Initial Coin Offerings, or ICOs, have undoubtedly been the most contentious topic in cryptocurrency over the past few years. At the height of the previous bull run in late 2017, seemingly almost anyone with a business concept could launch an initial coin offering (ICO) and raise hyperbolic amounts of money. Nevertheless, a few dishonest actors have caused many investors to lose trust in the traditional ICO process, especially because many ICO projects often crashed shortly after the sale. Recently several well-known initiatives, including the Algorand Foundation, are switching to a Dutch Auction for their token launch in order to increase transparency.
What is a Dutch Auction?
The phrase «Dutch auction» originates from Holland in the 17th century, when the strategy was applied to boost the effectiveness of the fiercely competitive Dutch tulip market. A Dutch auction, also known as a descending price auction, is a style of auction in which the auctioneer sets the starting offer extremely high before gradually lowering it until a bid is received. Without any more bidding wars, the initial bid wins the auction (as long as the price is higher than the reserve price). The price starts out low and gradually increases as more bidders compete to be the winning buyer in traditional auction marketplaces.
The financial markets use a variation of this strategy. Investors put bids in for a security offering, indicating the number and price of the securities they are willing to purchase in a Dutch auction. After considering all offers, the price of the offering is then set at the greatest price at which the entire offering may be sold. Usually the price with the most bidders is selected as the offering price in a Dutch auction, meaning that all the offered assets are sold for one price. This cost may not always be the most expensive. For example, a high-demand NFT collection might start a Dutch auction sale at 1 ETH and decrease it by 0.1 ETH every 10 minutes until buyers begin to place orders.
Benefits and Drawbacks of Dutch Auctions
Benefits
- Democratization: Dutch auctions permit a democratic process that enables equal participation from all participants, even small investors can get a chance in the offering.
- Transparency: The Dutch auction’s open bidding increases transparency while preventing price manipulation and wish trading.
Drawbacks
- Less control: Investors have less control over the price under Dutch auctions. This may result in volatility and cause the asset to be sold at an overpriced or underpriced level.
Dutch Auctions in Crypto: How do they work?
Dutch auctions are nothing new to the cryptocurrency industry, and their use case extends beyond NFT launches.
In 2017, the cryptocurrency company Gnosis announced plans to start a decentralized exchange for ERC-20 token issuances that would be built after Dutch auctions. Although this company later withdrew from dxDAO, the exchange platform is still in use today.
In June, 2019, a Dutch auction distributing 25 million ALGO raised $60 million for the Algorand Foundation. Over the course of 4,000 rounds of bidding, the price of the offering was lowered from $10 per token to $2.40.
In conclusion, the Dutch auction provides a new strategy of funding for the cryptocurrency world. As a crypto exchange that is always exploring new methods to improve our user experience, Phemex will also be closely watching what comes from this model in the future.