When cryptocurrency first came out, most people had little to no idea about what it actually was and/or what it could do. Now, Bitcoin and cryptocurrencies have been in the news for years, and it seems like even the least technical investors casually mention that they invest in “crypto” without thinking twice about it. But just when the world was finally able to understand terms like tokenization and distributed ledgers, there is a new application of cryptocurrency technology that is as important as it is confusing.
By now, you have likely heard the term DAO, but you may not understand exactly what it means. DAO (pronounced as “dow” as in the Dow Jones Industrial Average) stands for decentralized autonomous organization. It describes an organization that is run by a community with no centralized leadership and is based on blockchain technology. Instead of relying on a leadership team, these organizations operate according to rules dictated by smart contracts– think of these as automated “if this, then that” rules that execute code or transactions when conditions are met. No single person or entity controls a DAO; instead, it is controlled by the vote of the people who are part of it, with voting power and ownership represented by tokens.
There are many applications for DAOs, some of which probably have not even been invented yet. But currently, one of the main ways that it is being used is to allow for the group ownership of an asset. The first DAOs were focused on the digital world. In 2016, the founder of Ethereum, Vitalik Buterin, started a DAO for crowdfunding startups. But now, people are focusing DAOs on physical assets like real estate.
In November of 2021, a group of around 6,000 individuals bought 40 acres of land in Wyoming. Rather than doing so through a fund or corporation, they did so through a DAO. They chose Wyoming because it was the first state in the nation to grant legal company status to DAOs. This structure allowed every person in the organization to vote on the future strategic decisions of the investment without the need to pay an administrator.
Since then, real estate DAOs have started to become more sophisticated. Recently a company called GoKey launched a DAO controlled cryptocurrency that adjusts its price based on relevant real estate price indexes. This helps alleviate the ongoing problem that real estate tokens have with pricing. When investments are made up of a small group of investors and are not on an open exchange, they are susceptible to large price fluctuations with every transaction. If one person decides to sell at a low price it can effectively tank the market price of a token. By tracking a price index, tokens can adjust their price (and, therefore, the price of the asset that they represent) even when no transactions are taking place. It can help to moderate the fluctuations during liquidity events since the last transaction would not be the only factor affecting the market price calculation.
The dream that the inventors of DAO technology were pursuing was a fully decentralized organization. While this utopian idea sounds great, it can also be risky. The founder of Ethereum found that out shortly after he started the first DAO. Just three months after the revolutionary DAO project started, a group of hackers was able to find their way into the digital wallet where funds were being stored and steal $60 million worth of tokens. Smart contracts, when poorly written, can be exploited, as in the Ethereum hack. This emphasizes the need for thorough auditing of any DAO code. This incident was the reason behind a “fork” in the Ethereum coin that was made to help pay back stolen funds to investors.
The power of a DAO can certainly be harnessed to build a truly decentralized organization, but that isn’t the only way it can be used. The functionality of smart contracts and democratic voting of a DAO can also be used by investors on their own backend. Even with trustless technology, selecting trustworthy members and managers (if needed) is crucial to avoiding internal problems within a DAO. Most investors might understand crypto, or even own some digital currency, but that doesn’t mean they are necessarily ready for a DAO.
While democratic in principle, DAOs can be prone to slow decision-making or sometimes fall under the disproportionate influence of a few large token holders. Maybe these technologies will first be harnessed by savvy investment managers to help make their jobs easier and give added transparency and liquidity to their LPs. DAOs are part of the future of real estate investment, but maybe first, they need to be controlled by a management team before they can be given free rein over people’s hard-earned money.