all eight of these blockchains. And so today, I think that you have the underpinnings created and also the interface. Describe the difference from a technical architecture standpoint between like the underlines of a dex and then what the ui difference is i think we saw this at one point where uh uniswap for example went out and they actually the front end interface made decisions to delist some stuff but people could still access the back end and kind of how those two things interact with each other yeah so the dex on the cosmos hub is called gravity dex and it's It's a tool that you can use on the command line, right?

Unfortunately, not many people know how to use a command line. In fact, over the course of the last month since it was released, I think we've had less than 10 people use this DEX successfully. You know, CLI users are just such a small minority. So what the UI does, the one that we've launched yesterday called Emerus, is it should, you know, greatly increase the number of people who can use this DEX, to use this cross-chain DEX. When you think about the idea of interoperability,

that's something that has become very, very popular. We've seen some challenges there. There was a recent Poly Network hack, et cetera. Talk a little bit about, you know, maybe the state of interoperability today. Where are we making progress? And then where is maybe people should be a little bit more cautious or slow down a little bit?

Yeah, I think people who are investigating and trying out cross-chain technologies should be very careful. This is very early stage technology. There are a lot of projects that say they're creating or adopting or launching a cross-chain bridge that hasn't had enough sort of rigor

and auditing put into it. One big difference with what Cosmos has been doing is we've been working on this stuff for five years, sort of quietly in the background. Cross-chain has been our focus for a long time.

and it's taken us a long time to build something that's capable of being able to you know transfer billions of dollars worth of assets across chains and also keep them secure um you know with the holly network hack you know luckily the the hacker returned all 600 million i think usd worth of the hack back to the network but it really underlines the idea that you know So bugs are very problematic in a cross-chain world because the moment you send tokens to another chain, in many cases, in most cases, you lose control of those tokens on the original chain, right? So almost anything can happen to them at that point. And one thing to be aware of with any cross-chain technology is that if you're trying to send assets to a network that has low amounts of security, right? So what does low security mean?

It can mean either the number of miners or validators in the network is very small, so it's fairly centralized, or just the value that's secured by the network is very low, let's say in the tens of millions or so. You should be very careful because you're giving them control to the assets that you're sending over, right? So if you don't believe in this set of validators or this set of miners, then you shouldn't be using the bridge at all, because at that point, they're holding onto it for you. got it and so when you start to think about um kind of where this is all going is it in our

interoperable world inevitable is there just going to be one chain to rule them all uh somewhere in between like how do you think about kind of what the end state is yeah so i'm a multi-chain maximalist i think that there will be many blockchains and you know every blockchain will have its own purpose right and many of those purposes might be exactly the same right and we'll see over time the winners emerge and losers sort of disappear there's even a future where you know one or two or three blockchains take up you know 99% of all traffic in crypto but there will always be a place for other blockchains and you know I think of the biggest reasons is environmental and sustainably sustainable reasons there are just

some activities you can do on a blockchain that doesn't require it to be you know validated or broadcast across the entire world um you know specialized industries that want to keep account of this thing or the other thing you know um anytime you have like a group of people maybe spread around the world who want to focus on one idea or the other they can build a blockchain for that and they can you know secure what they need to know with an untrusted group of validators but maybe that doesn't need to be shared with the entire world right so there'll be a world you know with many blockchains doing different things and maybe they're not very valuable but those will all exist and they'll probably transact with some of the bigger networks

maybe every week or every month as needed to settle balances how do you think about users for the various centralized or decentralized exchanges right so uh institutions is a group that everyone's focused on right now are they coming in and going to these uh decentralized exchanges they start out centralized and move to decentralized uh how do you see them maybe kind of working through the ecosystem yeah so i think it's natural and it makes sense for institutions to start with centralized exchanges right um generally if you're holding on to a lot of money you know you'd want to make sure there's someone responsible if that money is lost especially if you're using an exchange or if you're doing things like market making or liquidity providing

so that's really only possible you know there's only uh you know one throat to choke if you're working with a centralized entity right that can be um that can be dealt with in a legal manner So, you know, I do expect to see institutions adopt DeFi and to use decentralized exchanges over time. But it's definitely a real risk that they're taking with assets that might not be theirs. And so when you start thinking through this idea of a potentially interoperable future world, you think about institutions and retail starting to come in. What are the actual assets that end up being traded here? Is this a set of assets that looks and feels like cryptocurrencies today? Are they eventually securities as well?

How do you think about the various types of assets that could be traded and eventually will? Yeah, so I'm pretty bullish on crypto taking over the world. So I see just about every asset that can be traded being able to be traded via crypto. You know, they can be assets today, they can be securities. um there's a lot of work that needs to be done on the um regulation front and clarity on the regulation front that can help us make these you know these trades and these assets possible in crypto so i'm looking forward to to seeing what comes of you know let's say in the u.s for example the infrastructure bill that was just passed i think a few days ago right and how that

impacts crypto as a whole in the u.s um but you know i always think legislation is is coming to defy and there's no way to really avoid that so i think figuring out how to operate in a world where you know the government's looking to take their their share of the proceeds is fairly important got it what is uh what's the thing that you're spending the most time thinking about right now as you all launch Dex? Is there one thing that kind of sticks out above everything else? Yeah. So the thing I'm thinking about right now is how to prevent people from losing money. I think it's very common when we're all surrounded by people who hold lots of crypto and who are very friendly to managing lots of risk, that they're open to trying all sorts of

things. They dump in tens of thousands, a hundred thousand millions of dollars into new protocols, untested protocols that maybe have like an anime avatar who's running it. But for everyone else, this is very dangerous. And I think educating people on how all this stuff works, even if they know how to use it, maybe they don't know what it actually means. So making sure that if cross-chain transfers becomes a thing that more people use, we need to really explain where their tokens are really being held. If it's no longer Bitcoin on Bitcoin, that's a big problem if you don't know what can happen to it. For sure. And then when you start to think through this idea that you've got an interface and you've got the backend, is there a world where actually the end result

is the backend ultimately has 20, 30, 50, 100 different frontends and all of these different people are kind of leveraging off of it. And that's part of the beauty of this is that there's a level of innovation that comes from the open source nature. Oh, I really agree. I think that one app maybe more people are familiar with that has multiple UIs is Reddit, for example, or maybe Twitter. Twitter is maybe not such a good example because they like to shut down third-party UIs. But with Reddit anyway, there are lots of ways to use it, let's say on your phone, lots of different apps that use the better API and people use different versions of the app, depending on what they, what they value, you know, in reading, let's say news or something.

So in a very similar way, I think over time, you know, DEXs will have lots of different front ends and it might take a while. The biggest issue that I see right now, having built a front end ourselves over the course of the last few months is that it takes a lot of engineering effort to build a front end. And then it takes a lot of effort to keep it up to date, right? As blockchains upgrade themselves, or as new integrations come in, it's very expensive to keep up to date with all this work. So one concern I do have is that front ends might become a centralization risk. But yeah, that really requires just a lot more work on the documentation front. We need to be able to document the APIs, create sample front ends that are maybe toy applications to allow

people to build custom versions of that but yeah all of that will happen over time as we get more and more people into into dexes in general is there a secret chat group of everyone building dexes that is all everyone goes and talks about all the the uh lessons learned and the challenges they face and everything seems like everyone's kind of coming of age at the same time maybe there is that group but i'm not in it right now it just feels like there's a bunch of different people building these DEXs across all kinds, everything from Bitcoin to Ethereum, Binance Smart Chain, Cosmo,

I mean, just everywhere. And yeah, there's a lot of similarities, but there's also some key differences as they're building. Yeah, the key differences will become more important over time. But going back to my previous point about education, it just feels like, you know,

they all look the same, maybe on the front end, right? They all have this very similar swap interface that Uniswap really championed. But in the backend, that's where you need to, you know, understand better. Like, is this chain, let's say, entirely owned by, you know, a crypto exchange, right? And can people delist tokens whenever they want? That's another issue.

So, yeah, it would be great to have some sort of ratings agency to actually review all these front ends to see what they're doing. Is it possible to do this on top of Bitcoin? I believe so. I haven't looked into Bitcoin recently. Let's say that it was possible. Why do you think no one has done it with great success yet? Is there some advantage that others have that Bitcoin doesn't?

If you talk about decentralization and security, it would seem like Bitcoin is the most decentralized, the most secure, et cetera. Yeah. So I'm not very involved in the Bitcoin ecosystem. I think it's really up to agreement between the core developers and the miners. If they want to add a new feature to Bitcoin, like different types of colored Bitcoin, for example, then it would require a lot of coordination. And the advantage of being the most decentralized network is it's also very hard to get consensus

over adding new features. But if there were different types of tokens on Bitcoin, it would be very possible to build a UI for that and allow people to exchange those. Is there a world where, let's say, Uniswap is built on top of Ethereum, right? So you don't really need the buy-in of the Ethereum layer one to be able to get a Uniswap built. Is there the potential to do something similar on Bitcoin? I think there's one I've heard of called BISC network. But outside of that one, I'm not really sure of that many others.

Is that kind of the better path to pursue as more of like a layer two or a sidechain-based DEX, maybe like a Sovereign or a Stacks, something like that? I think it's more realistic and that's why people have been, you know, looking into these alternatives. So what we're building, right, with the DEX on the Cosmos hub is also a way to bridge to Bitcoin in the future, right? So the hub itself is secured by over $5 billion USD worth of assets. And as long as there exists a very good bridge from Bitcoin to Cosmos, even this DEX, even Emirates can be used for you to trade Bitcoin with every other asset that's bridged through Cosmos. Got it. And so let's zoom out 10 years from now.

What's the world look like? How do you think about that? Yeah, I think 10 years from now, what we've been building, the idea of a UI that lets you look at all your assets across multiple chains at once is going to be very competitive but also very mature at the same time um i would expect to see essential exchanges slowly phase out just because the technology is inferior to what dexes can provide i'm also really hoping we can solve um and provide better solutions for you know self-custody of private keys i think private keys you know mnemonic seed phrases that are they're very dangerous and uh allowing people

be able to hold them in a safer way, you know, to allow, to share them in a safer way, you know, something happens to them. I think those are questions that we still have to solve. Got it. That makes a ton of sense. Before I let you go, I ask everyone the same three questions. The first is, what is the most important book that you've ever read? The most important book I've ever read? I don't have a most important book, but I have one of the most inspirational books. I really like The Diamond Age by Neal Stephenson. It's about a world I think it was written I think 25 years ago or so now it's about a world where you know iPads existed but they weren't just iPads you know they they held all the knowledge about everything and

they you know taught you everything you need to know about anything that existed you know in the world and it was handed out to basically everyone in that world so it's a great way to learn about anything you need you know it's your teacher and at the same time it's entirely democratic right you don't need to pay for internet, you don't need to pay for the device. And yeah, I really like the idea of a world like that. When you think about sleep schedule, our friends over at Eight Sleep gave me a thermo-cooled bed. Ice cold. I sleep like a baby. What's your sleep schedule? And how's that changed over the years? It's been fairly stable. So I'm in Toronto now, which is a very great place to be when you're working with mainly like eu or you know u.s

people you know north america people and i used to work in malaysia for a while so every night i used to you know work from like 12 a.m to like 4 a.m or something it was awful for for me but now that i'm here my sleep schedule is pretty regular i've heard about eight sleep and uh i may try it at some point it's fantastic uh third question is more fun and you get to ask me one is aliens are you a believer or a non-believer i definitely believe in aliens i don't know when we'll ever get to you know interact with them but at some point i guess the world is just so big that's basically my thought process they're out there somewhere i don't know if we'll ever actually uh uh you know meet up with them but that's okay but being there is good enough for me uh what one question you

have for me to finish up um where do you see bitcoin in 10 years depends on how you think about it. More adoption than today, higher US dollar exchange price than today, more decentralized than today, and kind of more mainstream acceptance in terms of people aren't as scared of it, more educated on it and all that. Outside of that, what's the price? No clue. How many people adopted it? No clue. It just feels like you can take the directional bet or the more probabilistic bet like that that's much easier kind of cheating to answer that question than uh than trying to put uh numbers on things it's just such a powerful idea right and it really kick-started everything that we that we know in crypto today it feels like uh it's kind of just doing exactly what uh

um exactly what you would expect it to do right is like it's slowly gaining adoption but surely gaining adoption and uh we're heading the right direction awesome where can we send uh folks to find you on the internet or find out more about what you guys are building yeah so emirates like i mentioned before is our really first retail ready product that we've ever built um in fact there's even a way to to get tokens through our fiat on-ramp partner through emirates so i recommend people going just to emirates.com that's e-m-e-r-i-s and giving that a look i'm also very available on twitter you know if you have any questions about anything i just brought up. It's at ZCPENG. So when you think about sending folks that they can just DM you

on Twitter? They can DM me if they want. I'm happy to talk. I think we'll send a couple of people over there with some questions. Thank you so much for taking the time to do this. I really enjoyed the conversation and they'll have to do it again in the future. Thank you so much, Pomp. Have a great day.