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Four Reasons to Freeze Tokens After ICO. How Token Lock-Up Works

80% of ICOs are scams created to collect money. In order to separate scams from safe startups, look for the tokens with a lock-up period. Read the article for more detail.

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Cryptoassetsrank.com Published on Jul 06, 2018
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80% of ICOs are scams created to collect money. In order to separate scams from safe startups, look for the tokens with a lock-up period. Read the article for more detail.

Lock-up period is a window of time, when developers and investors are not allowed to sell their tokens. During a lock-up period the tokens can only be used for access to the ICO blockchain technologies.

Why do ICO organizers freeze tokens?

Protection from speculators

This is the main goal of token freezing because it solves the most significant ICO problem — speculation. Speculators buy tokens during the initial coin offering with a significant discount and then sell them right after the crowdsale, which creates an oversupply of digital currency on the market and causes its price drop.

The law of supply and demand

When it happens, the project loses its attractivity in the eyes of potential investors. An investor thinks: “If the price of cryptocurrency dropped after the start of the sale, no one is interested in its blockchain technology”. To avoid it, ICOs decided to adopt the experience of IPOs that impose limitations on the sale of shares as soon as they are launched on the stock market.

The token lock-up protects crypto startups from speculations by short-term investors:

  • if the project fails, the exchange rates will be lower than the discounted price long before the end of the lock-up period;
  • if the project is a success, the exchange rates after the end of the lock-up period will be growing and it will be unreasonable to sell the tokens.

Due to the lock-up, only those people are interested in investing in an ICO, who believe in a long-term success of a startup.

Motivation for the team

Token lock-up also helps to motivate the ICO team for success: if they are able to get the tokens reserved for them only in half a year or a year, then within that period of time they will be doing everything they can to make the currency price grow. Otherwise, the developers will waste their time and not get any profit from participation in the project.

QuarkChain ICO Token Distribution

Segment Supply distribution
Lock-up period
ICO sale
20%
private sale — 2 years,
public sale — no lock-up
Mining, community, marketing
45%
No
Team
15%
2 years
Foundation
15%
2 years
Advisors
5%
2 years

The participants of bounty campaigns and airdrops, ICO advisors and partners will also try to make the startup successful to its utmost, if they are paid with tokens that are locked up.

Sifting out the scammers

If the ICO organizers set a lock-up period for the tokens reserved for the developers, advisors and founders of their own accord, you can be almost sure that they are not planning to collect the money and abscond with it. For investors it means that such an ICO is a less risky investment.

According to the research by Satis Group, 81% of ICOs are scams.

Uniform distribution of currency

After the end of the initial coin offering the developers and the early investors get the major part of the total token supply. If most of these coins get into the circulating supply after the end of ICO, it will destroy the cryptocurrency economy because there will be an excessive surplus of this cryptocurrency on the market.

When it happens, the supply exceeds the demand and the token price will start decreasing gradually — it is the law of supply and demand. This makes mining of new coins unprofitable and decreases the ability of the ICO organizers to finance the project in the long run.

The token lock-up solves this problem because the token offering last over long periods of time, which reduces the pressure on the market and contributes to token price stabilization.

How is the lock-up implemented?

Smart contracts with a lock-up. If the limitations are imposed on investors, airdrop and bounty participants, the ICO organizers create a special smart contract that blocks the sale of tokens at a cryptocurrency exchange or their exchange for other cryptocurrencies. They can be used only for access to the project features and tools.

Wallets with a lock-up. If the limitations are imposed on the tokens reserved for the developers team, a wallet with a built-in lock-up option is used.

The limitation can be common: it is removed after a specified period. Or the limitation can be complex: the token freezing is removed gradually. In the latter case, at first the developers get access to the first part of money, then some time later they get the second part of money, and so on. It is up to the ICO organizers to decide into how many parts the total amount of tokens should be divided and when each of the parts will be unlocked.

Token lock-up periods

Extra short — 3-7 days. In most cases such a limitation is set only for the sake of promotion because a lock-up of trade operations for such a short period of time will not help to stabilize the price in case of cryptocurrency sale after the crowdsale. On the other hand, a 3-day leeway allows the developers to sell their tokens before the investors. You shouldn’t invest in the projects with an extra short lock-up period because it is risky.

Short — from 3 months to 1 year. Such a limitation is used when the developers are able to quickly bring the product to the market, which should be stated in the roadmap. If it is not specified in the roadmap, the developers are either lying about the deadlines or are not planning to do anything at all.

Long — over 1 year. It is used when the organizers want to attract long-term investments and to minimize the problems connected with speculators. Such projects are considered the most reliable because their developers will receive profit only if a startup is a success.

Discreet — a lock-up period depends on the size of a discount: the higher a discount, the longer is a lock-up period. The ratio is usually as follows:

Influence of a discount on the length of a lock-up period

The only disadvantage of token lock-up

Most of the ICOs are financed in ETH, WAVE, BTC. If the price of these cryptocurrencies drops during the lock-up period, the project might not get enough funding.

Ethereum price dynamics

The difference between a hard cap of 1,000 ETH when the Ethereum price is 1,300 USD and a hard cap of 1,000 ETH when the Ethereum price is 500 USD can kill even a very promising project because the developers will simply have not enough money to implement what they have planned.

What should an investor remember?

Token lock-up is a great way to separate promising ICOs from scams but only if the limitations are imposed on all the parties involved. If the limitation is set only for the developers team, problems can arise because of the speculators. If token lock-up is imposed only on investors, it is a reason to think about the honesty of the ICO organizers.

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