Chainlink: A Fundamental Analysis

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“It takes remarkable patience to hold on to a stock in a company that excites you, but which everybody else seems to ignore. You begin to think everybody else is right and you are wrong. But where the fundamentals are promising, patience is often rewarded — Lukens stock went up sixfold in the fifteenth year, American Greetings was a sixbagger in six years, Angelica a sevenbagger in four, Brunswick a sixbagger in five, and SmithKline a threebagger in two.”
-Peter Lynch

In my previous article “How Smart Contracts Will Revolutionize the World,” I talked briefly about how Chainlink is solving the “Oracle Problem”, which is the fundamental barrier between smart contracts and widespread adoption. In this article, I will delve deeper into Chainlink from a fundamental analysis point of view.

Before we start, here’s a quick rundown in case you don’t know the terms:

  • Blockchains are essentially very secure, distributed, and decentralized databases.
  • Smart contracts are lines of codes that automatically execute a function when given an input — just like a vending machine.
  • Chainlink is a form of digital infrastructure that secures data transmission.

What are smart contracts and how are they different from traditional contracts?

A smart contract is a self-executing digital contract with the terms of the agreement written in code. The code and the agreements contained therein exist across a distributed, decentralized infrastructure: a blockchain. Smart contracts execute on their own instead of being executed by a third party.

The main difference between smart contracts and traditional contracts are that smart contracts are deterministic in that they will execute based on the fulfillment of pre-established conditions, while traditional contracts are probabilistic in that there is a probability that they will not execute. Furthermore, smart contracts not only define the rules and penalties around an agreement in the same way that a traditional contract does, but also automatically enforces those obligations. Clearly, smart contracts are the superior form of contract.

What is the value of smart contracts?

Smart contracts are reliable, automated, and efficient. They are reliable in that they are guaranteed to execute based on the pre-established conditions being fulfilled. An example of this could be a contract where there is a bet on whether it will rain the next day, and the contract would be executed once it received the weather data.

This leads to the next point of automation; this entire process occurs without any middle men. Throughout this entire process, the contract gets executed as written without human intervention which also makes it much more efficient. These contracts are also run on many nodes on decentralized infrastructure in order to guarantee that the contract is executed as written. This means that the creators of the contract do not have to worry about proper enforcement or whether the contract will be executed or not. Because of this, smart contracts can reduce a lot of headaches for firms who have multiple departments carrying the same contract in different physical places which can lead to human error such as misplacement or loss of the contract; one digital smart contract which can be viewed by authorized users makes it a lot easier for firms both from a mental and economic standpoint.

What is Chainlink trying to solve?

Now that we have the basics covered, we can dive into exactly what Chainlink is attempting to solve. First, let’s ask a few questions. How do we get tamper proof, secure data feeds into blockchains in order to expand the variety of use cases? How do we get information, external data, about markets, shares, web API feeds, bank payments, back-end systems, retail payments, real life event data or data about other systems into a blockchain?

Blockchains do not have an internet connection, which means that they cannot access any external data by themselves. This is where oracles come into play. Oracles are basically nodes that feed external data to and from blockchains. At the moment, these oracles are centralized which means that there is a single point of failure. As we learned earlier, smart contracts execute on decentralized infrastructure, but now we find out that these highly secure and reliable contracts are being triggered by a highly unreliable and centralized oracle. Large companies will not use centralized oracles to trigger their contracts running on decentralized infrastructure, because why would they want a highly secure and reliable mechanism, to be triggered by a highly unreliable mechanism? End-to-end reliability is absolutely crucial for high value transactions in low trust environments. This is extremely important to understand, because then you can see the fundamental value of Chainlink compared to its market value.

Another important thing to understand about Chainlink is that it is not a data provider, it is simply a decentralized network of centralized oracle node operators. Just like Bitcoin’s network is decentralized by having a lot of centralized nodes, so is the same with the Chainlink network. You cannot decentralize something that is centralized, but you can add enough centralized sources so that it becomes a decentralized network.

‘Oracles’ and ‘Data providers’ are not one and the same. Confusingly, sometimes that is the case: a company that provides a data stream will themselves act as the oracle delivering that data to a user directly.

The difference with Chainlink is that its network of decentralized nodes will tap in to a variety of these data APIs, and then themselves form part of a wider decentralized network of other Chainlink nodes all doing the same thing, but incorporating their own range of data APIs from a variety of providers. There’s multiple layers of splitting involved, which are best displayed visually rather than by text.

That’s the greatest misunderstanding that people have when discussing this topic — the idea that oracles offered by the data sources themselves (fx Cisco or Samsung) will COMPETE with the Chainlink network. It is far more likely that while they may offer their services directly to a user (representing a single point of failure), they would also happily offer their services (in return for a fee) to a Chainlink node who then relays that data to the smart contract alongside as many others as that contract deems necessary for their own level of security and trustlessness. Google is a recent example of an enterprise using Chainlink to monetize its new datasets that give insights into different blockchains. Bear in mind that other nodes selected by a smart contract may provide the same kind of data but from a different provider, again reducing any trust in a single party. That’s the decentralisation layer. That’s the whole point of Chainlink.

Now imagine in the future that the largest financial institutions in the world will be settling multi-billion dollar derivatives smart contracts, and using over 100 oracles to provide their payment triggers in order to ensure accurate data, and requiring a $100,000 collateral stake to absolutely guarantee accurate data provision, and all the node operators crawling over each other to own more and more LINK so that they can secure the lucrative, high value contracts.

This won’t just be happening with global derivative contracts through SWIFT, but also all across the legal industry through OpenLaw and the Accord Project, all over the EVM through ZeppelinOS, and all through enterprise onboarding through Kaleido, Google, Intel, and Oracle etc.

Chainlink has a multi-year head start and absolute entrenchment as the industry standard oracle provider across an entire range of industries. It also has the capacity for complex off-chain computation in secure Trusted Execution Environments (TEEs) through Town Crier and private, regulatory compliant on-chain smart contracts that don’t rely on TEEs with Mixicles both pioneered by Ari Juels, one of the leading minds of smart contracts, contributing on an ongoing basis to its development.

LINK tokens, as mechanisms for articulating and moving value within this ecosystem, are the mandated form of value representation and exchange that must be posted as collateral, that must be staked in nodes to secure high value contracts, and that must be issued as payment to node operators for performing this work.

Now consider that the market currently values this emergent ecosystem at less than $1 billion and think about what kind of upside potential that might have.

For more on Chainlink and how the staking mechanism works, stay tuned for my next article.

Feel free to tip me: 0xeB12f3AA80d880e095870BA96dA20B5A73CB8AF4

None of what was stated in this article should be construed as financial advice. I am not your financial advisor.


Chainlink: A Fundamental Analysis was originally published in Coinmonks on Medium, where people are continuing the conversation by highlighting and responding to this story.