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Lock-up and Vesting Schedules

Finally, one more aspect of a token’s tokenomics is the available/circulating supply. When evaluating the performance of decentralized finance (DeFi) tokens and forecasting future performance, it is crucial to consider the distribution of tokens held by treasuries, developers, and early investors. Many tokens have a lock-up period where certain individuals are granted early or discounted access to purchase the token, with the condition that these tokens must be held for a specific minimum period. The number of tokens held in lock-up can have a significant impact on the markets, particularly if token holders seek to liquidate their holdings.

Example headline in the past over concerns from a Solana unlock. Source

A recent example of simply delaying an eventual unlock resulted in a ~20% increase in token price. Source

Cryptocurrency projects often employ smart contract technology to facilitate token vesting. This process utilizes smart contracts to automate the transfer of assets once specific predefined conditions have been met, similar to how a vending machine releases a product once the appropriate amount of payment has been received.

Token vesting serves to establish a clear timeline for token issuance and accessibility. Tokens that are vested are locked within a smart contract, thereby eliminating the ability to sell the token during a designated lock-up period. The use of smart contracts in token vesting provides a high degree of rigidity and, as long as the code has no bugs/backdoors, investors can rest easy knowing those assets cannot be accessed.  Once the contract is deployed, the lock-up conditions cannot be changed by the deployer or any other external party, and must be fulfilled before the tokens can be released from the contract.

There are different approaches to token vesting, all with their own pros and cons depending on the project and which side you're on (the team vs. retail investor). One of the most straightforward options is immediate vesting, where employees/investors receive 100% of their shares right away. This is typically used for long-term employees who are not expected to leave the company in the near future.

Another popular vesting schedule is linear vesting, where employees gradually earn ownership of a percentage of their shares over a set period of time. For example, in a five-year linear vesting schedule, a team member would earn 20% of their shares after the first year, 40% after the second year, 60% after the third year, 80% after the fourth, and 100% after the fifth year. If the employee leaves the company before the vesting period is over, they will only retain the percentage of shares they have earned up until that point.

A reverse vesting plan also exists, where an employee is given all shares upfront but the company has the right to buy back any unvested shares if the employee leaves early. This plan is less common but can be useful for companies that want to retain key employees.

Finally, there is cliff vesting, where shares cannot be awarded before a certain date. For example, a common vesting schedule might include a one-year cliff followed by four years of linear vesting. This plan is popular among startups as it helps retain employees as the company grows.

One metric that can be used to estimate the percentage of supply that is not actively traded is the 1-year active supply percentage. Below are examples of certain DeFi tokens and their one-year active supply changes. As the chart illustrates, the “float” (discussed below) can vary wildly in just as little as one year. Balancer’s supply (dark blue) went from ~63% at the start of 2022 to ~87% by year's end!

Source

Another measure borrowed from traditional financial markets, which can help to estimate the potential future risk of a large asset holder liquidating their tokens and causing significant volatility and price swings, is the float ratio. This ratio refers to the share of assets that are available for trade on the market. In the context of DeFi tokens, the float ratio can be used to protect investments from volatility by identifying tokens with a low float ratio.

Source​​​​​